Astoria Financial Corp. Q2 2010 Earnings Conference Call

Jul.22.10 | About: Astoria Financial (AF)

Astoria Financial Corp. (NYSE:AF)

Q2 2010 Earnings Conference Call

July 22, 2010 10:00 am ET

Executives

George L. Engelke, Jr. - Chairman & CEO

Frank Fusco - EVP, Treasurer & CFO

Analysts

Mathew Clark - Keefe, Bruyette & Woods, Inc.

Mark Fitzgibbon - Sandler O’Neill & Partners, L.P.

Bob Ramsey - Friedman, Billings, Ramsey & Co.

Bernard Horn - Polaris Capital Management

Tom Alonso - Macquarie Capital Inc.

Matt Kelley - Sterne Agee & Leach, Inc.

Collyn Gilbert - Stifel Nicolaus

Rick Weiss - Janney Montgomery Scott LLC

Amanda Larsen - Raymond James & Associates, Inc.

Bruce Harting - Barclays Capital

Christopher Nolan - Maxim Group LLC

Bernard Horn - Polaris Capital

Operator

Good day and welcome to Astoria Financial Corporation’s Second Quarter 2010 Earnings Conference Call. At this time, all participants have been placed in a listen-only mode and the floor will be opened for your questions following the presentation. (Operator Instructions). Today’s call is being recorded.

Today’s conference call includes several forward-looking statements, which are intended to be covered under the Safe Harbor provision for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are within the meaning of Section 27-A of the Securities Act of 1933 as amended, and Section 21-E of the Securities Exchange Act of 1934 as amended.

A discussion of the risk factors associated with the use of forward-looking statements is outlined on pages five and six of our second quarter 2010 earnings release, which is available on our website or may be obtained from the company upon request.

It is now my pleasure to turn the conference over to Mr. George L. Engelke, Jr. Chairman and Chief Executive Officer of Astoria. Sir, you may begin.

George L. Engelke, Jr.

Thank you very much and good morning and welcome to a review of Astoria Financial Corporation’s 2010 second quarter results. Joining me this morning are Monte Redman, President and Chief Operating Officer; Frank Fusco, CFO and Peter Cunningham, our Investor Relations Officer. Following my brief remarks we will entertain any questions you may have.

Last evening, we reported operating income of $17.6 million or $0.19 per share, which excludes three non-core items totaling $2.1 million after tax or $0.02 per share. These items are detailed in yesterday’s press release on page 13. For the second quarter we recorded a $35 million provision through loan losses, $10 million lower than the previous quarter and $15 million lower than last year’s second quarter. The lower provision recognizes the stabilization in our asset quality and the improvement in the economy in general. We remain cautiously optimistic that these trends will continue. We also reported a net interest margin of 2.37% for the second quarter, 2 basis points lower than the linked quarter, which was due to the effect of one extra day of interest expense and the extension of borrowings.

During the second quarter, $325 million of borrowings were extended with an average maturity of 3.3 years and a weighted average rate of 1.93%, which resulted in excess liquidity at quarter end. With respect to credit quality, non-performing loans decreased $4 million from the previous quarter to $415 million. While non-performing loan levels may remain elevated for some time as we work through the foreclosure process, it is important to note that the loss potential remaining has been greatly reduced.

We have already marked down and charged off as necessary over 70% of current residential non-performing loans to their adjusted fair value less selling costs. During the second quarter the balance sheet contracted $391 million as loan prepayments remained elevated and we continue to limit multifamily loan production. With respect to deposits, total deposits decreased $436 million primarily in CD accounts as we continued to let the high costs of CDs run off.

Low cost passbook, money market and checking accounts on the other hand increased a $112 million for the quarter or 11% annualized and $385 million over the last 12 months or 10%. With respect to the outlook for 2010, with the national economic recovery underway and despite what the track of the pace appears to be moderating and the housing market remains soft, the long-term outlook for our credit quality is improving.

This should translate in lower credit cost and further improvement in our financial performance. With that as an overview, I would like to open the phone lines for your questions. [Paula] you can begin.

Question-and-Answer Session

Operator

The floor is now open for questions. (Operator Instructions) Your first question comes from Mathew Clark of KBW.

Mathew Clark - Keefe, Bruyette & Woods, Inc.

Can you just first touch on the limited reserve bill; I know in the past you guys have talked about the early stage bucket is being part of the reason why you might go to bring down credit costs and fees. So bottomed down despite those delinquencies being up this quarter, just curious about your thought process on the reserve here?

George L. Engelke, Jr.

Sure Matt. With respect to the increase in 30 day delinquents, $33 million represents two groups of multifamily loans, $25 million and $8 million that have the operational issues in June. Replacement checks for the June payment were received on July 1. These groups of loans have never been 30 days delinquent before and the relationship goes back in some cases to 2005. That’s why we felt comfortable with the overall allowance. As a footnote, current multifamily commercial real estate delinquents through July 20 compared to similar dates in private months are at a very low level.

Mathew Clark - Keefe, Bruyette & Woods, Inc.

Okay. Great. And then on the recent amendment, the Collins Amendment, can you update us with your thoughts with us on capital and knowing that when you become a bank holding company you’re not going to get credit for those troughs, so I was curious as to again how you think about capital here.

George L. Engelke, Jr.

Sure. At the bank level core intangible capital is at 7.15% and tier 1 risk based capital is at over 12%. The holding company tier 1 leverage ratio is about 12% and the risk-based is over 9% and the tangible equity ratio is 5.35%. So we are capitalized at the bank and the holding company. And going forward as we anticipate earning more than our dividend and the fact that total assets will probably shrink slightly throughout the remainder of the year, this ratio should only grow. But we are aware that our trust preferred securities of $125 million will be phased out of tier 1 capital sometime between three and six years and the regulators in the process are revisiting whole capital ratios that is one of the reasons we issued our self registration in May.

Although we currently have no plans to enter the capital markets but if opportunities present themselves, or there are significant regulatory changes we want the flexibility to properly react. Again, we are currently well capitalized at both the bank and the holding company and anticipate these ratios increasing through normal operations throughout the remainder of the year.

Mathew Clark - Keefe, Bruyette & Woods, Inc.

Okay and then just lastly in terms of repricing on the non-liquid CDs how much of that, can you update us on how much you have in the second half. I think it was $2.5 billion as of last quarter. I’m just curious what the old rate and new rate is on that and then the hybrid ARMs as well.

George L. Engelke, Jr.

Sure, while in the second quarter, we repriced about $929 million of CDs at a rate of now liquid CDs at a rate of 1.05%. In fact, in June that rate was slightly under 1%. In the second half of this year, we have about $900 million in the third quarter at about 2% and about a little more than $1.9 billion in the fourth quarter at just under 2%. At just on the 2% the fourth quarter, that’s on the CDs and as I said, in June the average rate was actually 0.98% or 1% in terms of our rollover rate. In terms of the ARMs repricing, in the third quarter we have $1.1 billion at about [48] and in the fourth quarter we have about $900 million at about 46.

Operator

The next question comes from Mark Fitzgibbon of Sandler O’Neill.

Mark Fitzgibbon - Sandler O’Neill & Partners, L.P.

First, just sort of follow-up on the last question there. If you boil it down you assume that interest rates holding their current range, how should we be thinking about the margins for the back half of the year?

George L. Engelke, Jr.

Well, I think that with the interest rates where they are and I think everybody has anticipated that they are not going to increase the rest of the year, we are looking at significant repricing benefit on our liabilities, but we’re also anticipating that the ARMs that the mortgages that are coming due for repricing are going to stay as one year ARMs and they have a negative impact on margin. Also as we said in the press release, we are looking at extending liabilities. We extended over $300 million for over three years in the second quarter.

So, I think our goal is to keep the margin in the 230 range that would be one of the highest it’s been in the last 10 years. Importantly, by extending not only the CDs and borrowings we have reduced our one-year interest rate GAAP to under 4% negative and actually our two-year GAAP because we’re taking a look at rates being low for some time, our two-year GAAP is actually now at a positive raise. So, we are sacrificing a little margin to protect the future.

Mark Fitzgibbon - Sandler O’Neill & Partners, L.P.

And then on reserves, do you feel like given where we are in the cycle that the reserve building has done at this point?

George L. Engelke, Jr.

Well, I wouldn’t categorize reserve building. I think it’s appropriate reserving as we go forward, but I do think the fact that a significant portion of our portfolio has been originated in the last two and a half years at LTVs below 60%, and the fact that the non-performers that we have in our currently over 70% of the residential non-performance have already been reviewed and charged off as necessary. We look very positive for our portfolio in our credit quality going forward.

Operator

The next question comes from Bob Ramsey of FBR Capital Markets.

Bob Ramsey - Friedman, Billings, Ramsey & Co.

How much of the ARM portfolio is currently in the one-year ARM product versus 501s or other ARM products?

George L. Engelke, Jr.

I would say it’s a little under $2 billion that are currently in the one-year which is somewhere in that 3.25 quarter to 3.5 rate range. Sorry do you have another question that I missed?

Bob Ramsey - Friedman, Billings, Ramsey & Co.

Yes, with the rest of it how much is in 501s or 701s or other ARMs?

George L. Engelke, Jr.

The reality is whether it’s a 501 or 701, as soon as it gets to the end of that five or seven year period it then becomes a one-year ARM.

Bob Ramsey - Friedman, Billings, Ramsey & Co.

Right.

George L. Engelke, Jr.

So it is a one-year ARM forever until or unless the customer wants to refine it to a new product.

Bob Ramsey - Friedman, Billings, Ramsey & Co.

Okay. I guess you said, there is a total of about $2 billion that repriced in the back-half of the year. What is the outlook for repricing of ARMs next year?

George L. Engelke, Jr.

We did 12 months in the first-half of next year, we had about another $1.6 billion approximately.

Bob Ramsey - Friedman, Billings, Ramsey & Co.

And then I guess last question remind me, don’t you have a seasonal tax benefit on third quarter, I can’t remember. How to think about the tax rate next quarter?

George L. Engelke, Jr.

There are times that certain tax fee has closed out typically in the third quarter but is not necessarily a seasonal tax benefit every third quarter.

Bob Ramsey - Friedman, Billings, Ramsey & Co.

So next quarter we should think about tax the same way we did this quarter.

George L. Engelke, Jr.

Yes. (Inaudible) Don’t think about last year, think about it, it is similar to the second quarter.

Operator

The next question comes from Bernard Horn of Polaris Capital.

Bernard Horn - Polaris Capital Management

You answered my first two questions on the [Alco] roll forward and the capital raise, but I’m wondering if you could also just comment on your last given to false as you have been working out through the foreclosure process, it’s the first question. Second one is on tax rate again. The FDIC prepay last year, I’m assuming that was all deductible in ‘09 so does that mean even though your expense, should we be taking out the FDIC expense from the taxable income going forward?

George L. Engelke, Jr.

Are you talking about the prepay unit?

Bernard Horn - Polaris Capital Management

Yes, I’m assuming that when you prepaid the FDIC insurance premiums…

George L. Engelke, Jr.

The prepayment on the FDIC premium is deductible as expensed.

Bernard Horn - Polaris Capital Management

And it was therefore deductible against last year’s taxable income?

George L. Engelke, Jr.

No, deductible as expensed not cash. So, when you take a look at our G&A expense which includes current FDIC insurance premium expense that is included in the current quarter’s tax calculation.

Bernard Horn - Polaris Capital Management

So you wouldn’t have had, have been able to deduct that when you pay that in cash?

George L. Engelke, Jr.

No.

Bernard Horn - Polaris Capital Management

Okay. All right, so then maybe you could just comment on the last given to false as you are working through, I know you have made a strong point and saying that your reserves are in effect higher quality simply because you have already written down everything at a 180 days, but I’m just wondering if you could just talk about the experience it sounds like there are quite a lot more foreclosure sales and there are new housing sales these days and I am just wondering how much pressure on the market is being placed by lot of banks selling out foreclosure. (Inaudible).

Frank Fusco

Well I think if you take a look at our press release we’ve talked about the fact that when we did evaluations on the loans that were greater than 180-days delinquent we had $73.2 million of loans that needed charge to open the actual charge as 14.7 which is about 20%, that’s lower than prior quarters. That’s also dealing with the fact that there are better quality loans that are unfortunately somebody is losing the job and going to the process.

Overall, I think we are still below 30% in terms of charge-offs and nationally we are still around 40% in pricing from the high, but that includes Florida and California whereas New York is somewhere in the 20, so nationally it’s around 40%, our lost severity is less than 30% and currently the charge offs for this current quarter were actually around 20%.

Bernard Horn - Polaris Capital Management

Okay and are you seeing any uptick, I know there has been a lot of chatter about the fact that you have lot of high quality borrowers that are underwater and they are just making the trade by giving people back the another keys to their properties if they have, happened to be value less than mortgage. Did you have any sense in the New York, New Jersey market? Looks like your New Jersey numbers look a little bit worse than elsewhere. I am just wondering if there is any trend there.

George L. Engelke, Jr.

We are not seeing anything material in that regard. The borrowers we have qualified with a lot of equity in their homes. So although there maybe decrease in value especially the New York metropolitan area. The average LTVs in New York and Connecticut were in the low 50s overall. So we don’t see them being part of that. In New Jersey the average LTV is at 65%, but I think our increase in Jersey has to do with the fact that a higher percentage of our Jersey loans were all day loans as compared to other states. So, I think it’s more of that and actually somebody intentionally walking away. If you take a look at the last page in our press release you can see that about 20% of the Jersey loans were actually all [payee] as compared to New York State which was say 10%. And that was more of a reason.

Bernard Horn - Polaris Capital Management

And then last question is just if you could, I know in your calculation for the loan loss provisions I’m sure you are looking at all the factors that go into the multi-families and the commercial rents. But if you could just give us a little bit more color on the fact that so many of the rents are resetting down, and if you roll forward everybody’s leases at lower rates, obviously that’s the big story that everybody is worried about, can you just give us a little bit more color on that.

George L. Engelke, Jr.

Sure and again, its two separate issues, if you are on the multifamily the vast majority of our rents, our rent control, the rent stabilized. So they are not going down. On the commercial real estate we’re really not in Manhattan. Over 50%, about 65% of our commercial real estate is in the [Burrows] and they are four or five stories and sometimes there’s a couple of apartments above. And so they are not the strip malls or big areas where an [acre] tenant lives and the commercial real estate goes down or properties go down. So, these are places in Brooklyn and Queens where there’s three, four, five stores. Somebody moves out, somebody moves in. We’re not seeing a significant problem in that specially in the metropolitan area.

Operator

The next question comes from Tom Alonso of Macquarie.

Tom Alonso - Macquarie Capital Inc.

Just on the loan side, just curious if you guys are doing anything, if you have any programs out there to try to keep people so that they don’t potentially fly away from you or to maybe roll them into a fixed rate product with you guys as a way to keep the loan on the books and any kind of success or sort of what kind of success rate you might be having with that?

George L. Engelke, Jr.

Yes, we’ve had progress for years. We started program, letting our customers know sometime nine months before that loan is repricing was at still 5/1 or 7/1 letting them know what their options are that they can stay around into a one year ARM and letting them know where the actual rates would be or whether re-fi into other products, 5/1 or 7/1 or even since it’s a re-fi product or 15-year fixed. When the loan becomes a one year ARM and are seeing about 75% of those people now repricing into one year ARM, that’s why the number is so high because rates are so low. We are still contacting them. Every three months or so, letting them know that when they are ready to move into a new loan, when they think the time is right we have the products here for them. So we have that program. We started it several years ago and it’s very successful. A good portion of our production is making new loans from one year ARMs going back into 5/1s or loans that started several years ago going into new product.

Tom Alonso - Macquarie Capital Inc.

Okay, fair enough. And then just real quickly on the debt expansion that you mentioned as putting some pressure on the margin. Is that what’s behind the higher cash balances and the period balance sheet that that money just didn’t get reinvested.

George L. Engelke, Jr.

Yes, we have about $600 million of borrowings in the third quarter, most of which comes due in September and we felt that it was prudent to take advantage of the low rates now and lock in those longer term protection.

Tom Alonso - Macquarie Capital Inc.

And so is it fair to assume that some of that should come out of cash and be reinvested potentially into securities or something else in the third quarter?

George L. Engelke, Jr.

I think that effectively we are pre-funding the borrowing, so as those borrowings come due we already have the cash, we can use the cash to pay off some of those borrowings.

Tom Alonso - Macquarie Capital Inc.

And then just lastly I just want to make sure I understood your comment before on the $33 million in multi family loans that were 30 plus, those loans are no longer 30 plus as of today.

George L. Engelke, Jr.

As of July 1, they are no longer 30 plus.

Operator

Your next question comes from Matt Kelley, Sterne Agee.

Matt Kelley - Sterne Agee & Leach, Inc.

Good morning, just to clarify something, you guys have $12 billion in total loans, I think it was $900 million of fixed, you said that there was $2 billion and it had already become a one year ARM, can you just give us the breakdown on the remaining $9 billion between the 5/1 and 7/1?

George L. Engelke, Jr.

I would say the majority of 5/1s not 7/1s but I do not have that information with us. We primarily have been a 5/1 lender and quite frankly in the current market we are probably getting applications two-thirds 5/1, one-third 15-year fix which is a re-fi product. Over 80% of our applications are re-fis.

Unidentified Company Representative

I will get back to you with that number.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay. When it does reset, is there a limit on how far it can go down or can it go, in the current quarter, it was going to 4.72%, or the average rate that was coming from was 4.72%, can that go all the way to 2.78% or is there a limit to downside on the reset?

George L. Engelke, Jr.

Well, there is a limit of about 2% a year, that’s first one, and the second one is the margin. So if one year treasuries go down to zero that rate could go down as far as 2.5% but no more than 2% a year.

Matt Kelley - Sterne Agee & Leach, Inc.

Up and down.

George L. Engelke, Jr.

Yeah.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay, alright. And then the average rate…

George L. Engelke, Jr.

Matt, let me just add that while our loans turn to one year ARMs, we did extend some borrowings but we also keeping some of our CDs short because it helps us, we can better match and as those loans go from one year ARM back to new 5/1, at that point we will be to extend. So although it may hurt the margin a little bit, it does help us protect the future.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay. What do you think about just the delta on the asset yield is close to 190 basis points versus the delta on CDs repricing is only about 100 basis points, I mean, at what point did that start to overwhelm and the margins deteriorates further.

George L. Engelke, Jr.

Well, I think it has some impact as we go through the rest of the year. But I think overall what we are going to see is that a lot of the ARMs have already done that and in some of them we are seeing a significant portion going back into 5/1 as well, as to taking a look at locking in, we have a current 5/1 at 4%. So we see that those people locking coming back up to about 4% from 3.5%

Matt Kelley - Sterne Agee & Leach, Inc.

Can you quantify how much you think has come back in the current quarter?

George L. Engelke, Jr.

Well looking at the other side is we also have about $1 billion of borrowings in the second half of the year. $600 million in the third quarter, $350 in the fourth quarter at rates of about 3.50%.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay, but you are willing to let the deposit books get pretty short. You will let, of the $3 billion of reprices in the back half of the year, you are willing to let that go to a one year average maturity?

George L. Engelke, Jr.

Well, actually we are doing, it’s actually extending beyond one year. In the second half of the year we’re averaging 18 months, and we’re averaging a little more now. We are actually doing more of a barbell. The customers who want to stay short-term are three-month, six-month, nine-month rates are a 50 to 60 basis points. Our one-year rate is 75 basis points. And it’s 75 basis points all the way up to 18 months. But if you want to go longer, two and a half years I think it is one in the quarter and we do have a 3% rate [305] for five years. So it’s more of a barbell effect and that’s how we get the low cost, but we do get a significant amount of money going long-term and short-term as well because the people are happy just leaving the money short-term. So that’s where our current strategy is.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay, of the $3 billion of reprices, actually its $2 billion of reprices in the back half of the year.

George L. Engelke, Jr.

2.8.

Matt Kelley - Sterne Agee & Leach, Inc.

2.8 okay. Where do you think that’s going? Would you think the margin improvement or the cost of funding improvement is on just that $2.8 billion ?

George L. Engelke, Jr.

Well, I think on that $2 billion at an average rate is under 2%, I would say the repricing is around 1%. That’s what we’ve seen so far. That’s what we see with the barbell effect. We are extending CDs, but if you want to stay at one year or less, or actually 18 months or less, the highest rate we have is 75 basis points. And some people are happy staying short, some people are happy going long, and we’re able to extend. So it’s really more of a barbell. The average life of our redeposits we would expect in the second-half of the year to be greater than 18 months and probably more like two years but that’s not like we have two-year CDs, we have short-term, we have long-term.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay. And then you mentioned that 75% when they hit the 61 month are resetting and staying right in the structure. How has that percentage changed over the last couple of quarters?

Unidentified Company Representative

Over the last couple of quarters not much.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay.

Unidentified Company Representative

Again, three years ago that level was maybe 10% to 15%. Rates or the absolute levels and as long as the perception rates low for a while people are going into that. It also depends what rate they are coming down and some people are happy to we are refining to our current 5/1 knowing that the rate is coming down anyway. So it hasn’t changed much in the last couple of quarters and I think it’s the anticipation of where rates are going to be but as of the previous question, every three months or so we are contacting these people letting them know that we are here for them with new products 5/1s, 7/1s or 15-year fixed. They feel that it is time for them to walk in the slightly higher rates.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay.

Unidentified Company Representative

And also by the way included in that 2 billion second-half of the number in the ARMs or a couple of $100 million of multi-family. It’s not a huge percentage but they don’t reprice that. I am giving you a thought.

Matt Kelley - Sterne Agee & Leach, Inc.

Got you. I just want to clear in the static rate environment, your guidance is margin neutral?

Unidentified Company Representative

Neutral, because of the prefunding to neutral was slightly down.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay. Last question, can you just…

George L. Engelke, Jr.

There is one I guess, to be totally fair there is one more day of interest expense in the third and fourth quarter compared to the second, if you are doing your total calculation.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay and then just last question, could you just talk about the degree of balance sheet shrinkage and deleveraging and what type of we should expect in the next couple of quarters and it has shrunk quite a bit particularly on the security side, what do you think in there?

Unidentified Company Representative

It’s not a balancing shrinkage program, it is a result of what the market is out there right now, you talk about security shrinking. The securities that we like to buy the good quality CMO’s or 3 to 3.5 year average lives. Those yields are around 2.5% right now. We are taking a look at that and then saying limiting purchase on that.

In terms of our loan portfolio, the residential loan portfolio, we are looking to make as many loans that we can, but it is very tough to compete with Freddie Mac and Freddie and Fannie, and the FHA. So, we have decided that given what’s out there, we are going to stay with their credit quality that we are currently making on a loan portfolio and ultimately we think that, that may result in some shrinkage, it’s not like where designing shrinkage.

Matt Kelley - Sterne Agee & Leach, Inc.

Right. In the current quarter it was down about 7% annualized rate on gross loans, could that continue that annualized rate?

Unidentified Company Representative

I think it could be similar to that that would be a little less but tell me where the conforming limit which is now $729,000, is Congress going to deal with Freddie and Fannie, are they going to deal with the conforming limit. We were hoping that 30-year fixed rate would drive and that would lower our [re-fi’s] we haven’t had our re-fi’s increase but they have been lower because we are right now 30-year fix in 4.5%. We don’t think it’s a appropriate to put 2.5% CMO’s on our balance sheet at this time and we don’t think its appropriate to go with lower credit quality or significantly lower mortgage rates to just to add that to our balance sheet this time.

Unidentified Company Representative

That said the pace of decline in the securities portfolio this quarter is slightly accelerated because we did have couple of items call, so you won’t see that pace of decline and while Mark is accurate, we don’t like to put on those CMOs at those levels. It will be some they are probably less of the decline because we need some to collateral on the reverse repo.

Matt Kelley - Sterne Agee & Leach, Inc.

So there will be some decrease but not as much as we saw.

Unidentified Company Speaker

Not so much

Matt Kelley - Sterne Agee & Leach, Inc.

And those were just called, were those the Freddie repurchases?

Unidentified Company Speaker

No, they were callable bullets, there were at three [noncore] ones that were called.

Matt Kelley - Sterne Agee & Leach, Inc.

Just didn’t reinvest those cash flows?

Unidentified Company Speaker

Correct.

Operator

The next question comes from Collyn Gilbert of Stifel Nicolaus.

Collyn Gilbert - Stifel Nicolaus

Most of my questions have been asked. But just on your residential non-performing loan how many of those loans has second behind them?

Unidentified Company Speaker

We do know we go through the process and in non-performing I think a good half of them do. We don’t know about our performing portfolio. But when they becoming non-performing. Yes we do know. I say about half of them have seconds elsewhere.

Operator

Next question comes from Rick Weiss of Janney.

Rick Weiss - Janney Montgomery Scott LLC

I was wondering just given the difficulty of pricing the single family mortgages, would you expect to come back into either construction or multi-family or commercial real estate businesses?

Unidentified Company Speaker

Yes, I do. I do not expect to be back in the construction business in some time but anyway the multi-family is something that we are reviewing, currently we are limiting production there, but that’s something we will take a look at, I think we just want to see where the overall economy and the legislature goes on some of the issues that relate to multi-family lending in the [bureaus]. But that’s something we may take a look at. At this point we are still limiting production, but that’s something that we will take a look at as we go forward.

Rick Weiss - Janney Montgomery Scott LLC

Has there been any change in the last year or so I guess when you first started deemphasizing that?

Unidentified Company Representative

We’ve deemphasized it probably in the last year, year and a half I guess, there has been no change in that since then.

Rick Weiss - Janney Montgomery Scott LLC

Okay and if I go back to the reserving, are you getting any input from the various regulators on what they would like to see regarding reserve levels? The relationship between reserves and charge-offs.

Unidentified Company Representative

The regulators have come in; they say they have no problem, no question with any of our reserves, or any of our capital.

Operator

The next question comes from Amanda Larsen of Raymond James.

Amanda Larsen - Raymond James & Associates, Inc.

I want to know what went on in mortgage banking this quarter. Obviously you guys are a portfolio lender, but the amount that you did seems a little bit low to me.

Unidentified Company Representative

Yes, in terms of two things. We had a little MSR valuation chart, which is a couple of hundred thousand dollars, versus a recovery in the first quarter.

Unidentified Company Representative

So they had a swing there. And then just the volume of loan sales is been down in the second quarter.

George L. Engelke, Jr.

Yes, one of the things we’re out there, we’re originating conforming loans and selling them to the agencies and we just saw a decrease in the amount of production. Our overall pipeline is about 10% lower as of June than it was as of March which including conforming in [jumbo].

Amanda Larsen - Raymond James & Associates, Inc.

Okay I assume if that got worse through the quarter or can you give any guidance on that?

George L. Engelke, Jr.

Yes.

Amanda Larsen - Raymond James & Associates, Inc.

Okay.

George L. Engelke, Jr.

Yes, Amanda that’s just reflecting what’s happening in the marketplace.

Amanda Larsen - Raymond James & Associates, Inc.

Yeah.

George L. Engelke, Jr.

That’s not our product, that’s Fannie and Freddie part which is softening up.

Amanda Larsen - Raymond James & Associates, Inc.

Okay, all right. And then can you update us I don’t know if you guys have given any Reg-E guidance. But If you have could you please restate what your guidance is on that?

George L. Engelke, Jr.

Are you talking about (Inaudible).

Amanda Larsen - Raymond James & Associates, Inc.

Yes.

George L. Engelke, Jr.

(inaudible) what I can say that on new accounts we are getting about 25% opting in and in terms of addressing current accounts but it is still preliminary but those numbers are for the users, the frequent users those numbers are growing as two people opting in because they do appreciate that. But its still early to give results on that.

Amanda Larsen - Raymond James & Associates, Inc.

Okay, I’ve seen with a couple of other banks now they’ve given guidance of about 15% or 20% off of service charges per quarter. Is that reasonable?

George L. Engelke, Jr.

Well I think, we’ve given in the past estimates of somewhere between $1 million and $1.5 million per quarter decrease but its hard to tell. Our estimates and then quite frankly our numbers are still very preliminary.

Operator

Your next question comes from Bob Ramsey of FBR Capital Markets.

Bob Ramsey - Friedman, Billings, Ramsey & Co.

If you could provide for me the breakout of single family net charge-offs between the Alt A and full doc portfolios.

Unidentified Company Representative

We don’t have that with us in front. Don’t have that, I guess that’s a new item.

Operator

The next question comes from Bruce Harting of Barclays Capital.

Bruce Harting - Barclays Capital

Given that the government has taking over the mortgage market here and suppressed rates. How do you see your strategy, and does it make sense to just wait it out, to be patient and keep some capital if and when rates go back up and it’s a more rational, private companies can actually function in the mortgage market or do you have to stay involved and just try to keep the loan balances at best flat, how do you see that and then what are you hearing from your regulatory sources which are good in terms of the progression of GSE reform? Will we be living in this kind of environment for six months or six years, what’s your sense?

George L. Engelke, Jr.

Well, I think that the answer to the second question in terms of GSE, that clearly is not going to be dealt with this year. I would imagine that it gets dealt with next year because I don’t think the current administration would want to run, it wants to run in 2012 with that sitting out there as an open sore. So, I think that gets resolved somehow, next year, I think the conforming limits get the result that. In terms of the first question, we are competitive out there with our rates. Good quality loans but we are at 4% for 5/1, 4.5% for 15 year.

On the retail side we are offering very good rates long-term and offering good quality products. So it’s not like we are looking to shrink but clearly we don’t feel we have to grow just for growth’s sake. So yes I think we are just going to continue doing what we’ve done. We’ve done it for 16 plus years as a public company, myself, 33 years, George a few more going back to very neutral. We feel it’s best to continue doing what we think is right and continue building capital because that’s appropriate. And being competitive out there and being ready for opportunities because quite frankly with the new financial reform going out there, I would believe that there will be more opportunities as we go forward.

Yeah, I think we have taken all of this into account with the fact that we’ve been able to reduce our interest rate gap which was over 20% by the end of ‘08 to where it is. Our one-year gap is less than 4%. Our two-year gap is actually positive. We are really strengthening the bank as we go forward. I think overall there’s one thing that everybody should remember when we go through this is that the executives, directors and the ESOP, we own 23% of the bank, we are doing this because we think this is the right thing to do. We are running it like it’s our money because it is also. We are trying to be prudent and manage the company the way that has been done overtime.

Bruce Harting - Barclays Capital

Okay, is this a good time to be, any news on branch rollout or de novo or how do you feel about that? Any change there? Growing deposits?

George L. Engelke, Jr.

Yeah, I think as we look in terms of, anything that’s enhancing our franchise is a very positive thing. And we will take a look at those things. But overall it’s not the building itself, it’s the retail philosophy. And I think that our philosophy is good. So whether we open a couple of branches in areas that we feel we can grow and that’s very positive, but it’s that we feel we can grow because of our philosophy of customer service and community involvement. And that is important. So, yeah we’re taking a look at again opportunities whether it be smaller companies that feel that enough is enough with all the compliance and regulations coming down, our de novo branches may take a look at that. But it’s that retail philosophy that’s going to be the strength, that’s going to drive that.

Operator

The next question comes from Christopher Nolan of Maxim Group.

Christopher Nolan - Maxim Group LLC

The $30 million in loans that were part MPAs which were sold in the quarter, was that mostly residential, or was that a combination of residential or multifamily?

Unidentified Company Representative

That was mostly multifamily.

George L. Engelke, Jr.

Out of state

Christopher Nolan - Maxim Group LLC

Okay, it was out of state, and I guess you’ve been selling off multifamily loans over the last several quarters, we should expect that going forward for the next several quarters?

George L. Engelke, Jr.

I think that these are loans that are well reserved. The difference between a multifamily and a commercial real estate versus the residential in terms of the whole foreclosure process is if you have a problem with the multifamily lending you want to go through a foreclosure process. The court system is a little tough in terms of trying to get a receiver, trying to go through this process, and that building, the quality and the value that building can deteriorate pretty quickly. So what we found is in some cases it makes sense to turn that non-earning asset into an earning asset by selling the notes, rather than go through the foreclosure process. So we’ve done some of that in the past and I would imagine as case per case and loan by loan we may do some more going forward.

Christopher Nolan - Maxim Group LLC

A follow up on the strategic question earlier, did you take a look at all at Smithtown when that was being marketed and it was taken by a competitor?

George L. Engelke, Jr.

We don’t comment on acquisitions or lack thereof on the particular pieces.

Christopher Nolan - Maxim Group LLC

Great and final question for the multi-strategy potential for the future, would that be mostly focused within the metro New York area?

George L. Engelke, Jr.

Yes.

Christopher Nolan - Maxim Group LLC

Operator

Your next question comes from Matt Kelley of Sterne Agee.

Matt Kelley - Sterne Agee & Leach, Inc.

Yeah, thanks for taking the follow-up. I just want to come back to the provisioning level, if you go back over the last five or six quarters you had been providing $15 to $30 million beyond charge-offs so pretty significant kind of reserve building and then it roughly stops this quarter and I just want to come back, I mean it appears like there’s a material inflection point in your thought on credit and wanted to get you to comment on that, again, just reading into the excess provisioning beyond charge-offs, essentially going to zero this quarter after being pretty robust for four, five quarters?

Frank Fusco

I think people are overlooking at and using the phrase, as Monte said earlier building reserve. What we look at is the total allowances relative to portfolio and if you go back over the past several quarters as our 30-day bucket has remained stabilized and we’ve seen a stabilization in the overall delinquencies we’ve come to the conclusion looking at a variety of factors that we need X amount of allowances. George and Monte have already pointed out that if the loans are non-performing and it’s going to take us a while to foreclose on that but I accurately value that loan and put a reserve against it. I don’t need any more reserves against it. So its not a function of our provision, it’s a functioning of the allowance and at the end of the day adjusting for the $33 million of loans that Monte talked about in that 30- day bucket, you look at our total delinquencies in the non-performing loans and of 30-day bucket over the past quarter and basically they are relatively flat. With that said, I don’t need anymore than $211 million, our loss varies about the same. What we’ve done is continued to look at the loans and get a better feel for what they are as we move forward in this process. So there’s no reason to increase the allowance.

George L. Engelke, Jr.

We take a look at our - not only our non-performing loans but our current loan portfolio. We break it down by year of origination, by type of loan, not just whether it’s Alt A or full income, whether its interest only or amortized and where we go with that. So, we have a lot of detail on the production. Over 40% of our loan portfolio is originating in the last two and a half years of LTVs under 60%. And you go back about 20% of our portfolio was originated before ‘05 and LTV is under 60%. Now those LTVs are probably not at those levels anymore but there’s a lot of quality in that portfolio. So we take all those things into account as we set up the overall allowance.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay, so going forward then, you feel like you are well reserved in the existing book and any changes in incremental provisioning or reserve building will be tied directly to the past two trends?

Unidentified Company Representative

Yes.

Matt Kelley - Sterne Agee & Leach, Inc.

So, past year is flat, it should be, the charge offs should equal provisions in the quarters ahead?

George L. Engelke, Jr.

As well as the value, the amount of loan portfolio going up or down as well.

Matt Kelley - Sterne Agee & Leach, Inc.

And how much of the current charge offs, the charge offs in the current quarter, were loans that hit the 180th day and you did the reappraisal and wrote them down versus writing down loans that you had already done that to.

George L. Engelke, Jr.

You mean how much were actually 180-day or actually a year and a half.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay.

George L. Engelke, Jr.

Because that would be the difference between loans of six months and loans that are a year and a half. I don’t have the specifics. I think the majority of them were six months.

Matt Kelley - Sterne Agee & Leach, Inc.

Okay. Got it, alright, so most of the build is done then.

George L. Engelke, Jr.

Yes.

Operator

The next question comes from Bernard Horn of Polaris Capital.

Bernard Horn - Polaris Capital

Hi, thanks again. I just had one follow up question on the Alco strategy. On the linked average balance sheet in the first and second quarter, one thing that’s stood out was the fact that the core deposit yield seemed to be pinned almost to the basis point the same way as they were in the first quarter. I was just wondering going forward how much, with your community or your customer or the competitive issues that you are dealing with, how willing are you to tinker with the core deposit rates to defend net interest margin.

George L. Engelke, Jr.

Well, if you are talking about our [pass] per grade at 40 basis points or money market rate at 50 basis points and especially our high interest checking rate at 10 basis points, I think we feel comfortable with those levels here and we are actually growing those accounts. So no, we are not looking at lowering those rates. Those rates are very competitive in the marketplace and I think as we said in our press release, we’ve grown those accounts at about 10% over the last 12 months.

Bernard Horn - Polaris Capital

Yes, that was clearly, that was one source of good deposit and I acknowledge that they are at much lower costs than the rest that I know there but competitively in the market are you paying more than other banks in those buckets?

George L. Engelke, Jr.

No, we are not.

Bernard Horn - Polaris Capital

Okay.

George L. Engelke, Jr.

I think the key thing about keeping those customers is quality customer service and community involvement. And one of the things that we’ve been doing for a long time is that our goal is to try to be the small community bank in each community and although we are a $20 billion bank in each community, we wanted them to see like it’s their bank and that’s how we keep and that’s how we grow the savings is the money market and the checking accounts. It is the retail philosophy that works.

Operator

Since there are no further questions I would like to turn the conference back over to Mr. George Engelke for any additional or closing remarks.

George L. Engelke Jr.

Well, I hope you got a good picture of all the hard work we’re putting in around here. And we look forward to next quarter. Thank you.

Operator

Thank you ladies and gentlemen. This concludes today’s teleconference. Please disconnect your lines at this time, and have a wonderful day.

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