Valley National Bancorp CEO discusses Q4 2012 Results - Earnings Call Transcript

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Valley National Bancorp (NYSE:VLY) Q4 2012 Earnings Call January 30, 2013 11:00 AM ET

Executives

Dianne Grenz - IR

Gerald Lipkin - President and CEO

Alan Eskow - SEVP and CFO

Analysts

Steven Alexopoulos - JPMorgan

Craig Siegenthaler - Credit Suisse

Damon Delmonte - KBW

David Darst - Guggenheim Securities

Collyn Gilbert - Stifel Nicolaus

Matthew Kelley - Sterne Agee

Nancy Bush - NAB Research LLC

Operator

Thank you for standing by and welcome to the Valley National Bank Fourth Quarter Earnings Call. At this time all participants are in a listen only mode. Later we will conduct a question and answer session. Instructions will be given at that time. (Operator Instructions). As a reminder this conference is being recorded. I would now like to turn the conference over to Dianne Grenz. Please go ahead.

Dianne Grenz

Good morning, welcome to Valley fourth quarter 2012 earnings conference call. If you've not read the earnings release we issued early this morning you may access it along with the financial statements and schedules for the fourth quarter from our website, valleynationalbank.com. Comments made during this call may contain forward looking statements related to Valley National Bancorp and the banking industry. Valley encourages participants to refer to our SEC filings, including those found on Forms 8-K, 10-K and 10-Q for a complete discussion of forward-looking statements.

And now I would like to turn the call over to Valley's Chairman, President and CEO, Gerald Lipkin.

Gerald Lipkin

Thank you Dianne. Good morning and welcome to our fourth quarter earning's conference call. In spite of the challenging economic and interest rate environment, I'm pleased with Valley's performance, both for the current quarter and fiscal year.

During the course of 2012, we were able to expand our franchise onto Long Island, with the successful integration of State Bank of Long Island. We now operate over 20% of Valley's offices in New York, which we believe adds tremendous franchise value while providing significant expansion opportunities, both from a lending and deposit origination perspective.

Valley's geographic expansion is not focused on acquisition opportunities, alone, as we continue to seek de novo branch locations. Furthermore we recently completed the renovations at Valley's recently opened New York corporate headquarters, located at One Penn Plaza.

Many of Valley's New York City commercial lenders have already relocated to this location. In addition Valley's customer facing senior executives including myself now spend time in New York City meeting both current and prospective customers.

The New York marketplace is an attractive banking environment, both from a commercial and consumer point of view. Accordingly Valley has aggressively begun to expand its very popular residential mortgage banking activity into this market.

During the fourth quarter Valley introduced its successful $499 refinance program to this market and we are hopeful it will have similar success as it has in our New Jersey market place.

Application volume had already increased significantly and we anticipate the approved momentum to carry through 2013. Specifically, New York applications in January increased to over 250, versus a total of 322 New York applications for the entire fourth quarter.

Furthermore, our marketing efforts on TV and radio for the residential mortgage products have served as a catalyst for commercial loan growth in a market where the name Valley was not well known a year ago.

On a higher rigid basis across Valley’s entire footprint, residential mortgage banking activity set internal origination records during the fourth quarter. Over $530 million of residential mortgage loans were closed, compared to approximately $450 million in the prior quarter and about $385 million in the same period one year ago.

Valley sold $389 million in loans during the quarter, roughly more than the $380 million sold in the third quarter. The sequential quarter declining gain on sales from $25 million to $15.6 million is more a function of mark-to-market valuation adjustments, which Alan will discuss in more detail a little later.

Not to be misled by the record origination volume during the quarter, the impact of Hurricane Sandy on residential mortgage closings was significant. Furthermore, the impact on the volume of applications received was also dramatic. For the three months preceding the hurricane Valley generated approximately 1,500 mortgage applications per month.

In the days following Hurricane Sandy, application volume came to a whole and the average application volume for the rest of 2012 dropped to approximately 1000 a month. This will have an impact on closings in the first quarter of 2013.

However, application volume to date in January has been superb and based on production to date, the month will produce a record number of applications and will actually go on to make this our best application month ever with over 1,700 applications.

As Valley, mortgage banking is unique to our culture and has been structured accordingly. Valley employees deal directly with each and every customer usually to our branch network. As such, Valley has not incurred the typical infrastructure expenses associated with other large mortgage banking activities.

Our employees are not commission-based mortgage banking salesmen, but rather most are branch employees that have been registered under the SAFE Act and cross trained in an effort to bring more value to the customer.

Focusing on the operating efficiencies is paramount as the general lifespan of refinance mortgage banking activities is largely in line with the movement of interest rates.

Nevertheless, we anticipate that a rise in interest rates will signal a strengthened economy and reduce unemployment. That should open the door for the purchase of homes and our staff will be prepared to quickly switch gears to take advantage of that market.

Mortgage banking is not new to Valley. In fact, we have actively participated in secondary market sales to Fannie Mae and Freddie Mac for over the last 15 years. During this period, Valley has witnessed almost nonexistent repurchase requests from the agencies, which is a testament to the strict underwriting, quality control and processes employed in this area.

While the low interest rate environment has proven a catalyst to Valley’s mortgage banking activities and in essence established a foundation for the record 2012 gain on loans originated for sale, the impact to Valley’s and for that matter the entire banking industries net interest margin has been significant.

From the first quarter of 2012, Valley’s net interest margin has contracted nearly 30 basis points. We continue to manage the balance sheet, with an asset sensitive bias. Also, when interest rates do ultimately rise, we believe that the contraction in mortgage banking income should be mitigated by expansion in the net interest margin.

At Valley our focus has never been on maximizing current period earnings but rather on generating long-term, sustainable earnings in a range of different interest rate environments. We have a well-diversified balance sheet and operate arguably in one of the most desirable geographic footprints in the country.

General lending activity throughout the bank was strong in 2012. Not only origination records were achieved in residential mortgage, but throughout commercial lending as well.

In total, Valley generated over $1.4 billion of new commercial loans and commercial mortgages during 2012, an increase of nearly 25% from 2011. During the quarter activity was just as risk with commercial lending originations equaling over $350 million, an increase of nearly 7% from the prior quarter and 22% from the same period one year ago.

Unfortunately commercial mortgage re-finance activity has created an enormous hurdle to growing the commercial portfolio. As a result commercial loan balances outstanding for the period declines slightly from the prior quarter. The competition for high quality moderate loan to value commercial loans remains intense in our market place.

The larger money center institutions have become much more aggressive in pricing smaller credit facilities, which historically were of little interest to those institutions. Similarly, smaller, local community banks are equally as assertive on rate and term, and in some instances we believe overly flexible on traditional standard loan covenants.

Expanding the loan portfolio merely to demonstrate growth is not an objective at Valley. Generating positive returns, priced appropriately for both the inherent credit and interest rate risk is the focus at Valley. Often a challenging external environment leads to irrational behavior, such as extending duration or failing to price with the underlying credit risk.

At Valley our credit culture is the hallmark of the bank. We attempt to resist short term market pressures, which only create additional hurdles in future periods.

Quoting on large volumes of long term low interest rate loans at this time will ultimately place undue pressure on bank capital and future earnings, a lesson that seems to have been forgotten by many in our industry.

In our effort to continue to provide adequate returns to our shareholders during these challenging times, Valley continues to be ever vigilant in controlling expenses. During the past year we have implemented many significant cost cutting items that will contribute millions of dollars to our bottom line and we continue to explore all of our activities to seek out further saving.

We continue to be optimistic about the future. The impact of our mortgage banking program in New York is just now beginning to scratch the surface and we anticipate the mortgage pipeline to continue to be robust throughout 2013.

As commercial activities begin to rebound in our footprint Valley history in the marketplace, scale and community bank culture provide a wonderful platform to service the needs of the community.

We offer customer focused service, generally only obtained at a small bank with the lending expertise and scale of the larger regional bank. The improving economy coupled with Valley’s diverse and solid balance sheet should provide the vehicle for growth in 2013.

Alan Eskow will now provide some more insight into the financial results.

Alan Eskow

Thank you Gerry. The net interest margins of the quarter declined to 3.41% from 3.46% in the third quarter. As a result net interest income in the fourth quarter was approximately $3.3 million less than the prior period. The decline in both net interest margin and net interest income is largely attributable to the low interest rest environment, the decline in new quarter average earning asset and a few infrequent items.

During the fourth quarter approximately $600,000 of interest accretion on fully re-paid FDIC covered loan pools, which Valley accounts for under the pooled asset guidance of ASC 320 was recorded. This represents a decrease of approximately $1.5 million from the prior quarter. As a result the net interest margin was negatively impacted by approximately 4 basis points during the quarter.

Mitigating the sequential quarter decrease was an expansion in prepayment penalty fee income, recognized during the quarter. The increase in prepayment income of $3.2 million is attributable to both Valley’s originated and acquired portfolios. The recognition and amount of these forms of income is subject to a multitude of external factors and therefore we cannot predict with certainty whether Valley’s net interest income will benefit from similar adjustments in future reporting periods.

The low interest rate environment continues to pressure asset yields as the competition for high quality credits has intensified throughout the marketplace and as a result tightened spreads and ultimately reduced loan yields.

During the quarter, the weighted average yield of a new loans housing portfolio was less than 4%, which in part led to decline in the portfolio loan yield from 5.12% in the third quarter to 5.09% in the fourth quarter.

Similarly the yield on newly purchased taxable investments during the quarter was 2.08%, which led to the 19 basis point decline in linked portfolio yield. The desire duration within Valley’s entire investment portfolio is largely a function of bank’s macro-asset liability strategy.

As a result, to shorten the projected investment duration, Valley at times purchases mortgage-backed securities with higher coupons and associated high premiums. As of December 31st, 2012, Valley’s $1.3 billion mortgage-backed securities portfolio had approximately $45 million of unamortized premium or 3.5% of book value.

Based on current market prepayment speeds, on an annual basis Valley amortizes approximately $22 million, which equates to an average life of about two years. Although amortization of the premium negatively impacts the current mortgage-backed securities yield by approximately 1.7%, should interest rates rise, net interest income in the portfolio yield will expand, simply as the function of declining premium amortization. Alternately, should interest rates remain at historic low levels, the principle cash flow generated positively impacts the bank’s asset liability.

Valley’s fourth quarter total cost of funds was 1.25%, a decrease of 1 basis point from the prior period. The cost of deposits declined three basis points to 0.49% as the composition of noninterest bearing deposits to total deposits, increased from 29% to 32%.

Albeit slowly, Valley’s cost of funds continues to migrate down in the current interest rate environment. However, the compression on asset yields is far greater than the decline in the cost of funds.

Consequently, we anticipate continued margin pressure. The contraction from the fourth quarter to the first quarter may be larger than the current link quarter decline, due to uncertainty in the timing of interest accretion and prepayment penalties

Valley’s expanded mortgage banking activity continues to drive noninterest income. For the period, the gain on sale of loans equaled $15.6 million, compared to $25.1 million in the prior quarter. The decline of $9.5 million is largely due to the components, which drive the valuation as opposed to decrease in actual mortgage banking activity.

Three variables impact the total net gains reported by Valley each period. The gains on sales of actual loans sold, the valuation mark on loans held for sale, which we have elected to carry at fair value and the reversal of the prior quarter end valuation mark on loans held for sale.

In the third quarter Valley realized approximately $18.8 million of gains on actual loan sold, $7.6 million gain on the valuation mark on loans held for sale and a reversal of $1.3 million in income, attributable to the valuation of loan held for sale at the end of the second quarter.

In the fourth quarter the gain on actual loans sold equaled $18.4 million. The valuation gain mark on loans held for sale was $4.8 million and the reversal of the mark-to-market gain attributable for loans held for sale at the prior quarter was $7.6 million. As such, the loop quarter decline in net gains on sales on loans is largely attributable to the change in the balance of the held for sale portfolio between the second, third and fourth quarters.

As Gerry indicated earlier mortgage banking activity remains brisk, originations for the quarter totaled a record high and we anticipate significant future activity, assuming interest rates remain at their current levels.

Noninterest expense increased approximately $2 million from the third quarter, largely due to increases in occupancy and legal fees, partly mitigated by a decrease in employee benefit expenses. The increase in occupancy expense is largely attributable to an additional $1.6 million in rental expense recorded to adjust for the straight line recognition of expense on certain operating leases.

We anticipate less than 20% of the $1.6 million to be a recurring quarterly expense for such leases during 2013. Hurricane Sandy had an impact on overall operations during the fourth quarter. In addition to the impact on residential mortgage activity that Gerry discussed earlier, Valley recorded approximately $1 million in net losses on impaired branch location assets, caused by the hurricane and an immaterial amount of building repair expenses.

Insurance claims are in process and we expect some insurance recoveries related to the storm damage in the first half of 2013. In addition the hurricane had a negligible impact on credit quality to date there's only one $4.6 million commercial loan relationship based on nonaccrual status in the fourth quarter was directly linked to damage inflicted by the storm.

On the surface, total credit quality appeared to deteriorate slightly as compared to September 30th 2012, as non-performing assets increased approximately $10 million from the prior period.

However the linked quarter increase is largely attributable to one additional nonaccrual commercial loan relationship impacted by the hurricane and one other new nonaccrual commercial credit in the amount of $8.8 million in which the borrower is currently performing in accordance with the restructuring plan established.

Annualized net charge-offs to non-covered loans for the quarter equal 0.15%, improving from 0.21% for the third quarter of 2012. In fact, the current quarter net charge-off ratio is Valley’s single best quarterly performance, since the financial crisis unfolded in 2008. Although the nonperforming asset figure increased during the quarter, the current period decline in net charge-offs is positive.

Moreover, our conservative and detailed loan by loan quarterly impairment analysis of nonaccrual loans and TDRs totaling $206.7 million resulted in only $31 million in related specific reserves within our allowance for loan losses, without consideration for potential recoveries from a certain personal guarantees.

Our driving focus on substantial borrowed equity and personal guaranties in the loan underwriting process helps to minimize Valley’s absolute loss exposure when a loan seizes to perform in accordance with the original agreement.

This concludes my prepared remarks and we’ll now open the call to questions.

Question-and-Answer Session

Operator

(Operator Instruction). And your first question comes from the line of Steven Alexopoulos from JPMorgan. Please go ahead.

Steven Alexopoulos - JPMorgan

In terms of thinking about a core margin in the first quarter, Alan, should we back out the 6 basis point benefit to the loan yields and then assume more normal margin pressure putting somewhere around 331?

Alan Eskow

Yeah. I think so Steve. I mean again as I said, we don’t know what’s going to happen with things like accretion and prepayments but those are things that are really unknown to us at this point.

Steven Alexopoulos - JPMorgan

Okay. And then given the comments, I don’t expect pressure on margin in 2013 which is very consistent with what most banks are saying. But given that you’re selling some of your loan production, do you think you’ll be able to hold net interest income at least flattish in 2013 or should we expect that to decline for the full year?

Gerald Lipkin

I think at this point, we’ll probably see some decline. And I think looking forward in the budget process, we are seeing some decline but it’s really a function of volume. If the volume stays with us, obviously that will up the NII a lot, maybe not the margin but the net interest income.

So as long as that volume holds up, even though we’re selling residential loans, we would expect that we would be okay with the NII, the volume goes down then obviously it will negatively impact us.

Steven Alexopoulos - JPMorgan

Okay and then Gerry on the mortgage, regarding dropping the refi fee to $499 in New York, was that in response to volumes, maybe starting to slow a bit and how much do you make on average for loans sold in New York, compared to say New Jersey?

Alan Eskow

As I recall the loans in New Jersey run us, we make about $8,000 to $10,000 per loan. In New York it’s about half of that, but it’s still a healthy margin. That’s the reason we decided to expand the volume into New York, while we don’t make as much on the New York as we make on the New Jersey loans, mainly because of taxes and other expenses that we can’t control. It’s still profit.

Gerald Lipkin

I don’t think it was function of volume going down. Everything we have told you so far, the volumes are remaining where they were or going up. So it wasn’t in reaction to that. I think it was in reaction to the fact we’re in New York, we have a large amount of branches there, we have a lot of activity we’re trying to generate and we can make money on.

Operator

Your next question comes from the line of Craig Siegenthaler from Credit Suisse. Please go ahead.

Craig Siegenthaler - Credit Suisse

Can you provide a little bit more color on the pickup in repayments on the C&I side?

Gerald Lipkin

There is a lot of challenge out there right now on people trying to take advantage of the lower interest rates. So if a borrower has a 5% mortgage feels it’s worth paying the prepayment penalty, so they can re-finance it at 4% or whatever the number is, at the lower numbers. One of my concerns and I touched on it in my comments,

I think that the prolonged low interest rate environment is pressuring a lot of institutions to do what I’ll irrational pricing, irrational structuring. We see loans that are going out for 20 years at 3%. I am a believer that although I can’t identify when, that interest rates are going to back up.

The Fed is not going to be able to keep them at this level permanently and when they do go up, if you allow yourself to start making large volumes of loans like I just described, that institution is going to be facing a bigger challenge than the subprime residential mortgages cause. You are never going to be able to fund positively a loan at 3% if prime moves back to 6.

So I think you have to have a little caution. One of the benefits of my age, I guess, I have lived through an awful lot of cycles, and one of the things you get to realize is that interest rates are cyclical and they are going to go back up again, and if you burden yourself with low interest rate, long term obligations, you are facing a brick wall.

Craig Siegenthaler - Credit Suisse

And Gerry, the same question asked on the C&I side, I am wondering if you thought there is any seasonality in the fourth quarter of it the increase in tax rates drove you guys losing some of your C&I credits and also maybe M&A, any of those issues?

Gerald Lipkin

All of the above, I get to some degree. Historically a lot of our New York lines of credit have paid down in the December-January period. They borrow heavily for Christmas and actually starting in November they start to come down. I think that the hurricane had some effect on people’s decisions to move forward. Consumer confidence is not as strong as it has ever been. Obviously you read the paper today it’s not favorable. All these impacted negatively on that growth.

Craig Siegenthaler - Credit Suisse

And just one final question. It looked like there was a $7 million single construction loan that went delinquent in the fourth quarter. Can you provide us any color on that credit?

Gerald Lipkin

It was a construction loan that the borrower has been stalling, not doing what we felt they should. We took appropriate action with it. It’s not a trend.

Operator

Your next question comes from line of Damon Delmonte from KBW. Please go ahead.

Damon Delmonte - KBW

Alan, I was wondering if you could just kind of recap and provide a little more color on the reversal of the mark-to-market on the loans held for sale, and kind of how that works?

Alan Eskow

Yeah, I mean, I am trying to go the easiest way to explain it so everybody clearly gets it. I think the mark-to-market really just moves gains from one period to the next. It doesn’t mean that there was more or less in any period.

So for example if you looked at what happen of actual sales in the third quarter, as I said we had $18.8 million gains. If look at the fourth quarter, we had $18.4 million in gains.

If you took the $7 million, just let’s use that to get the second quarter for a moment. If you took the $7 million of mark-to-market at the end of the third quarter of loans that were not delivered, but they were on our balance sheet and fair valued as though they were sold, does that tell you fair value with, you would have shifted that. So instead of having $25 million for argument’s sake in the third quarter, we would have $18.8 million, and we would have shifted that $7 million into the fourth quarter.

So all it really did is it shifts the numbers around from quarter to quarter. It’s not really effecting the volume. Now that being said, in the fourth quarter we had a lower amount of inventory or loans held for sale that were fair valued. So that number was $7.3 million versus at the end of the third quarter, it was $4.8 million versus where we were in the prior quarter at $7.6 million.

So it’s like any accrual accounting works effectively. It’s like if you record an accrual for an expense at the end of any period, the next period you have to reverse that, so you don’t record the expense again. This is the same thing accepted on gains now instead on expenses.

So again you’ve got to continually reverse out whatever the fair value was at the end of period and that goes now as a negative when I begin the next period. Does that help at all?

Damon Delmonte - KBW

It does, I think I can follow that logic. Thank you.

Gerald Lipkin

It’s Gerry again. I think it’s almost easier. You can’t really do it you have to look over a 12 month period as it oppose to a three month period and it would level itself more. You would see more of a leveling.

Damon Delmonte - KBW

Right, right, yeah, I got you, I got you. And with respect to your expected organization volume here in the first quarter, could you just recap what you said in that. I know you said January was starting up pretty strong.

Gerald Lipkin

Yeah, we are over 1700 applications. That’s the highest month in the history of the bank, in the history of our programs or anything. The best month we had was somewhere in the, about 1640 was the highest we had before that and that was I think in September or August. We did get crushed, as I pointed out by Sandy. Literally the bank was closed for a couple of days. So, the application volume went to zero.

And in the period, the weeks following it, there was so much concern about how people not having electricity, not being able to get to work, people weren’t thinking about refinancing their home. So it took us probably about a month to get back. And then quite frankly over the Christmas holiday has never been a strong residential mortgage period. So they drops stood.

In January though it did come back as I say and our daily volume has been very encouraging. We saw record days, a couple of times during the month. In fact, just yesterday I was told was the second highest day we have ever seen. So we are really encouraged.

Damon Delmonte - KBW

And then just one another question on the expenses. There is $1.6 million related to the expense accrual for the branches. Is there is anything else in there that we should exclude, kind of going forward for starting point for the expense date?

Alan Eskow

Sure, there is small minor things that we did, that we just, you know …

Gerald Lipkin

There is not anything major though.

Damon Delmonte - KBW

Okay. So something in that 94 - 95 range is a good starting point then?

Alan Eskow

Yeah I think so.

Operator

Okay. And next we will go to David Darst with Guggenheim Securities. Please go ahead.

David Darst - Guggenheim Securities

Gerry. I believe in your opening comments, you were discussing, the branch network and expansion plans, maybe your consolidation. Could you kind of go back over those comments?

Gerald Lipkin

We are actually doing both. We are looking at all of our branches to make sure that they justify their existence, but at the same time we are looking at opportunities to expand. One of the things that has proved invaluable in our mortgage program is the fact that we have branches scattered throughout our marketplace, where we close the loans. Almost all loans closed at the branch. That’s very helpful.

The loans are sourced through the branches. They are, if you come in by telephone, the call center will send the application to the closest branch, so that it can be serviced at that level. So we give more of a local feel. We are looking at some other locations right now, either by opening up a full service branch or a loan production office or some other form of facility that we can service.

We're doing a nice volume of business in Pennsylvania but we have only one loan origination office there and it's not a branch, it's just a loan production office. We're seriously looking at opening up some additional offices of that nature so that we can do a better volume there.

So we are looking at all our branches, if they're not worth keeping open because of the bottom line, the volume of activity we see there, we'll close it. I know all banks are seeing a decrease in floor traffic in their branches; at least that's what I'm reading in all the trade publication.

So fortunately we found another use for our branches at the present time that we have forces that are existent, when you're not paying virtually any interest on certificates of deposit and money market accounts, you don't have a line of people coming into the branch, just trying to open up new CDs in money market accounts. So their floor traffic is down for that reason also. But fortunately we're seeing quite a bit of activity with the mortgages coming though the branches.

David Darst - Guggenheim Securities

Does that tie us back to the overall efficiency in your free ratio, do you have other initiatives that will allow you to maintain the efficiency ratio (inaudible)?

Gerald Lipkin

Yes, I'll give you one example. We went to eliminating the messenger services throughout our system and we use a direct, remote deposit capture system to pick up and handle all the checks that come into the branches. That savings we understand will be about a $2 million a year savings. So between the savings and the messengers and so forth.

Also, looking at the branches and how we stack them, 25 of our managers manage more than one office. Those are all significant savings. When you start to multiply the annual salary with benefits and everything times 25, you realize what the go forward savings are.

So we're looking at everything we do, not just one area. We like to keep the branch network going, if we can keep it efficient. If it doesn't remain efficient we have to make changes.

David Darst - Guggenheim Securities

Okay, Alan could you remind us what the balances of the single issue trust preferreds in your investment portfolio and the change in the fourth quarter?

Alan Eskow

There was no change, the numbers in the $40 or $20 range. Oh single, total single issuer?

David Darst - Guggenheim Securities

Correct.

Alan Eskow

I don't know the number off the top of my head. Yes, it’s in the couple of hundred million range but, we’ve had some call over the last couple of quarters but it’s been pretty actually quiet in the last three months or so. We haven’t really seen anything of it.

Gerald Lipkin

The good news is they haven’t been called because they are all real high quality, they’re paying and they’re all at substantial interest rates.

Operator

Your next question comes from the line of Collyn Gilbert from Stifel Nicolaus. Please go ahead.

Collyn Gilbert - Stifel Nicolaus

So quick housekeeping items. First, Gerry given the comments that you had made a little bit to go on mortgage banking and the reversal that you’ve obviously seen since the beginning of the year in terms of application volume, could that suggest a higher level of mortgage banking income in the first quarter and beyond, relative to what we saw in the fourth quarter then?

Gerald Lipkin

It’s up. Yes.

Collyn Gilbert - Stifel Nicolaus

Okay. And then just one thing. Your CD rates still seem pretty elevated relative to where your current posted rates are and just where it seems like the market is. Is there something going on there? Remind us did you guys put out like a three year product? Okay.

Gerald Lipkin

Yeah, Collyn. That’s exactly what it was. There was a point in time when we probably did somewhere between three and five years CDs and they take time to run off, they were at high rates at the time we did them, no difference in borrowings that are out there from years ago. It’s the same exact situation and they are just going to take a couple of years to run down. They run down every single day. But unfortunately as I said before, everything is running down slowly in terms of those.

Collyn Gilbert - Stifel Nicolaus

Okay. And then I guess kind of a bigger picture question Gerry, your intro comments it’s clear that you’re taking which is typical Valley at very conservative sort of defensive posture in this environment. How do you think about your capital needs, should things start to turn and growth eventually pick up? Let’s say that you’re right and your peers are just crushing themselves by taking on these long duration assets and that would potentially put you in a better competitive position to grow. How do you think about sort of your capital levels when that comes? And I guess I’m drawing in on…

Gerald Lipkin

We have a pretty strong capital position today. We were ever mindful of that position. We want to maintain that strength, which has always been one of the whole marks of the bank. I just question why people would do such foolish things as put on large volumes of 20 - 30 year locked-in, low interest rate loans. We’d rather take the hit in some cases and do a swapped away floating rate from a fixed floating. We have done some of that and we are receiving what I would consider at the present time, a paltry interest rate, but I’d rather receive a very low floating rate now.

I have a loan. When rates go up that is going to increase and we underwrite the loans through an increased rate after that rate but we want to make sure that we are protecting the institution. We have to have a long term view.

Collyn Gilbert - Stifel Nicolaus

Sure, sure. Do you have sense that the irrationality that’s going on in the market, is that taking core customers away from you. Obviously again your pay downs have seemed much more elevated then I guess I would have thought. You talked about the commercial origination seem robust but yet we’re not seeing it in terms of growth. So it’s suggesting obviously pay downs are strong. Is there a risk that this irrationality is taking core customers away from you?

Gerald Lipkin

We lose some customers. In many cases we try to do something like I said where we will do a swap to hold on to the customer but we are going to be taking on the chin with lower income at the present time, rates go back up that income will come up, but it’s very difficult.

This is very similar to the sub-prime residential lending boom. You have to stand on the sidelines and take it on the chin saying that wait a minute, those are not something that you do, those are not the type of loans you should be making and time proves us right again and again, whenever a Fed came along and everybody else was doing it and we avoided it.

Alan Eskow

Collyn, its Alan. Let me just go back to your comment about the capital. We have always been pretty comfortable with capital as we are with our allowance and I think a lot of times, for years and years people have said well, your allowance is lower than everybody else’s, your capital is lower than everybody else’s.

But we look at it in terms of the riskiness of our balance sheet and just looking at the net charges we reported, even though we have a high number of non-accruals and so forth and so on. So that’s how we look at it. Also when Basel comes in, a lot of our assets are going to require less capital than many other institutions, because of the way we underwrite and the type of assets we keep and so that’s going to require us to have less capital.

However, if we do see at a period of time when growth is going on and all of the sudden the balance sheet is ready to grow again, then we’ll have to reassess the need for capital.

Collyn Gilbert - Stifel Nicolaus

My question wasn’t from a risk prospective because it’s clear you’ve got from that same point you are in great shape. I was just thinking about, capital is not growing currently and should that occur where you need more to support a larger balance sheet, what would be the thought.

And just one last question. So to me, one of your biggest competitive advantages, as you said today is your currency and your ability to do acquisitions. Can you just talk about that a little bit? Do you see any opportunity starting to emerge again? We have seen a couple of deals in the last two days, at least within the Mid Atlantic North East go off. Maybe just comment a little more on that if you could, Gerry?

Gerald Lipkin

I do see more activity taking place. I’m hearing more people who would like to do something. I think the marketplace is beginning to become more rational as to what their expectations that they are going to get. I think more and more institutions are coming to the conclusion that they just can make a profit. They don’t have the ability as we fortunately do to come up with a product such as our residential re-fi program to augment the drop in net interest margin, net interest income. So I think you are going to see a lot more probably in the second half of this year, but I think there is going to be enormous pressure on smaller banks.

Collyn Gilbert - Stifel Nicolaus

Does that mean Valley will be more active in the second half of this year?

Gerald Lipkin

Well it depends, whether we are able to get something at a price that we feel is appropriate.

Operator

Your next question comes from the line of Matthew Kelley from Sterne Agee, please go ahead.

Matthew Kelley - Sterne Agee

Just a question, there was a little bit of an uptick in the bill of sale, securities portfolio, would you buy and where should we expect that to go?

Gerald Lipkin

Yeah, we have posted, mostly we bought MBSs. We do buy some units municipals that are usually up for sale though but we do buy some MBSs from time to time.

Matthew Kelley - Sterne Agee

Okay, and do we think the balance increases from $2.4 billion at year end over the next year?

Gerald Lipkin

We are going to continue to watch it. We have a lot of cash flow coming out of that quarter. And so because of that we need to be cognizant of the fact that we don’t do something we end up building up a lot of cash at 25 basis points. So it’s really a balancing act between buying something else versus a loan. If we get enough loans in the door, then we’d be happy not to do investments.

Matthew Kelley - Sterne Agee

Another question, one of your peers in the marketplace did a blend and extend trade or announced it today on a large portion of their FHLB advances, which have high cost associated with them. Could you remind us of your thoughts on that $3 billion at 4%, how you do that?

Gerald Lipkin

We have done a fair amount of them already. I think we did $600 million or thereabout. I don’t think we want to go too far on that. As each year goes by, it gets closer and closer some of those maturities.

So we are not so sure we want to extend it out further into the 20s when we don’t know where rates are going to be or not going be. So we are not happy with where those rates are at the moment. They were done for a very specific purpose and since not that easy or cheap to get out of it.

Matthew Kelley - Sterne Agee

Okay got you. Question Gerry, just how would you characterize the New Jersey commercial real estate market today, versus six to 12 months ago. You’ve given some big picture updates in the past. I’d love to get your thoughts as you sit down with owners of buildings, talking about rent trends and occupancy levels and property moving, size up the market as you see it from talking your customers?

Gerald Lipkin

I think lot of it depends on the type of market you’re talking about. If you talking about apartment houses, garden apartments particularly in New Jersey, the rental market is very strong, occupancy is very high, vacancy accordingly is very low, and they are seeing a very good market.

If you talk about big boxes, it’s a mixed market. It depends who the tenant was. If you have a tenant that’s looking to shrink, I wouldn’t be happy if I had Barnes & Noble and particularly if it wasn’t in a strong market when they announce that they’re going to close a significant portion of their stores over the next year. So the big box market is a more vulnerable market. I think the strip centers are also experiencing some difficulties. Small little stores are closing out and they are not renting up quite as fast.

Matthew Kelley - Sterne Agee

What about B and C quality office properties that represent a bulk of what ends up on bank balance sheets?

Gerald Lipkin

We know when we lend, we generally get a very strong equity position in it. So it doesn’t stay on our balance sheet very long and it doesn’t usually even come to that. The borrower knows they’re in the better position. If they sell it to $0.75 on the dollar, they give it us for $0.50 on the dollar. So generally speaking we haven’t seen a big uptick in problem situations. They have been relatively flat, the situation with us.

Matthew Kelley - Sterne Agee

And just last question, what was the yield on the commercial real estate originations during the fourth quarter?

Gerald Lipkin

I think about 3.5%, in that ballpark.

Operator

(Operator Instructions). And your next question comes from line of Nancy Bush from NAB Research LLC.

Nancy Bush - NAB Research LLC

Gerry, could you just speak to the regulatory environment right now. Is it getting worse, getting better, stabilized and your cost related regulation, are they pretty steady state right now? Are they still doing fine?

Gerald Lipkin

I guess they have been pretty steady at a very high level as I’ve said before. It probably cost us at least $40 million a year more to run the bank today than it did seven, eight years ago, alright. That doesn’t help. I’m not so sure the regulators understand some of what they are doing. Forcing interest rate down for long periods of time, making long term borrowings very inexpensive is going to have a negative impact on banks.

Nancy Bush - NAB Research LLC

I am thinking more about the CFPB. Have we kind of seen the brunt of CFPB at this point or is there a lot more to come from your view?

Gerald Lipkin

I don’t know. One of the things that doesn’t really upset us that much are some of the qualified mortgage, the QM requirements, because they pretty much mirror our long term underwriting guidelines at Valley. We always required equity down by the borrower and on the home. We always look to control the amount of income that goes toward their debts. So, I’m not really as upset about that as some people might be. If you have a person who wants to lend with 2% down and 70% of the income going to the mortgage, then you are all offset, your volume is off. That’s not going to affect us.

Operator

And we have no further questions at this time.

Dianne Grenz

Thank you for joining us on our fourth quarter conference call and have a good day.

Operator

Ladies and gentleman that does conclude your conference for today. Thank you for your participation and for using AT&T Executive Teleconference. You may now disconnect.

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