M&T Bank Corporation Q3 2007 Earnings Call Transcript

Oct.11.07 | About: M&T Bank (MTB)

M&T Bank Corporation (NYSE:MTB)

Q3 2007 Earnings Call

October 11, 2007, 10:00 AM ET

Executives

Donald J. MacLeod - VP and Assistant Secretary

René F. Jones - EVP and CFO

Analysts

K.C. Ambrecht - Millennium Partners

Robert Hughes - Keefe, Bruyette & Woods, Inc.

John Fox - Fenimore Asset Management Inc.

Paul Delaney - Morgan Stanley

Matthew O'Connor - UBS

Kenneth Usdin - Bank of America Securities

Jason Goldberg - Lehman Brothers

Todd Hagerman - Credit Suisse

Joseph Fenech - Sandler O'Neill & Partners, L.P.

Salvatore DiMartino - Bear Stearns

Operator

Good morning ladies and gentlemen. My name is Natasha, and I will be your conference operator today. At this time, I would like to welcome everyone to the M&T Bank Third Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. [Operator Instructions]. Thank you.

It is now my pleasure to turn the floor over to your host, Don MacLeod, Director of IR. Sir you may begin.

Donald J. MacLeod - Vice President and Assistant Secretary

Thank you, Natasha and good morning everyone. This is Don MacLeod, and I'd like to thank everyone for participating in M&T's third quarter 2007earnings conference call, both by telephone and through the webcast. If you've not read our earnings release, you may access it along with the financial tables from our website, www.mtb.com and by clicking on the Investor Relations link.

Also, before we start, I'd like to mention that comments made during this call may contain forward-looking statements relating to the banking industry and to M&T Bank Corporation. M&T encourages participants to refer to our SEC filings found on Forms 8-K, 10-Q, and 10-K for a complete discussion of forward-looking statements.

Now, I'd like to introduce our Chief Financial Officer, René F. Jones.

René F. Jones - Executive Vice President and Chief Financial Officer

Thank you, Don, and good morning everyone. Thank you for joining us on the call. I am sure you've had a chance to review this morning's press release. I'd like to highlight and expand upon a few items from this morning's release before I respond to questions.

Diluted earnings per share, which include amortization of core deposit and other intangible assets, were $1.83 in this year's third quarter, compared with $1.85 earned in the third quarter of 2006, and $1.95 earned in the linked quarter. Higher credit costs and the impact of our investment in Bayview Lending Group were the primary factors that dampened M&T's performance in the recent quarter, and we will touch on each of these items in a few moments.

Amortization of core deposit and other intangible assets amounted to $0.09 per share in the third quarter of 2007, compared with $0.10 per share in the third quarter of 2006 and $0.09 per share in the linked quarter.

Recall that last year's third quarter results included $1 million of after-tax merger-related expenses which amounted to $0.01 per share. There were no merger-related charges in the recent quarter or in the second quarter of 2007.

In addition to the merger charges, last year's third quarter featured several non-core items. These included a gain which arose from a call of Federal Home Loan Bank advance, tax refunds and interests received plus... which arose from the resolution of pre-acquisition offer's tax returns, and then tax deductible cash contributions to the M&T Charitable Foundation. As you will recall, taken together, these three items had no... little or no impact on the bottom line in last year's third quarter.

Diluted net operating earnings per share, which exclude the amortization of core deposit and other intangible assets, as well as merger-related expenses in last year's third quarter, were $1.92, compared with $1.96 in the third quarter of 2006, and $2.04 in the linked quarter.

As is our custom, this morning's press release contains a tabular reconciliation of GAAP and non-GAAP results, including tangible assets and equity.

Net income for this year's third quarter was $199 million, compared with $210 million in the year earlier quarter and with $214 million in the sequential quarter. Net operating income was $209 million, compared with $223 million in the third quarter of 2006 and $224 million in the linked quarter.

Return on average assets for the third quarter of 2007 was 1.37% compared with 1.49% in both the third quarter of 2006 and in the linked quarter. Net operating return on average tangible assets was 1.51% compared with 1.67% in the third quarter of '06 and 1.65% in the sequential quarter.

Return on average common equity was 12.78% compared with 13.72% in last year's third quarter and 13.92% in the linked quarter. Finally, net operating return on average tangible common equity was 26.8% compared with 30.22% in the third quarter of '06 and 29.35% in the linked quarter.

Turning to the net interest margin, our net interest margin in the third quarter was 3.65%, down just two basis points from 3.67% in the linked quarter and down three basis points from 3.68% in the third quarter of last year.

This reflects tax, taxable equivalent net interest income for the quarter of $473 million, on an earnings asset base of $51.3 billion. The change in the margin in the linked quarter was entirely due to the impact of one more day in the third quarter.

In terms of our loan book, average loans for the third quarter were $43.8 billion compared with $43.6 billion in the linked quarter, giving an annualized growth rate of 2%. Our average loans grew 5% in the third quarter of 2006.

Taken by category, on a linked quarter basis, average commercial and industrial loans grew by an annualized rate of 3%, while average commercial real estate loans declined an annualized 3%. Average consumer loans were up an annualized 6% and average residential real estate loans were up an annualized 3%.

Following the disruption in the credit markets in early August, we saw a surge in loan growth late in the quarter. End-of-period loans as of September 30th were up $1 billion or an annualized rate of 9% from the levels at June 30th of 2007.

Taken again by category, on an annualized end-of-period basis, C&I loans grew 7%. Commercial real estate loans grew an annualized 11%, as did consumer loans grew an annualized 11% and residential real estate loans grew at an annualized rate of 8%.

With respect to credit quality, non-performing loans totaled $371 million at the end of the recent quarter, compared with $296 million at the end of last quarter and a $180 million at September 30th, 2006.

The non-performing loan ratio was 83 basis points at the end of September compared with 68 basis points at the end of the second quarter. That ratio was 43 basis points at the end of the September 2006.

The $75 million increase in non-performing loans from the linked quarter, was primarily due to two factors. First, a $42 million increase in non-performing loans to residential developers and builders primarily in the mid-Atlantic region. The largest of these is a $31 million loan to a developer and builder of single family homes on the Eastern shore. And second, a $26 million increase in the non-performing residential mortgages, the majority of which relate to the portfolio of alternative residential mortgage loans transferred to M&T's held for investment portfolio in March of 2007.

Net charge-offs for the quarter were $22 million, representing an annualized rate of 20 basis points on average loans. Both the dollar amount of charge-offs and the ratio of charge-offs to loans were unchanged from the second quarter. Net charge-offs were $17 million in the third quarter of 2006, combined to an annualized 16 basis points on average loans.

The provision for credit losses in the third quarter of '07 of $34 million exceeded charge-offs for the quarter by $12 million, and resulted in allowance for credit losses of $680 million or 1.52% of loans at the end of September.

Loans past due 90 days or more but still accruing interest were a $140 million at the end of the recent quarter, compared with $135 million at the end of the linked quarter, and $112 million at September 30th, 2006. At the end of the recent quarter, this category included $17 million of the loans that are guaranteed by government-related entities.

Turning to fee income. Non-interest income was $253 million in the third quarter, compared with $274 million in the third quarter of last year, and $283 million in the linked quarter. The results for the third quarter of 2006 included a $13 million gain realized from the call of a FHLB advance that I mentioned earlier. Mortgage banking revenues were $32 million, compared with $36 million in the linked quarter, and $37 million a year ago.

This quarter... this quarter's mortgage results included slightly lower contributions from both residential and commercial originations. The servicing and other mortgage fees little changed from the second quarter. Residential mortgage loans closed during the quarter were approximately $1.3 billion, compared with $1.4 billion last quarter. Applications were $2.9 billion, up from $2.7 billion in the linked quarter. Non-agency loans represented less than 1% of that volume.

Service charges on deposits were $104 million for the quarter compared with $100 million in last year's third quarter, and $105 million in the second quarter of 2007. Other revenues from operations were $68 million for the third quarter. This compares with $73 million in the sequential quarter and $81 million in last year's third quarter, which included the FHLB gain.

The primary reason for the linked-quarter decline was a $4 million reduction in advisory fees. As we said before, our investment banking unit is small and a limited number of transactions that they engage in tend to result in somewhat choppy revenue from quarter-to-quarter.

M&T's pro-rata equity income from Bayview Lending Group was a loss of $11 million in the third quarter. This compares with profits of $8 million in the second quarter. When combined with the carry on the investments, the BLG investment has been dilutive to M&T's results by $0.09 per share for both the third quarter and for the year-to-date.

As we said in the past, as well as in today's press release, the results from M&T's investment in BLG will fluctuate from quarter-to-quarter, depending on the timing of loan sales and securitizations conducted by BLG. In fact, BLG has executed two small balance commercial mortgage securitization, totaling $862 million that will be reflected in our fourth quarter results.

Operating expenses, which exclude the amortization of intangible and merger-related expenses, were $375 million in the recent quarter, compared to $376 million in the linked quarter and $388 million in the third quarter of '06.

The figure for the third quarter of '06 includes an $18 million contribution for the M&T Charitable Foundation which again I referred to earlier.

The recent quarter's results include no change for the valuation allowance for capitalized residential mortgage servicing rights. This compares with an impairment charge of $5 million in last year's third quarter and the $5 million reversal in the linked quarter.

As of September 30th, we continue to have about $4 million remaining in our valuation allowance for capitalized residential mortgage servicing rights. Excluding last quarter's MSR reversal, operating expenses for the quarter were down $6 million from the linked quarter with a $4 million decrease in salaries and benefits and a $2 million decrease in other expense category.

During the third quarter M&T repurchased 675,000 shares of its common stock at an average cost of $105.28 per share. These shares were acquired under the repurchase program authorized by the Board of Directors in February of '07. There are over 2 million shares remaining on that authorization.

Now I'd like to share our thoughts regarding the trends we're seeing in the income statement and balance sheet. At this point in time, our outlook for loan growth is in the mid single digit range. However, we were encouraged by wider credit spreads, times of more disciplined underwriting by competitors and the surge in loan demand in September.

We expect the net interest margin to be relatively stable, consistent with the past several quarters. Our interest rate sensitivity position is essentially neutral, and we should see minimal impact from any further changes in the Fed funds rate.

We continue to expect growth in the fee income categories with the usual caveat that certain categories such as BOLE [ph] revenue, gains on lease equipment, investment banking fees, loan syndication fees and other income from BLG, will have some variability from quarter-to-quarter.

Our full year outlook on expenses is for modest controlled growth. With respect to credit, we continue to expect credit costs to trend upwards as evidenced by the rising trend in non-performing loan. Specifically, we are monitoring our residential construction portfolio carefully, as the industry-wide slowdown has impacted even some of the strongest developers and builders.

Although our portfolio is largely within our banking footprint, as you all know, the pressure on real estate prices has occurred nationwide. If the current conditions continue to deteriorate, we would expect to see a commensurate increase in non-performers and credit losses. A 20 basis point charge-off ratio that we experienced in the second and third quarters is still low by historical standards, and we would expect charge-off ratio to continue to approach our long-term average of 30 to 35 basis points.

There is no change in our approach to capital management and our target ratio of tangible equity to tangible assets. In the near term, we are managing the repurchase program in the context of maintaining our capital ratios while completing the Partners Trust and First Horizon transactions, possibly as early as before fourth quarter.

All of these projections are of course subject to a number of uncertainties and various assumptions regarding the national and economic growth, changes in interest rates, political events and other macro economics factors which may differ materially from what actually unfolds in the future.

We'll now open up the call to questions before which Natasha will briefly give you the instructions.

Question And Answer

Operator

[Operator Instructions]. Your first question comes from K.C. Ambrecht of Millennium Partners.

K.C. Ambrecht - Millennium Partners

Hi. That was correct. Thanks for taking the question. Could you just discuss your... could you give us a little bit more color around your residential home builder book in alone the mid-Atlantic? And also, if your net charge-offs... if we go back to your long-term net charge-offs trend to 30 to 35 basis points, what that kind of would imply for your... or how we should think about your reserve allowance and where do you like to take that?

René F. Jones - Executive Vice President and Chief Financial Officer

Yes, let me take second part of that question first. I mean, typically what you'll see is that we've consistently... we have maintained a pretty consistent approach with our allowance for loan losses. So, as you see credit quality move up, our allowance has typically been higher. So, if you think about how it works is as we see credits migrate to our process as they work through their way into the credit size loan book and then on their way to performing... to non-performings. Throughout that process they are having higher levels of allowance on those credits as they start to deteriorate. From my view, as we see the credit cycles sort of continue the trend back to historical norms. So I would expect to see our allowance levels increased.

K.C. Ambrecht - Millennium Partners

Before you move on there, when you say that, I mean you reserved a loan that's kind of hovered around, I mean that trended down in the last six quarters, it looks like from 155 to 152, but in your charge-offs, it's kind of gone up, and your NPAs have certainly gone up. So if your net charge-offs get back to 30 to 35 bps, where do you think your reserve allowance need to go to, like 175?

René F. Jones - Executive Vice President and Chief Financial Officer

It will depend on the loss content within the portfolio. I mean, there is not a number that you can predict a year out in that circumstance.

K.C. Ambrecht - Millennium Partners

Okay.

René F. Jones - Executive Vice President and Chief Financial Officer

In terms of the makeup of your loan book and what types of loss contents you have... you think you have in each credit.

K.C. Ambrecht - Millennium Partners

If there... likehome builder related there, this is residential book and mid-Atlantic though?

René F. Jones - Executive Vice President and Chief Financial Officer

Let me go back to the first part of your question, and I think maybe I can get to that. If you look we talk about our own home builder portfolio which is about $1.8 billion and then if you add another $400 million which is the loans secured to individuals with houses that are actually being built in loan to an individual. That gets you to about $2.2 billion. And while we don't have any material exposure to that sort of hot markets like Florida, California or the Midwest, we do expect to see much slower project sell-out and absorption rate in our markets.

In the near term, we believe that most of our developers and builders have what we call in the secondary source... in secondary sources of liquidity to sort of do well in this market. But if the market continues to soften, we like everybody else would expect to see higher non-performers. If you look at the mid-Atlantic specifically what we have in the mid-Atlantic are... most of our exposure is in move-up single family homes. And the slowdown that we saw in 2006 and then in the early part of 2007 has yet to abate, and the ring... that period of time the sales and absorption rates have declined pretty significantly.

Anywhere where we have seen improvements in projects has been where there has been a lowering of sales prices, and other... and where the builders are offering other incentives and that tends to sort of whittle down the inventory overhang and it really has had a positive impact. So, you get the sense that pricing and where the market pricing is naturally and on a specific project is really what's driving the performance. Having said all that, while the discounted land values have declined due to changing market in the mid-Atlantic on most projects, the loan to value remains at acceptable levels.

We've received updated appraisals on all of these projects, and as we said before, we started that process in the fall of '06. We did a wholesale review in the spring... on an every six month basis we're reviewing all of the credits in that portfolio.

I think I sort of mentioned the appraised value, because I think what you have to start out with is sort of think about how one of these transactions will work. If you have appraised value on a property of say $40 million and maybe you have $28 - $27 million outstanding so, you have 70% loan to value. What you have to see is if someone's ability to pay gets impaired the first step is to go back and do the appraisal. So, as long as you have a fair amount of cushion in that process right the loss content is somewhat mitigated even though you've taken this whole credit of $20 some odd million into non-performing.

So, in some of these cases in a scenario that I was talking about is, as long as you have 70% loan to value, somewhere in that range, you would really have to have pretty significant shortfall, maybe a 50% drop in appraised values to have significant loss content that's commensurate with the price of the loan that you put into non-performing. So, as we see those credits move through our classified book, we are increasing our allowance for that purpose.

K.C. Ambrecht - Millennium Partners

Okay. Thank you very much.

Operator

Thank you. Your next question comes from Bob Hughes of KBW.

René F. Jones - Executive Vice President and Chief Financial Officer

Hi Bob.

Robert Hughes - Keefe, Bruyette & Woods, Inc.

Hey, Good morning guys. Couple of questions. Loan growth was quite strong in the quarter, much became late in the quarter, I am just wondering René if any of that growth was bought versus originated.

René F. Jones - Executive Vice President and Chief Financial Officer

No. It was all originated. But we saw an uptick in almost every region. But we... with a most larger growth in September in the metro region, the New York region as well as in the mid-Atlantic. In most cases, it was all customers who were sort of coming back who had gotten shut out either from the capital markets or who had gotten... where the bank was sort of re-bidding... looking to re-bid. So, as you know we tend to do pretty well in that environment because we price through the cycle.

Robert Hughes - Keefe, Bruyette & Woods, Inc.

Okay. Are you talking about multi-family commercial real estate specifically or more C&I?

René F. Jones - Executive Vice President and Chief Financial Officer

Both C&I and real estate, nothing... no concentration on either one. I think it was pretty even with the exception that the mid-Atlantic was probably more C&I.

Robert Hughes - Keefe, Bruyette & Woods, Inc.

Okay. And then on BLG, those guys... they completed a securitization in the third quarter as well, didn't they?

René F. Jones - Executive Vice President and Chief Financial Officer

Well they went out and executed a securitization. But Bob, the way that it is works is depending on the structure of the securitization like in order for it should be a true sale, there are certain requirements. The simplest way to talk about that is you have to sell a certain percentage... a high percentage of the loans ought to be executed. And so, when you saw the disruption in the market in August, that's actually when they went out. They went out in the height of that process. So, the good news is they were able to get two transactions actually done. And what we saw was that it just sort of took a little longer to execute those transactions, right, to fully execute them. So, for our purposes as they report their results to us, you would see the impact of those gains in the fourth quarter.

Robert Hughes - Keefe, Bruyette & Woods, Inc.

Okay. And then... so then the loss in the third quarter coming from BLG stems specifically from what?

René F. Jones - Executive Vice President and Chief Financial Officer

What you are... you get a nice look into BLG. What you'll essentially see there is $8 or $9 million of operating expense because, you've got our share of their operating expenses. So, what you got is you got a big loan origination engine, where you're paying people to originate mortgages over time and you're underwriting those mortgages and getting them ready for sale. And so, most of what you see in those results are simply their core operating costs.

Robert Hughes - Keefe, Bruyette & Woods, Inc.

Okay great. I'll re-queue. Thanks.

Operator

: Thank you. Your next question comes from John Fox of Fenimore Asset Management.

René F. Jones - Executive Vice President and Chief Financial Officer

Hi John.

John Fox - Fenimore Asset Management Inc.

Yes. Hey good morning everybody. I have couple of questions. Just to follow up on Bayview so, are you basically saying, let's say $9 million just to take the high end of $8 million to $9 million is kind of the run rate operating cost and there basically was very little gain on sale revenue to offset that in the quarter or --?

René F. Jones - Executive Vice President and Chief Financial Officer

That's exactly.

John Fox - Fenimore Asset Management Inc.

I'm trying to understand from the plus 8 to the minus 11, what happened?

René F. Jones - Executive Vice President and Chief Financial Officer

That's exactly correct.

John Fox - Fenimore Asset Management Inc.

Okay. So, but they did a securitization in the third quarter...

René F. Jones - Executive Vice President and Chief Financial Officer

Yes. As you said...

John Fox - Fenimore Asset Management Inc.

And a quick, took so long, the revenue recognition is really in the fourth quarter?

René F. Jones - Executive Vice President and Chief Financial Officer

That's how it will materialize. That's correct.

John Fox - Fenimore Asset Management Inc.

And then there were two additional small securitizations in the fourth quarter or planned for the fourth quarter?

René F. Jones - Executive Vice President and Chief Financial Officer

There were two done in the third quarter and it remains to be seen what will happen in the fourth quarter, but we would expect them to have a pool of loans large enough to securitize.

John Fox - Fenimore Asset Management Inc.

Okay. So, there should be significant increase in revenue then fourth quarter versus third?

René F. Jones - Executive Vice President and Chief Financial Officer

Absolutely.

John Fox - Fenimore Asset Management Inc.

Okay.

René F. Jones - Executive Vice President and Chief Financial Officer

Well you are on the subject. I will say that from our perspective if you think about what happened... first of all, M&T has a very little capital markets exposure prior to sort of its investments in BLG. And if you think of what happened in the market specifically in August and which actually we are still experiencing today, one of the things that we think is actually despite the fact that we wish markets to be most stable as along with everybody else, one of the things that we are encouraged by is that they actually were able to take this paper which trades like CMBS and actually execute those securitizations. It took a little longer, but from the perspective of 20% investor, we think that it's important that they were able to get them done and that they were able... do not have to go into any sort of backup liquidity plans and it really sort of speaks to the profitability and the value of their franchise.

John Fox - Fenimore Asset Management Inc.

Right. Okay thank you for that. The second question is around, can you just describe your Alt-A business today? First, what do you have on the balance sheet? And number two, are you originating anything at all at this point and just talk about where that business stands today?

René F. Jones - Executive Vice President and Chief Financial Officer

Yes. If we... as I said if you look at non-agency... and if you look at Alt-A portfolio, our Alt-A exposure as what we have talked about for sometime now is $1.3 billion, $883 million of this what we took to held for investments in March, and another $400 million of that is a loans that we actually invested in during the course of 2006, okay. So that's the extent of our exposure there. If you look at our originations, our non-agency, so paper that is not sellable to agency either because of documentation or some other issue is down to 1% of our applications.

John Fox - Fenimore Asset Management Inc.

Okay.

René F. Jones - Executive Vice President and Chief Financial Officer

So most of that is going to be some sort of exception.

John Fox - Fenimore Asset Management Inc.

Okay. So anything you do to... you can...

René F. Jones - Executive Vice President and Chief Financial Officer

Yes. That's right.

John Fox - Fenimore Asset Management Inc.

Okay. And I noticed securities went up in the quarter and I have heard when you make some comments at some of the conferences about the math is getting a little better on that. Can you just talk about how you think about buying securities and return on equity at this point? And do you think the balance will continue to grow?

René F. Jones - Executive Vice President and Chief Financial Officer

Yes, I mean just to sort of reiterate what I have said is that we were at a place where... let me start off by saying that, we tend to use securities book, one for managing our interest rate risk position, two for liquidity. And then third, we use it sort of as an offset to look through the asset classes and make sure that we are having sound return on investments. So they're trade-offs. Where we were for the two years is that we carry about a target tangible ratio of 5.4, and when you can take a AAA security, and you can get a margin of 20 basis points, that is also in the return that's single digit. So it just doesn't make any sense. And if you are using that it's a very costly way to manage your liquidity and your interest rate position.

What we saw during the disruption is that you could get very, very highly rated securities, super senior AAA securities for over LIBOR plus 125, in some cases 140, and then in some cases actually higher. And when you look through the underlying quality of that paper, you are actually able to get very significant return. One way to think about that is at the time... at the time when we are actually into September the margins on those securities were actually still better than an unrated commercial real estate loan in New York City, right. So it made no sense whatsoever to book our commercial real estate loan in the third and fourth... in August and September...

John Fox - Fenimore Asset Management Inc.

Right.

René F. Jones - Executive Vice President and Chief Financial Officer

To the extent that you were getting LIBOR plus 125, it just didn't make sense. So, I think that you will now see our ability to grow that portfolio if we choose to, at the same level of... as our earnings asset over time. And you'll have to watch that from quarter-to-quarter.

John Fox - Fenimore Asset Management Inc.

Okay. Thank you very much.

René F. Jones - Executive Vice President and Chief Financial Officer

Yes.

Operator

Thank you. Your next question comes from Paul Delaney of Morgan Stanley.

René F. Jones - Executive Vice President and Chief Financial Officer

Good morning, Paul.

Paul Delaney - Morgan Stanley

Good morning. I have... switching gears a little bit just looking at the deposit rate, just wondering what's going on with savings, which was down about $119 million and yet the yield was up a little bit. Just wondering what if there is anything going on there. And then secondly, the time deposits were down a lot. But, the... that the yield or cost was only down three basis points. Just wondering, if you could give us more color there?

René F. Jones - Executive Vice President and Chief Financial Officer

Yes. Let me start with the time deposit. If you remember a year ago, August was our 150th anniversary and we put out some special time deposit rates out there that... at that time I think our rates were at about 5, 5.50 on a one year CDC. You see a lot of run-up in time from those programs and actually given today's rate environment that's the net benefit to the margin, right.

Paul Delaney - Morgan Stanley

Okay.

René F. Jones - Executive Vice President and Chief Financial Officer

And then, I think what we really have is very sluggish milling no growth in our non-maturity areas. And that's a reflection of sort of where we've been with our pricing. So, I think you'll see is, as we move our way towards 2008 and into 2008, you'll see a lot of focus from M&T on deposits, and that's not just in terms of sort of pricing but products and distribution and those types of things because, in our view, as we see it return to more normal loan growth, it would result in a fair amount of margin compression if we're not able to grow deposits. So, I think competitive pressures remain high probably, still remain high and there is no sort of trend in any one region it's pretty similar across all the regions.

Paul Delaney - Morgan Stanley

All right, thanks.

Operator

Thank you. Your next question comes from Matthew O'Connor of UBS.

Matthew O'Connor - UBS

Hello.

René F. Jones - Executive Vice President and Chief Financial Officer

Hi Matt.

Matthew O'Connor - UBS

Can you talk a little bit more about when you decide to move a loan to non-performing, do you take an initial write-down I know it could be little case by case? But often we find it hard to compare NPAs from bank to bank, some NPAs or the performing, some get let down right away. So any color you can shed on that and obviously the hot topic is the commercial real estate buys.

René F. Jones - Executive Vice President and Chief Financial Officer

Yes. First of all, I think, one of the differences is that you get... first major difference you get from your non-performers charge-offs is whether you're secured lender or not. We are almost up... we are 99% secured lender we don't have a credit card portfolio. When you think of the commercial book, it also varies if you think of the loss content... it varies by the type of the nature of the loan. So, auto's different than the home builder is different than a typical operating loan to... C&I loan to a customer.

But our process is fairly consistent throughout all those things. As I said, we sort of watch these credits and in particular, if you look at the builder real estate, we've been watching that since mid '06 and conducting much heavier reviews. Each time we do that for normally, we review a credit on an annual basis. But in these cases, we are doing it at least every six months. And so as we see them migrate we have a 15 grade system. As we see them migrate up that credit scale, particularly as they get into the classified loan book, we tend to add to the allowance based on that duration credit.

So, if you think about what's happening today in the builder space, there are three particular credits that we have really in that space today. One is simply, that the appraised values are down, okay. And the customer is still paying. So, in that case we're at the point where we've taken them to non-performing because, we're sort of questioning their ability to pay. And the appraisal was down. We will take a lock, but as I said earlier unless that appraised value is really, drastically reduced on the loss content as well. But at that point in time we will reflect what we think the loss content is in the book.

If you're looking at this stuff constantly over time, I wouldn't expect to take... to have a large loss content all of a sudden. And if you think about... what we are talking about here in the residential builder space, these are people who... let's take an example. Someone has 35 homes that they're building, right? You can kind of tell from month to month, from quarter-to-quarter whether the homes are selling, and you could wait until the end of the year and realize that it's too late, you're not going to sell any, then you would probably have to take a big hit. But, if you're looking at this constantly, I would expect adds to provision to be slower, and that tends... that seems to be sort of what you are seeing with us here at M&T. I don't know if that helps Matt.

Matthew O'Connor - UBS

No, that's helpful. And then just your reference of one of the credits for the appraisals, the appraised value is down but the customer is still paying. Would that be a 31 or $132 million loan that you referenced earlier?

René F. Jones - Executive Vice President and Chief Financial Officer

It was actually... I was referencing the one that we mentioned in the second quarter.

Matthew O'Connor - UBS

Okay. And then how about the sub that you move to M&T this quarter, and is any of that still performing?

René F. Jones - Executive Vice President and Chief Financial Officer

The $31 million loan that I think we have referenced is actually not paying and that was less of an appraised value which we think is an ability pay issue. And so again, now as we look to... what we would do we look to the face values and what the loss content is after taking into disposition for example. So, in that case, it's ability to pay. And as you look at each of these credits, we may have I don't know 2, 3, 4, 5 credits in this space in our classified book or non-performing it's different. It's different in region. It's not concentrated in Northern Virginia, it's in Pennsylvania, it's across the board and each circumstance is a little bit different.

Matthew O'Connor - UBS

Okay. All right, thank you.

Operator

Thank you. Your next question comes from Ken Usdin of Bank of America.

René F. Jones - Executive Vice President and Chief Financial Officer

Hey Ken.

Kenneth Usdin - Bank of America Securities

Hey thanks. Good morning René. If I could follow-up on your credit comments, one more point. You mentioned, just mentioned about that not expecting severity to all the sudden come out, suddenly and spike up. But, I am just wondering if you can box from a timeframe perspective, 20 basis points this quarter, you talked about getting more back towards your normalized 30 to 35 basis points. Is that extremely gradual? Do you have an understanding right know when you expect kind of peak losses to come, whether that's '08 or in '09? So, any color you can provide on that will be helpful.

René F. Jones - Executive Vice President and Chief Financial Officer

Yes, sure. In this quarter on the commercial side, we had one charge-off that was greater than $300,000 and that number was less than a million [ph]. So, what you are seeing in our charge-off profile is primarily consumer type or customer oriented loan. If we look the other way around, I would probably say it would be pretty gradual, but what you got to expect is that as you start to see... if you start to see the commercial side getting weaker, those come... those are little chunkier, right. But as of now, we have not really seen a higher volume of commercial charge-offs, but commercial side appears actually pretty good. So that what that leaves you with this, go to that consumer book, clearly what we are seeing with that Alt-A and non-agency portfolio as you saw that non-performers rose there. You are going to continue to see that speed into the charge-offs over the next, I don't know, 18 months or more. And that process should be rather gradual.

I think the same is true of other consumer categories. And there while we have seen some higher delinquencies, it's actually been relatively slight... they are up slightly, and pretty modest level. But I would expect that given what we are seeing that those will start to trend up as well. So, I look at this as almost like a normal credit cycle where housing was the weakest spot, and we haven't seen much happen to-date on the commercial side. But if that comes, it will be a little chunkier.

Kenneth Usdin - Bank of America Securities

So 30 to 35 could still be quite some time away, not necessarily any time soon?

René F. Jones - Executive Vice President and Chief Financial Officer

I wish I knew.

Kenneth Usdin - Bank of America Securities

Okay. My other question is on the net interest margin. Just on your comments on the margin being stable, I mean, obviously there's a lot of working parts there, moving parts. And I wonder if you could walk us through it. I mean on the surface, you have good loan growth on one side but weak deposit growth on the other. You mentioned widening credit spreads too. So, can you just kind of walk through what you are seeing as far as the ability to keep the margin flat vis-à-vis all the moving parts?

René F. Jones - Executive Vice President and Chief Financial Officer

Yes, I think, we will match. I think this quarter... this year has actually been a good example in fact that we have matched. I was complaining to my guys that when the fed cut rates, we didn't get any expansion. But that's because we are neutral. I think what you would expect is that on a marginal basis, we are wholesale funded, right. So our loans are going faster than our deposits. And so what you will get with the wider credit spreads and the lower cost of wholesale funding is that on a marginal basis, the next loan you will have will actually better than it was,regular from expansion. So, that puts some positive upward pressure on the margin over time. But what... the other thing that also happened is that it's become more attractive actually to stop running off your securities book. And if we were to hold that flat or add a little bit, that's... while it's profitable, it's still relatively low margin stuff.

So, I would expect all of... any positive benefit that we get from the wider credit spread and the steeper curve to be offset by asset growth and that sort of where we get back to our neutral position. Clearly, there would be more compression than I just sort of outlined if we weren't able to grow deposits. If we saw declining deposits next year, then that would mean a little bit more pressure.

Kenneth Usdin - Bank of America Securities

And one follow up on that point René, everyone did a great job of lagging deposit pricing on the way up. But with you being so competitive out there how much room do you have aside from the CD roll-up that you point to before? How much room now the Fed is cutting, can you start pulling down deposit pricing today?

René F. Jones - Executive Vice President and Chief Financial Officer

Well, little of any... I think that was our comment in my notes that we're not going to be affected by movements in Feb bonds.

Kenneth Usdin - Bank of America Securities

Okay. Thanks a lot.

René F. Jones - Executive Vice President and Chief Financial Officer

Yes.

Operator

Thank you. Your next question comes from Jason Goldberg of Lehman Brothers

Jason Goldberg - Lehman Brothers

Good morning. I guess on the $860 somewhat million securitization that I guess will benefit you in Q4 of Bayview. Any sense in terms of what kind of gain we should expect on that?

René F. Jones - Executive Vice President and Chief Financial Officer

No. I think what you're going have to do Jason as this gets going we see more and more securitizations. Then you start benchmarking one after the other. But you'll be able to get a sense of it after we get through a couple of quarters in the investment. But at this point it wouldn't be really... make much sense for me try to dimension that. So, if you benchmark yourself off of the second quarter and you saw the transaction you saw where we stood there, that's probably the best place to be.

Jason Goldberg - Lehman Brothers

And what were the sort of...

René F. Jones - Executive Vice President and Chief Financial Officer

We did $424 million... BLG securitized $424 million in the second quarter results, and then again the number that we mentioned was $862 million that they had completed since.

Jason Goldberg - Lehman Brothers

Right. Okay, roughly double upfront.

René F. Jones - Executive Vice President and Chief Financial Officer

Yes.

Jason Goldberg - Lehman Brothers

Okay. And then I guess or didn't see, I guess you made the comment they expected low earnings in 2007, I guess in light of what happened with Bayview, this quarter. Do you think that's still possible or probably going to be tough to accomplish?

René F. Jones - Executive Vice President and Chief Financial Officer

I don't... I am not going to change my comment at this point. But you along with everybody else recognize that, that was what we saw on August and September [indiscernible] in the market. There is a fair amount of uncertainty there. I simply think that our results were pretty much what we expected them to be but for the timing of the Bayview transactions and I don't see much of a change.

Jason Goldberg - Lehman Brothers

Fair enough. Thank you.

Operator

Thank you. Your next question comes from Todd Hagerman of Credit Suisse

Todd Hagerman - Credit Suisse

Good morning René.

René F. Jones - Executive Vice President and Chief Financial Officer

Good morning, Todd.

Todd Hagerman - Credit Suisse

Just a couple of follow ups on. One just in... as you mentioned in the mid-Atlantic and the housing there. Could you just better quantify for us, just on average what kind price depreciation you've seen, other than that mid priced or mid tier housing segment?

René F. Jones - Executive Vice President and Chief Financial Officer

Todd did you just say price appreciation?

Todd Hagerman - Credit Suisse

Depreciation?

René F. Jones - Executive Vice President and Chief Financial Officer

I was going to say. The thing what I can say is that you can't still look at necessarily home prices to stay and get a benchmark of it. What really happens is that you've got a group of appraises out there where when prices start dropping, I think they tend to get relatively conservative. But quite frankly, that's where we go to get our pricing into the benchmark, what we do with our allowance and non-performers. So, I would say it depends on the project, it depends on what stage the project is in. Clearly if you actually have some vertical construction going on and you can drop prices, right, if you're close enough to that point where you can drop prices, it helps. But you can look at national average and see where you are. I would basically say that you might want to go a little bit deeper than what you're hearing in the newspapers because of the conservatism in terms of appraised value.

Todd Hagerman - Credit Suisse

Okay. And generally speaking your policy requirement on the construction piece would be on about 70% LTV?

René F. Jones - Executive Vice President and Chief Financial Officer

Yes, if I look at the credits that I have looked at in the classified book before we go... before we have got the reappraisal, they were in that range 70%.

Todd Hagerman - Credit Suisse

Okay. And then just secondarily, just could you give us a better sense of the off... possibly the offset in the quarter in terms of the non-performers with respect to the commercial auto floor plan? Was there any movement there?

René F. Jones - Executive Vice President and Chief Financial Officer

The activity there is slow but give me one second. In terms of adds, we had one credit therefore maybe $4 million that went into non-performing, and we had 1, 2, 3, 4, 5 that went out, right, smaller credits that went out. So it really seems as where we gotten through much of that, and while we continue to watch what happens with the auto industry, the fact that we sort of scrubbed especially these single product line domestic dealers seems to have sort of gotten ourselves at an inflection point.

Todd Hagerman - Credit Suisse

So you remain somewhat optimistic still on that portfolio just in terms of the workout and the progress you are making?

René F. Jones - Executive Vice President and Chief Financial Officer

Yes, I think we have done our work, we got good controls. We are doing all of the audits, and we are right on top of anything that goes wrong. And I think now what you have to see is you have to look to what happens in the industry, and if they got significantly worse than then which has been pretty bad. I think maybe we'd see a resurgence but right now we don't see much. We think we are actually kind of across the inflection point there.

Todd Hagerman - Credit Suisse

Great. Thank you.

Operator

Thank you. Your next question comes from Joe Fenech of Sandler O'Neill.

René F. Jones - Executive Vice President and Chief Financial Officer

Hi Joe.

Joseph Fenech - Sandler O'Neill & Partners, L.P.

Good morning, René. Hey not so harp too much on Bayview but they are Florida-based, and I think it's Miami actually where they are headquartered, and we all know what seems to be happening down there. But from your comments, really it just seemed as though it was timing issue as opposed to anything that might be happening, specifically in and around the markets where they are headquartered. Can you just talk about that a little bit?

René F. Jones - Executive Vice President and Chief Financial Officer

Yes. I mean, first of all it's interesting that they actually... their headquarters are in Florida, but their business is throughout the United States, and there is no real concentration in any given state. So, if you think of the where the activity has been in terms of mortgage volume that's what they look like across the United States. Then they also have business in Canada and UK with the UK being smaller, right. They just entered that over past year. So, it's not a Florida, it's based in Florida that's where they live and work. But it's not where the business is.

Donald J. MacLeod - Vice President and Assistant Secretary

Just to give you an examples, their last securitization only 12% of the loans were in Florida.

René F. Jones - Executive Vice President and Chief Financial Officer

So, I think really, you have got good quality loans. Think of it as commercial mortgages. They trade like CMBS. In fact, through the cycle they traded like CMBS. And so, the disruption that you saw for everybody and the securitization markets were actually everything shut down, is what they were dealing with. And in fact, they were actually able to sell their paper.

Joseph Fenech - Sandler O'Neill & Partners, L.P.

Got it. Thanks.

Operator

Thank you. Your next question comes from Sal DiMartino of Bear Stearns.

René F. Jones - Executive Vice President and Chief Financial Officer

Hi Sal.

Salvatore DiMartino - Bear Stearns

Hey, guys.Most of my questions have been answered, but if I can just ask two quick questions. One, you continue to do a great job on expenses and they were down again, especially salaries. Can you add a little bit of color what's going on in terms of the costs there and what the trends are going forward?

René F. Jones - Executive Vice President and Chief Financial Officer

Yes, I thought that on the salary side it was split between benefit and salaries. And the benefits part I think that we have talked about FICO coming down, being seasonal in the second quarter of the year, some other medical type benefits as well coming down. On the... that was on the benefit side.

On the salary side, we had a little bit of lower incentives and commissions. But really one of the things that we have got there some of businesses that you could imagine are having a tougher time this year are actually sort of addressing headcount issues and looking at where things stand, but, no big change there. I think that our expenses were a little lighter than I thought they would have been in the third quarter. And I wouldn't expect to see another decline like that in the fourth maybe, they rebound a bit. Advertising was a little low that won't continue. And so, again I think what you'll look for is a positive spread as you go into '08 and maybe that's 2%, 3%, 4% expense growth.

Salvatore DiMartino - Bear Stearns

Okay. And then just a follow-up question on the indirect auto. Can you just remind us of the footprint of that business?

René F. Jones - Executive Vice President and Chief Financial Officer

Yes. The footprint is predominantly our... our footprint that you know we also have relationships in New England, Massachusetts, Rhode Island, Connecticut. We go out a little bit to Ohio and then down into Virginia. So it's predominately in our footprint. That's where all the volume is and then we've sort expanded out into those bordering areas. And that we've been in each of the states that I have mentioned for some time, Massachusetts I would gather for three, four years at least or five years maybe.

Salvatore DiMartino - Bear Stearns

Okay. Thanks.

Operator

: Thank you. [Operator Instructions]. Your next question is a follow-up from Bob Hughes of KBW.

Robert Hughes - Keefe, Bruyette & Woods, Inc.

Hey. Thanks guys. Two additional questions, I guess. The $26 million increase in NPLs you saw related to the Alt-A book, was predominantly from the '06 vintage or '07 vintage that you put on in the first quarter?

René F. Jones - Executive Vice President and Chief Financial Officer

Is it concentrated on any one? I don't think it's concentrated in any one. But, I think the way to think about that Bob is that what's really different in our mortgage portfolio is that we take residential mortgages to non-performing after 180... '07 apparently has little higher. We take mortgages to non-performing after 180 days and we do that because, our experience has been that as you get closer to foreclosure, a lot of these things tend in the past... tend to work themselves out. So it's no coincidence that you see a higher increase in the third quarter after what we did in the first quarter. Right.

Robert Hughes - Keefe, Bruyette & Woods, Inc.

Yes.

René F. Jones - Executive Vice President and Chief Financial Officer

And, so you see that big lump there and you'll continue to see more added to that portfolio. I think if you look at it Bob, in the $2.3 billion, there is about $200 million of loans that are either scratch and dent loans in which our loans that couldn't be sold through to the third party for a particular reason. They missed their first payment or what have you. And then there are probably a number... a portion of second mortgages that we are focused on. And within that $200 million what we've actually had to do is set aside and hire additional services. We've hired 20 services to service that loan book, because what we're finding is that sort of working through that process and collecting... collecting on those loans is a little bit different from a traditional mortgage.

Robert Hughes - Keefe, Bruyette & Woods, Inc.

Okay. And then as a follow up to that. The loans that were put on in the first quarter were marked down at that time. So I'd presume that deterioration of those portfolios wouldn't necessarily drive higher provisioning requirements for a while. Is that the right way to think about that?

René F. Jones - Executive Vice President and Chief Financial Officer

What you're seeing is... again with those residentials it's no different from what I described in the other portfolios and to the extent that, that when you write down the value, because you're saying that you think... the market is basically saying that you're going to have higher delinquencies and charge-offs and so, as it moves through the cycle.

Robert Hughes - Keefe, Bruyette & Woods, Inc.

Yes.

René F. Jones - Executive Vice President and Chief Financial Officer

And you're providing for that. Clearly, if you think of a residential mortgage you should be able to figure out what's going to happen within a year to 18 months right. As you see those things go delinquent and ....

Robert Hughes - Keefe, Bruyette & Woods, Inc.

Right.

René F. Jones - Executive Vice President and Chief Financial Officer

So, that's what would be reflected in our allowance.

Robert Hughes - Keefe, Bruyette & Woods, Inc.

Okay. And then with respect to construction loans on non-accrual that are current or accruing, are those generally still just paying out of the interest reserve or are you seeing builders paying out of their own pocket?

René F. Jones - Executive Vice President and Chief Financial Officer

I think it's the former.

Robert Hughes - Keefe, Bruyette & Woods, Inc.

Okay. All right, that's it. Thank you, guys.

René F. Jones - Executive Vice President and Chief Financial Officer

Sure Bob.

Operator

Thank you. There are no further questions. At this time I would like to turn the floor back over to Don MacLeod for any closing remarks.

Donald J. MacLeod - Vice President and Assistant Secretary

Again we thank all of you for participating today. And as always, if a clarification of any of the items on the call or the news release is necessary, please call our Investor Relations department at 716-842-5138. Thank you and good bye.

Operator

Thank you. This does conclude today's conference call. You may now disconnect.

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