Flagstar Financial - Q3 2024
October 25, 2024
Transcript
Operator (participant)
Hello, and thank you for standing by. My name is Regina, and I will be your conference operator today. At this time, I would like to welcome everyone to the New York Community Bancorp Third Quarter 2024 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session. If you would like to ask a question during this time, simply press star, then the number one on your telephone keypad. If you'd like to withdraw your question, press star one again. I would now like to turn the conference over to Sal DiMartino, Director of Investor Relations. Please go ahead.
Salvatore DiMartino (Head of Investor Relations)
Thank you, Regina, and good morning, everyone. Thank you for joining the management team of New York Community Bancorp for today's call. Today's discussion of the company's third quarter results will be led by Chairman, President, and CEO, Joseph Otting, along with the company's Chief Financial Officer, Craig Gifford, and our Chief Credit Officer, Kris Gagnon. Before the discussion begins, I would like to remind everyone that our quarterly earnings, press release, and investor presentation can be found on the investor relations section of our company website at ir.mynycb.com. Additionally, certain comments made today by the management team of New York Community Bancorp may include forward-looking statements within the meanings of the Private Securities Litigation Reform Act of nineteen ninety-five. Such forward-looking statements we may make are subject to the safe harbor rules.
Please review the forward-looking disclaimer and safe harbor language in today's press release and presentation for more information about risks and uncertainties, which may affect us. Also, when discussing our results today, we will reference certain non-GAAP measures, which exclude certain items from reported results. Please refer to today's earnings release for reconciliations of these non-GAAP measures, and now I would like to turn the call over to Mr. Otting.
Joseph Otting (CEO)
Thank you, Sal, and good morning, everyone, and welcome to our third quarter earnings call. We're actually pretty excited about the quarter and what we accomplished during the course of the quarter. And today, we're going to review the third quarter results, an update of our three-year forecast, and provide an overview on our key strategic initiatives. As I've mentioned in the past, it is important to the board and management team that we remain engaged with the analyst community and investors on our progress as we continue to transition for the remainder of 2024 and 2025. During the third quarter, we continued to make, you know, significant progress on multiple fronts towards our goal of becoming a diversified regional bank, which focuses on consumer, small business, commercial banking, private banking, and commercial real estate.
And some of the actions that we've taken over the last three to five months, you know, point us in that direction. Turning to slide three, under the first area, you will see that with our board transformation complete, we are quickly building out our middle market, commercial banking, and specialized industry lending verticals, with the addition of over 30 new hires in this space over the last 90 days. This includes seasoned lenders and the infrastructure to support them. In addition, we're excited, we also hired a new chief information officer. His name is Kris Higgins. Kris previously worked at US Bank and most recently was the CIO at MUFG. Kris brings tremendous amounts of experience, and will be a key asset, and leader in the company as we go forward as well.
One of the things I think we're most excited about is we continue to attract top-tier talent to the organization in virtually every area of the company, and I'm very confident in the leadership team in the bank. As far as our executing on our operating plan, this quarter was the second consecutive quarter of really solid deposit growth, both in retail and in the private bank. In the private bank, we're seeing many customers returning to the bank after the disruption earlier this year, and we are winning new relationships. Moreover, the private banking deposits are more moderately priced, having weighted average costs in the low 2% range. Last quarter, I talked about the opportunity to exit another $2 billion-$5 billion in non-core businesses.
During the quarter, we made the strategic decision to exit certain non-relationship-based businesses and reduced our exposures under some larger exposures where we syndicated our positions out within the C&I portfolio. As a result, the C&I loans declined $1.3 billion or 8% compared to the second quarter through the runoff of these loans. Our pro forma CET1 ratio, including the impact of the sale of the MSR and third-party origination business, is 11.4%, which compares very favorably to our peers. And, as a matter, you know, we do anticipate the end of this month, the first of November, of closing the sale of the servicing, MSR and third-party broker business to Mr. Cooper.
Also, we made significant progress in reducing operating expenses through headcount reductions and cost controls, while still investing in key areas like our commercial, private banking, and our risk infrastructure. Last week, we announced a workforce reduction plan, which will show up in our fourth quarter results, and in addition to that, we've also taken out significant non-personnel cost, as we focused the organization, and brought talent in to perform functions within the organization, and as Craig will speak to shortly, we are on track to meet our earnings forecast goals by year-end 2027. Under improved funding profile, and this is one of the areas that when Craig and I first arrived, we talked about increasing the liquidity in the company.
Our liquidity remains extremely strong at over $41 billion, resulting in an approximate 300% coverage to uninsured deposits. We also utilized a portion of our excess liquidity during the quarter to pay down $9 billion in wholesale borrowings, and during the month of October, we paid down an additional $1 billion, which will help improve our funding cost over time. Finally, there is our focus on credit and risk management. You'll get a chance to hear from Kris Gagnon, our new Chief Credit Officer. We have completed reviewing virtually the entire CRE portfolio. At the end of the third quarter, we were 97% complete, compared to 75% in the second quarter. We continue to proactively manage our problem loans and take appropriate action to de-risk the loan portfolio, including taking significant charge-offs and continuing to build our allowance for credit losses.
In addition, we continue to add both talent and resources in our risk management area as we build out our risk governance infrastructure. Slide four highlights the five key takeaways for the third quarter. The biggest takeaway from our perspective is that our multifamily borrowers continue to support their properties. During the first nine months of the year, approximately $2.1 billion of our multifamily reached their repricing date, and in most instances, these properties are repricing from the mid-3% to the mid-6% or higher. Of these loans, over 90% have either paid off or are at par or remain current. We also continue to reduce our CRE exposure. As Kris will discuss, we had another strong quarter in loan payoffs.
As you know, one of our key strategic goals is to reduce our CRE portfolio to about $30 billion over time, and these payoffs certainly will help us towards that goal. Deposit growth, as we've previously discussed, in our prior earnings call, was another one of the highlights this quarter. This growth, along with us paying down about a third of our wholesale borrowings, resulted in a positive shift in our funding mix. And lastly, I believe we are well positioned to successfully execute on our C&I strategy, which we've talked about trying to get significant growth in C&I, which I will discuss in the next two slides. On slide five, highlights the senior management team we have assembled within the commercial industrial space to drive our growth in this area.
Rich Raffetto oversees this effort and has assembled what I believe, as a longtime commercial banker myself, some of the best leadership in the industry, reflecting our commitment to this strategic area of growth. As you can see, we are hiring a proven group of individuals to execute on our business strategy. Slide six outlines our C&I strategy. We already have a good platform to build from, with approximately $16 billion of C&I loans. Our goal is to get that to $30 billion in the next three to five years by expanding our existing platform across middle market, corporate banking, and various specialized industries, and building out our product capabilities and to drive fee income and relationship pricing. Part of this build-out includes hiring more experienced bankers and support staff.
To date, we have brought in more than thirty individuals and continue to attract top talent. I'm really pleased with how far the management team has brought the company over the last seven months. We are building a great company that will be reflected in our future financial results, and I'll now turn it over to Craig, and I look forward to your questions.
Craig Gifford (CFO)
Thank you, Joseph. On slide seven, you can see our financial balance sheet information, and you can see that our CET1 ratio on a pro forma basis for the sale of the MSR business, as Joseph mentioned, is 11.4%. We ended the quarter with an actual GAAP ratio of 10.8%. The 60 basis point increase, you know, on a pro forma basis, reflects the lower RWAs from the sale of the mortgage transaction, as well as the increase in capital that comes from the small gain that we expect to recognize on the transaction. Joseph mentioned that we expect that transaction will close in the next couple of weeks. Adjusting for our AOCI, our pro forma CET1 ratio is 10.7%.
In general, we have lower securities unrealized losses than our peers, and you can see that our liquidity position is robust and continues to improve. Slides eight and nine present an updated forecast out through 2027, and I'll cover some of the more relevant changes from prior information that we provided. The most significant updates reflect an expectation that our nonaccrual loans will remain elevated through 2026, which Kris will discuss in more detail. We also reflect an expectation of a higher FDIC assessment cost level through 2026, principally related to our criticized and classified loan levels. There's a line switch between margin and fees related to the cost of sub-servicing deposits that go away this quarter, which I'll describe on the next page.
You can see that from a ratio perspective, the impact of those items does reflect an expectation from a EPS perspective of a reduced level of earnings in 2025 and 2026. But as we get beyond the non-accruals and the FDIC assessment increases, we would expect 2027 to be consistent with our previous expectations. Turning to slide nine, from a margin perspective, as I mentioned, we will have pressure on interest income related to a higher level of non-accruals out through 2026. Additionally, in 2025 and 2026, there's roughly $150 million of a change in remapping of interest expense on the custodial deposits, which reduces from prior forecasts, our net interest income and increases our non-interest income. So again, it's just a line switch.
If you think about margin, our margin does continue to improve beginning in 2025 through 2027, as a result, principally, of repricing of our commercial real estate and multifamily loan portfolio. We do expect that our margin has bottomed in the third quarter. You'll see the in our press release, the margin percentage. We expect a similar margin percentage in the fourth quarter and then increasing through 2025. Our provision for loan losses was impacted by a charge-off level net of recoveries of $240 million in the third quarter. We do have an expectation of a similar, although probably small, slightly less in the fourth quarter of charge-offs, and then tapering in 2025. Our expectation for the full year of provision for loan losses for 2024 is $1.1 billion to $1.2 billion.
That's an increase from our prior guidance, and that is related to our experience on the charge-offs associated with multifamily loans. As Kris will point out, the multifamily portfolio continues to perform quite well, and the vast majority of loans that are in our non-accrual portfolio continue to be current on their payments. From a non-interest perspective, non-interest expense perspective, we do expect a higher level of FDIC assessment, again, principally related to the criticized and classified portfolio. That has an impact of about $100 million a year in 2025 and 2026. Incrementally, in the fourth quarter of this year, the mortgage transaction will close in the next couple of weeks, but we had previously anticipated that it would be completed by the end of September.
Regulatory approvals delayed that a little bit, and that will have a little bit of a negative impact on expenses for the fourth quarter. These reflect those changes. Slide 10 shows the success that we're having on the deposit gathering front. As Joseph said earlier on the call, this is the second quarter of very solid deposit growth. We continue to grow deposits in the retail channel, up $2.5 billion or just under 8% this quarter. We also had a very good deposit growth quarter in the private bank, with deposits increasing $1.8 billion or 11% to nearly $18 billion, as our bankers are successfully winning new relationships and many customers are returning dollars to the bank. More importantly, the private banking deposits overall carry a lower cost, a lower cost of funds.
They're generally a more moderately priced. And now I'll turn the call over to Kris Gagnon to discuss our asset quality and credit metrics.
Kris Gagnon (Chief Credit Officer)
Thank you, Craig. If we turn to slide 11, we had just over $1 billion in commercial real estate payoffs during the third quarter, bringing the year-to-date amount to $2.6 billion. Importantly, these payoffs were at par, and approximately 34% of these payoffs were related to our substandard portfolio. If we move to slide 12, this is an update of our annual CRE portfolio review. Through the third quarter, we have reviewed 97% of the total CRE portfolio. That includes 97% of the multifamily portfolio, 93% of the office, and 94% of the non-office of the CRE. If we turn to slide 13, this is an overview of the multifamily portfolio. The key takeaways here are that year to date, we had $2.1 billion of multifamily loans repricing.
Of those loans, 34% paid off at par, and the remainder stayed within the bank. We'll talk about the repricing that we're facing going forward in the next slide. So slide 14 provides a few more details on the multifamily portfolio. Approximately 3% of the portfolio is left to review. These are loans with an average balance of $3 million, so we're getting to the smaller end of the portfolio. All of the largest loans in the portfolio have been reviewed, and nearly all the loans with rent-regulated units between 50% and 100% of total units have been reviewed. Where I want to spend a little bit of time, though, is on the bottom right side of the portfolio.
As you can see, through 2027, we have a significant amount of loans that, multifamily loans that are either going to reprice or mature. And the important thing to understand here is that as these loans enter a window, 18 months in advance, we reevaluate those loans, at current market rates and their ability to service those loans, the borrower to service those loans on the changed terms. This can lead to more severe classification of those loans if the result of the analysis is that the cash flow is either impaired or insufficient to service the loans appropriately. Moving on, to the office portfolio on slide 15. We reviewed 93% of this portfolio.
... Again, I think we've gotten through the largest loans, so this, the remaining 7% is generally smaller balance loans. We've been very proactive and aggressive in managing this portfolio. We've taken significant charge-offs through the years. With this portfolio, because of early on, the larger loans that we looked at, there were some idiosyncratic losses. I think we're largely through those issues. The officer reserves associated with the remainder of the loans in the portfolio is 6%, which compares favorably alongside our peers. Slide 16 is our non-office CRE portfolio. 94% of this portfolio has been reviewed. Most loans that remain re-reviewed are, again, they're the smaller end of the portfolio, which are non-New York City loans, and it's a very diversified portfolio. Slide 17 provides our allowance by loan category.
Our allowance for credit loss is up to 1.87% this quarter, compared to 1.78% the prior quarter. And then slide 18 provides some further perspective around asset quality. We have been diligently identifying problem loans and working towards resolution. You can see that on this slide, this quarter, we had approximately $600 million increase in our non-accrual portfolio. Important to note that, you know, 68% of these non-accruals are actually performing as agreed to the terms of their credit agreement. And this sort of relates back to the issue that we talked about before. As we put some of these loans on non-accrual or substandard, it is related to future ability to pay as they enter those re-pricing windows.
So with that, Craig, I'll turn it back over to you.
Craig Gifford (CFO)
Okay, thank you, Kris. Slide 19 depicts our liquidity profile. Overall, our liquidity remains quite strong due to the success of our deposit gathering efforts over the last two quarters. We have $41.5 billion of total liquidity, which represents about 300% of our uninsured deposits. Slide 20 summarizes our third quarter financials, and as I mentioned, the net loss attributable to common stockholders was $289 million, or $0.79 per share, principally driven by the provision expense for the quarter. It was also related to a lower level of non-interest income due to the sale of the mortgage warehouse portfolio, which closed in July. Joseph, I'll turn the call back to you.
Joseph Otting (CEO)
Okay. Thanks, Kris and, Craig. One final slide before we'll turn it over for questions. On slide 21, we show, NYCB's investment profile. We currently trade at 63% of tangible book value. We think of being able to move forward and deal with our credit issues, and then the emergence of our C&I strategy should help close that gap. This compares to 179% for Category IV banks and about 155% for regional banks. So a significant upside in the company as we execute on the business plan. I would also like to thank a number of you, recommended and suggested that we convert our holding company name. We chose, Flagstar Financial, with the symbol we'll begin trading on Monday at FLG.
This aligns the overall organization going forward with our Flagstar brand and the branches, which, between November and March of this year, we rebranded all the branches with a consistent brand, consistent look, and consistent theme now all across our retail banking franchise, which, you know, all of you know is California, Arizona, Florida, New York, New Jersey, and then around the Michigan Great Lakes. A really solid retail banking franchise. Finally, I'd like to thank each of our teammates for their dedication and determination and their commitment to our customers. Now we'd be happy to answer any questions you may have. Operator, you can open the line for questions.
Operator (participant)
At this time, I would like to remind everyone that in order to ask a question, press star, followed by the number one on your telephone keypad. We ask that you please limit your initial question to one and return to the queue for any additional questions that you might have. Our first question comes from the line of Manan Gosalia with Morgan Stanley. Please go ahead.
Manan Gosalia (Analyst)
Hi, good morning.
Joseph Otting (CEO)
Good morning, Manan.
Manan Gosalia (Analyst)
Appreciate all the color on the moving pieces between the old and new guide. Was any of the change from the change in the forward rate curve? Can you talk about how you think the balance sheet is positioned for rate cuts here?
Craig Gifford (CFO)
Yeah, so we're slightly liability sensitive. We will benefit from a bit from lower rates. We do have quite a bit of very short-term assets in our cash and securities portfolio, so we'll certainly benefit from a deposit side perspective, but there will be pressure on the on-balance sheet liquidity aspect of the portfolio. I would say, though, that we've been very successful in bringing down our deposit rates in the last six weeks. So on our more liabilities, our more rate-sensitive deposits, our savings portfolios and our CDs, we've actually have a higher than 100 beta. We brought down those rates between 60 and 75 basis points compared to the Federal Reserve move. So we've been very successful in tapering that.
The impact of that in the fourth quarter will be a lower level of deposit gathering on the retail bank, I would expect. I think that we'll be flat to slightly positive from a retail deposit gathering, and but I still think we'll see strength in the private bank, probably not as strong as the third quarter was, but we'll still see deposit growth in the private bank in the fourth quarter.
Manan Gosalia (Analyst)
Got it. And if I can have a quick follow-up. So it seems like the main difference between the two guides between last quarter and this quarter is the nonaccrual loans. So what's causing those nonaccrual loans to remain on the balance sheet for longer? Is it that you'd rather not sell them, given the pricing being offered in the open market? And would you consider selling them down the line?
Joseph Otting (CEO)
Yeah, you know, thank you for that question. Yeah, we're exploring all opportunities to reduce our non-accrual portfolio. We're working with borrowers to work them out. We're looking at discounted payoffs. We'll explore the market to see if there's an opportunity to sell. In some cases, so far, as we've looked at that, we think that we can do better working them out ourselves, as opposed to selling them. So those are some of the avenues that we're taking to reduce the portfolio.
Manan Gosalia (Analyst)
Great, thank you.
Operator (participant)
Our next question comes from the line of Ebrahim Poonawala with Bank of America. Please go ahead.
Ebrahim Poonawala (Analyst)
Good morning. Okay. I just wanted to follow up on the credit comments. So the 68% of loans are non-accrual, and the maturity profile that you showed through 2026, 2027, I'm just trying to get to. It looks like your provisioning outlook did not change quarter over quarter as you look into 2025, 2026. So are we to conclude that at this point, credit quality risk tied to repricing, all of that, even for loans that are coming up for repricing in 2027, has been ring-fenced either through reserves or these loans have been already put into non-accrual? So what I'm getting to is the risk of negative surprises on credit from here should be fairly limited.
Talk to us in terms of the rate sensitivity, like the five year being 20 or 30 basis points higher or lower from where it is today. Does that have a meaningful impact in that analysis?
Craig Gifford (CFO)
Ibrahim, thank you. So the rate profile is interesting, right? Because at the end of the third quarter, rates had come down at the five-year point, roughly 90 basis points, but since then, they've backed up about 35-40 basis points. So we were cautious in reflecting the improvement in rates in the reserving, recognizing that it can be transient. But I will say that the decrease in rate levels that we've seen is quite favorable to the portfolio, in our credit modeling, probably about a $200 million improvement in the credit risk profile as a result of the improvement in rates. And I would expect a similar level of that as rates continue if rates continue to decline at the intermediate term.
But importantly, it's that intermediate term point that is particularly relevant for the repricing of these loans. As Kris mentioned, if you look out into the projections from a provisioning standpoint, I do expect that the provisioning for the 2025, 2026 time frame is still relatively in line. I think that we'll see a higher level of charge-offs in the first quarter and tapering through the rest of the year. Kris pointed out on slide 14, the maturity profile or the reset profile of the portfolio. So we are effectively reflecting in our criticized and classified loans those loans that we would expect to reprice out through the middle of 2026, so that's eighteen months from now.
And if you look at that chart, then you still have a reset profile out beyond that, which would be reflected, as we then begin to regrade those loans as they move into that repricing window that we analyze from a loan grading perspective. But we feel like from a provisioning perspective, the guide reflects the impact of that.
Ebrahim Poonawala (Analyst)
That is helpful. And just one follow-up question, maybe, Joseph, for you. I think you talked about where the stock trades from relative to tangible book. I think the concern from an investor standpoint is just the lack of visibility. Like, we've seen a lot of senior hires that you've announced, but we saw the big change in 2025, 2026 earnings outlook relative to what we expected last quarter. Appreciate 2027 is the same. Just talk to us in terms of how we can measure all the senior hires that you're bringing onto the bank. Banking is a tough business, even to own a 10% ROE.
So I'm just trying to understand, is the goal and should we start seeing proof points of these teams have come, and we should see accelerated low-cost deposit growth, loan growth as we look even starting fourth quarter 2025? And what's the best way to measure that we are moving in the right direction in that, in that regard?
Joseph Otting (CEO)
Thank you, Ibrahim. I think it first starts with, like, how are we rebalancing the balance sheet and our goals there? You know, we're sitting, you know, somewhere slightly south of $45 billion in commercial real estate, and our goal is to get that into the low $30 billion range. And so we're doing that through a combination of payoffs, which, you know, are averaging somewhere around, since we've arrived, you know, roughly $1 billion a quarter. So obviously, that's $4 billion times three is $12 billion. So we naturally get there in a three-year period. So that rebalancing is occurring with going in our C&I book today, which is about $16 billion. In 2027, we would like to get that into the $30 billion range, is our goal.
And so most of us who have joined this company have spent the vast majority of our career in the C&I kind of space and grew up in it. And so we've gone out and have added really talented people who are highly experienced, who have operated in this space for, you know, some of us, 25-35 years. So we bring those relationships, and direct involvement with CEOs and CFOs, and companies that we bank. So to answer your question, we do see, you know, right away, the ability as these people come on to the organization, the opportunity to do outward bound solicitation into relationships.
And the other avenue is, if you look at the makeup of our C&I portfolio, it's very limited of that is commercial and corporate banking, and the type of people that we're hiring are commercial and corporate bankers. So it isn't like we're going into these, you know, syndicated credits or large one or two bank credits where we have a lot of exposure in that area. We are somewhat of a new entrant into that segment of the market, which should present us some pretty significant growth opportunities.
Craig Gifford (CFO)
The balance sheet projections, if you think about the portfolio that reprices and resets and the experience that we've had in repayments, if you look out on a projected basis, something between $750 million and $1 billion of commercial real estate and multifamily runoff per quarter over the next two years, and as we get into late 2025, a pretty. We're projecting a pretty similar level of increases in commercial banking and C&I growth from a loan perspective. We're also expecting that those bankers bring in deposits and that we will increase our deposit growth, starting in late 2025, pretty significantly through 2026 and into 2027. At roughly, think about it as roughly, a two for one basis, loans for deposits.
We're expecting that commercial banking group does bring in deposits that are supportive in funding that loan profile.
Ebrahim Poonawala (Analyst)
Got it. Thank you both.
Joseph Otting (CEO)
Thank you.
Operator (participant)
Our next question comes from the line of Dave Rochester with Compass Point. Please go ahead.
Dave Rochester (Analyst)
Hey, good morning, guys.
Craig Gifford (CFO)
Hi, Dave.
Joseph Otting (CEO)
Good morning.
Dave Rochester (Analyst)
Sorry if I missed this earlier, but I heard you mention the 2-5 billion of assets that you'd had assessed as noncore. You talked about that last quarter as well. Was just wondering where you guys stand on that now, just given the runoff that we've seen on the C&I front. And then are you still you know looking at the business and trying to analyze for core and noncore, and could that increase from here? How are you guys thinking about that?
Joseph Otting (CEO)
Yeah, we, we've done virtually a business review of all the businesses now in the company and are in the markets generating new C&I loans, while some of those had been tabled prior to our arrival. But we are, you know, the viewpoint, you know, overall is that the businesses that we have today, we like. There are certain aspects of some of the businesses where we wanted to reduce our exposure, either because where we are in the cycle in relationship to that industry, or, you know, our viewpoint was in some of the hold levels, and the company were larger than what our comfort level was. And so we brought the hold levels down and then brought participants in for those credits.
So, I'd say it's a combination of, you know, reevaluating where we are in the cycles for certain industries, and then the other is, reducing hold limits. The bank historically took very large hold positions in credit, and we just favor a more diversified portfolio.
Dave Rochester (Analyst)
Great. And where's the $2 billion-$5 billion now? Is that $1 billion-$3 billion, just given some of the runoff, or where do you see it today?
Craig Gifford (CFO)
We're not anticipating any significant portfolio repositioning in the near term at this point. I could see a bit more of the rescaling on some credits, but I think it'll be less significant than it was in the third quarter.
Dave Rochester (Analyst)
Great. All right. Thanks, guys. Appreciate it.
Joseph Otting (CEO)
Yep.
Operator (participant)
Our next question comes from the line of Mark Fitzgibbon with Piper Sandler. Please go ahead.
Craig Gifford (CFO)
Hello, Mark.
Mark Fitzgibbon (Analyst)
Hey, guys. Good morning.
Craig Gifford (CFO)
Good morning.
Mark Fitzgibbon (Analyst)
This quarter, you made some pretty sizable changes to your projections outlook over the next couple of years, and I guess I'm trying to get a sense for... You know, I certainly understand there's a lot of moving parts here, but trying to get a sense for how much more confidence you have in these projections than you did in the old ones, and whether we're likely to see similar kinds of variability in coming periods.
Craig Gifford (CFO)
Yeah, I would say that we continue to improve our visibility into the portfolio, into the credit performance, and into the expense profile of the company. This is now Joseph and my second quarter of in-depth review of the financials. We have instituted an in-depth review at the business line level each month on our financial performance with each of the senior leaders. So every month, we get more and more visibility. I have a pretty good degree of confidence in the non-interest income, excuse me, in the net interest income and the margin line at this point. Again, there's a bit of noise in the com- if one's comparing the projections because of the remap associated with the cost of those mortgage deposits.
We had projected that as a benefit in the margin line. It's actually a benefit in the fees line, which is where that has previously been recorded from an expense perspective.
... The other area is obviously what we're seeing from a non-interest expense perspective. We did take a pretty significant action last week that will improve our expense profile on an ongoing basis, roughly $200 million a year, and we still have more to go. This forecast expects that we will continue to identify efficiency opportunities, many of which are underway as we continue to improve our technology capabilities and our business processes. Those will result in further cost improvements as we get into the 2025 and early 2026 time frame. The FDIC assessment pressure is something that it's related to the business profile and related to the way the FDIC determines its insurance premiums.
It's a complex formula, but it does encompass some things that result in an increased rate for us, and I expect that'll go through 2026. That's probably the most significant change in the forecast from an earnings perspective.
Mark Fitzgibbon (Analyst)
Okay. And then just one quick follow-up. I'm curious, Craig, on your modeling, what are you assuming in terms of the balance sheet size, maybe at the end of 2025 and the end of 2026?
Craig Gifford (CFO)
We're essentially assuming a relatively flat balance sheet. We're assuming that we will see a transition from commercial real estate and multifamily loans into C&I loans, as the real estate loans repay and run off, and the C&I begins to come on as those bankers get traction in the marketplace. So not seeing a lot of balance sheet growth or projecting a lot of balance sheet growth through 2026, but we are projecting a degree of balance sheet growth in the commercial banking space in 2027.
Mark Fitzgibbon (Analyst)
Thank you.
Operator (participant)
Our next question comes from the line of Bernard Von Gizycki with Deutsche Bank. Please go ahead.
Bernard Von Gizycki (Analyst)
Hey, guys. Good morning.
Craig Gifford (CFO)
Good morning.
Bernard Von Gizycki (Analyst)
So my question is on revamping the company structure. You know, you've done a good job on bringing new hires on the senior management level and changing the board. You know, you highlighted progress within C&I. Can you just talk to, like, what inning you are in with regards to building out your C&I platform? And then in risk management, you know, given previous deficiencies identified, how far are you with revamping your risk control function? And then just lastly, on the same topic, any other further headcount optimization left to go that hasn't been announced?
Craig Gifford (CFO)
Yes. So, obviously, at the board level, you know, we announced that Peter, who is a longtime Flagstar board member, will be leaving the board, and we do anticipate to fill that position, hopefully in the fourth quarter. So that is kind of the remaining board spot. At the kind of what I would call the executive management team, we are fully deployed now, and with the addition of Chris Higgins, that completes the rebuild of the executive management. The next level down, you know, we've hired 10 to 20 people in that category, where we've upgraded both risk positions and infrastructure under Craig's world of finance people to help us prepare our financials. We have confidence in them.
And then when you look at the two specific areas you mentioned, I'd say in the C&I, we're rounding first base, is what I would say. You know, we anticipate to go from roughly 30 hires to 130 hires, is what's built into our plan that we will build that out. You know, we have a fair amount of hiring to do, but we're not hiring all those people at once. Now, we're going to start to grow the revenue, and so it'll be a revenue seeing the revenue, then we'll add the expense, seeing the revenue, add the expense. On the risk infrastructure, I think, you know, that's a relatively good story of the direction and how far we've come in seven months.
Obviously, we've added some really highly talented people who worked at the OCC for the vast majority of their careers. That includes Bob Phelps, Sydney Menefee, and Brian Hubbard. So, you know, three very senior people from the OCC, and it helped us. You know, one of the things that we're doing in the company is really building out the first and second and third line of defenses. Those were not here in the organization, and as everybody knows, a Category Four bank, you have enhanced standards you have to adhere to, but I really feel good about the people and the direction that we're going in, in that regard, and I do believe that we've worked closely with the regulatory community since we all arrived.
I mean, obviously, my background of being the comptroller, you know, I understand the importance of that, and so I think we've built a strong bridge to our regulators. We appreciate their input and guidance as we build this. But I would say as we look at the risk infrastructure, we feel really good about where we are with the risk management in the organization, our internal audit, and we're building out the first line of defense in the business units, and that's also built into our cost model.
Bernard Von Gizycki (Analyst)
Okay, great. Thanks for that color. Just maybe as a follow-up, so you paid down nearly $9 billion of borrowings, utilizing excess liquidity from, you know, the business sales and deposit growth. You know, you noted that you paid down an initial $1 billion in October. What are you targeting as a normalized level of borrowings, and how can we think of the pace of those coming down from here?
Craig Gifford (CFO)
Yeah, so thanks for the question. So if you look at the third quarter, we will have a reduction in the overall liquidity of about $3 billion related to the mortgage servicing sale, business sale. So, those deposits will leave, and we have been holding excess liquidity to provide for that. From here, I think that we'll relatively match the loan growth with deposit growth. We have a bit of excess liquidity that we will use to reduce our broker deposit funding in 2025 as those broker deposits, which are principally CDs-
... come due, I don't expect it will replace those broker deposits, on a dollar for dollar basis. So we'll see the broker deposit funding come down, and then as we grow customer deposits, particularly in the private banking and commercial space, then, we'll look to continue to repay some of our wholesale borrowings with the Home Loan Bank. But I wouldn't expect that it would be material in the rest of 2025, and, excuse me, the rest of 2024, and then 2025, maybe a couple of billion dollars.
Bernard Von Gizycki (Analyst)
Okay, great. Thanks for taking my question.
Operator (participant)
Our next question comes from the line of Jared Shaw with Barclays. Please go ahead.
Craig Gifford (CFO)
Hi, Jared.
Jared Shaw (Analyst)
Hey, good morning. Thanks. Yeah, just circling back on the deposit trends, could you give us a spot rate on the deposit costs at the end of the quarter? And then, you know, you talked about a beta, the early beta being greater than 100% on some of the retail deposits. How should we be thinking about beta over the next few rate cuts?
Craig Gifford (CFO)
Yeah, so our spot rate on our savings is at 5%. That was about 5.55%, if you call it six months ago, even three months ago. So we brought that down over 50 basis points, and I would expect to see that continue to decrease as rates decline here in the fourth quarter a bit further. Modeling from an overall interest-bearing deposit perspective, I'm modeling a 50 beta. Obviously, on the more premium product, it'll be more significant than that. And from a private banking perspective, again, we see... That's a more moderate deposit base because it has more non-interest-bearing DDA type of accounts there. So when we bring on those deposits, generally, that has not been at our most premium rates.
It's been at a more moderated rate, and that's what I would expect going forward.
Jared Shaw (Analyst)
Okay, all right. Thanks. And then as a follow-up, how should we be thinking about the multifamily reserve level here with the expectation, you know, for higher, higher losses? Have you been reserving for that? Or, you know, we should expect to see that reserve level start to go higher with the provisioning going forward?
Craig Gifford (CFO)
As a balance of the expectations around the criticized and classified portfolio, as well as the level of charge-offs, I don't expect to see the reserve level coming down significantly in the fourth quarter and the first quarter. Beyond that, as we get into 2025 and 2026, particularly as the portfolio gets through a lot of the repricing and we see how the borrowers perform against that repricing, that'll inform where we go with reserve levels. But I think we'll see a pretty consistent reserve level for the next quarter or two.
Jared Shaw (Analyst)
Great. Thank you.
Operator (participant)
Our next question comes from the line of Ben Gerlinger with Citi. Please go ahead.
Ben Gerlinger (Analyst)
Hey, good morning.
Craig Gifford (CFO)
Morning.
Ben Gerlinger (Analyst)
Just wanted to clarify something here in your guide, or the forward couple of years, because I believe, Craig, you talked about the remapping. So if you look at NII change and then fees change, and the remapping was kind of associated with the ECR, so the just remapping of a couple of items. So net revenue is down $5 billion. Is that that's kind of what you wanted to convey? I just wanted to make sure that's the change associated.
Craig Gifford (CFO)
Yeah, to keep it simple-
Ben Gerlinger (Analyst)
Revenue difference.
Craig Gifford (CFO)
To keep it simple, in 2025 and 2026, there's $150 million that moves from net interest income to non-interest income, and that's associated with the earnings credit on the escrow deposits on the subservicing escrow deposits. Incrementally, I do expect a higher level of nonaccruals than what we had previously contemplated out through 2026, and that has an increased level of pressure in the guide for 2026.
Ben Gerlinger (Analyst)
Gotcha. Okay. And then from an ECR, or excuse me, from an expense guide perspective, you guys increased it $150 million. So when we think, is the $100 million of that roughly the FDIC, that guide for kind of just the credit items-
Craig Gifford (CFO)
That's right.
Ben Gerlinger (Analyst)
Which is really just temporary. Like, once you have lower rates, you assume you could probably do a little bit better on the credit review, and since that doesn't get taxed, it's not tax-deductible, that's kind of what the difference is. I, I noticed the footnote here, so I'm just trying to think, like, your guidance really didn't change, but you're just kind of elongating that expense.
Craig Gifford (CFO)
Particularly with respect to the FDIC, that's correct. Yeah, the piece related to taxes is mostly because the tax rate moves around quite a bit, and that's because the FDIC piece is pretty sizable. The FDIC assessment is pretty sizable, and being nondeductible, it represents a fairly large percentage of the bottom line over the next two years, and that causes the tax rate to move around. So that footnote is just explaining the tax rate.
Ben Gerlinger (Analyst)
Gotcha. So when we think about the rate perspective, if you were to move rates lower, back to kind of where they just were recently, a couple weeks ago, you'd probably get a little bit more of a green light to change. But how long do you need to be in that green light? Do you need 12 straight months before things would look better on a credit perspective due to the rates? Or I'm just trying to think about the timing of which you think it'd look like it's better, but you can't just oscillate these things quarter to quarter based on rates themselves.
Craig Gifford (CFO)
Right. We can't move them around, and the other challenge is that once we do have a downgrade, the rates have to move pretty substantially in order for us to be able to upgrade the loans, and so that pressure continues out for a couple of years. I do expect it'll be through 2026.
Ben Gerlinger (Analyst)
Gotcha. Okay. Appreciate the call. Thanks, guys.
Operator (participant)
Our next question comes from the line of Christopher Marinac with Janney Montgomery Scott. Please go ahead.
Christopher Marinac (Analyst)
... Hey, folks, good morning, and thanks for hosting us. Just wanted to clarify if the substandard and special mention loans are falling this quarter or kind of what you see as their trend from here?
Kris Gagnon (Chief Credit Officer)
Yeah, in the fourth quarter, I would expect to see that our special mention and substandard loans will continue to increase, not at the pace that we've seen thus far, but as we still have a bit of financial information to get through, and we have things moving into the repricing window. So I think the trend would be for an increase in substandard and special mention.
Christopher Marinac (Analyst)
Okay. And they are higher at the end of September, just given the inflow, outflow. I mean, I need the payoffs, but you also push the new loans in from the repricing schedule, as you said. Is that right?
Kris Gagnon (Chief Credit Officer)
That's correct.
Christopher Marinac (Analyst)
Okay, got it. And then on the general cost of funds for the company going forward, how would you look at that relative to wherever Fed funds goes? Like, if we look at a year from now, if Fed funds is four, for example, would the cost of funds be at a more of a discount to that than it is today?
Craig Gifford (CFO)
I'm thinking about the math of your question. I think that the answer would be our average cost of funds would be at roughly the same discount that it is today in total. If you think about our funding profile, about half of our funding profile is very short-term priced, and the other half is either non-interest bearing or longer-term priced. So you can kind of do the math of that. As the Fed moves the short-term price component of that, I expect that we'll see a very high beta on that. So virtually all of our wholesale funding at this point is priced something under a year. And of course, our savings deposits are move immediately. So I think that you'll see that discount roughly remain roughly the same over time.
Kris Gagnon (Chief Credit Officer)
The mix will change a little bit with wholesale. With more C&I customers coming on board, the mix of that will move more to transaction accounts, which should help as well.
Christopher Marinac (Analyst)
Great. Great, thank you very much for that background.
Kris Gagnon (Chief Credit Officer)
Yep.
Operator (participant)
Our next question will come from the line of Chris McGraty with KBW. Please go ahead.
Chris McGraty (Analyst)
Good morning. The loan-to-deposit ratio, is it about where you would like it to be longer term, kind of low 80s%?
Craig Gifford (CFO)
I'd actually like to see it be a bit higher. I think that we'll continue to gather customer deposits. Over the course of the next two years, we'll see a relatively flat overall balance sheet and continue to gather deposits. And so I would expect that it would improve, that we'll see a continued decrease of the loan-to-deposit ratio, but it won't be of the significance that we've seen in the last two quarters.
Chris McGraty (Analyst)
Okay, great. And then just a couple of housekeeping items for the fourth quarter. Just teasing through the one-timers that are in the guide. Could you just help spell out the fees and expenses for the fourth quarter, and also the share count once all the preferreds are converted? Thanks.
Craig Gifford (CFO)
Yeah, so the share count has pretty much settled down. The end of quarter share count will be, is reflective of the expectation on a, on an ongoing basis. Virtually all of the preferred that I expect will convert in the near term, has did convert in the third quarter, and that's, that's been public information. From a one-timer perspective, in the fourth quarter, I do expect that we'll see some charges associated with the mortgage, mortgage business transaction exit. So we'll have some asset impairments and a bit of severance, and then the action that we took last week will also have some severance associated with it. All in, I think that those charges will be in the $100 million range.
Chris McGraty (Analyst)
Okay. Great. Thank you.
Craig Gifford (CFO)
You're welcome.
Operator (participant)
Our next question comes from the line of Matthew Breese with Stephens. Please go ahead.
Matthew Breese (Analyst)
Hey, good morning. I was hoping we could first talk a little bit about loan portfolio yields. So loan yields have been down for, you know, four consecutive quarters, despite kind of a positive repricing narrative and repricing dynamics within CRE and multifamily. So I guess, you know, how much accretion was there this quarter within loan yields? How much impact did non-accruals have, and when do you think we can actually start to see loan yields begin to expand?
Craig Gifford (CFO)
Yeah, the majority of the impact on from decreasing loan yields is from the non-accruals. There is not much accretion at this point that's built into the margin or that would go away. It's maybe $15 million a quarter that tapers off over the next four quarters. If we think about from a repricing perspective, you can see that we've got about $5 billion a year that we'll reprice, and that moves up from an average rate of about three and a half to, in our forecast, we do have rates coming down, but at that intermediate-term level, not a lot. So we see that those loans, as they come in from a repricing perspective, reprice from the three and a half level up to the seven and a half level.
So that's what's driving the increase. And I do think that we'll see that, that turn in the fourth quarter a bit, and then as we get into 2025, and we see less incremental non-accruals than what we've had on a quarterly basis the last two quarters, then we'll see that turn positive.
Matthew Breese (Analyst)
Got it. Okay. And then I just wanted to go back. You've noted that you expect the balance sheet to be flat a couple of times now. If I look at the forward guide, you know, the NII and then guided implies that you'll take earning assets down to around $102 billion in 2025 and 2026 from $109 billion today. Can you just talk a little bit about that? And then, you know, the pros and cons of going below $100 billion as it relates to Category Four bank designation. It feels like you're hesitant to go that route, to go sub-$100 billion. I'm curious if there's more to it than we currently understand.
Joseph Otting (CEO)
Regarding the $100 billion level, you know, if you work your way through that, if you get below $100 billion, you still have four quarters that you are anticipated to be compliant with the Category Four, and then from a regulatory perspective, when you start to get close to $90 billion, you have to put in place a plan to become compliant. Just because you get below $100 billion, doesn't mean that you don't have to have the enhanced standards. That isn't, like, our target to get below $100 billion. Instead, what we've taken the approach was to build out the appropriate risk infrastructure in the company and then allow our business model to take it where we can grow and expand.
It isn't a goal of ours. It isn't a desire, and quite frankly, you'd probably have to shrink $20 billion or more to get to the point where you wouldn't be subject to those standards.
Matthew Breese (Analyst)
Understood. Is my thinking correct, in that earning assets could shrink, you know, $5 billion-$10 billion here?
Craig Gifford (CFO)
Yeah, but I think that there's a reasonable chunk of that is actually coming out from a cash perspective. So it's earning, but we're deploying that cash either to pay down debt or to pay down broker deposits. So there's the loan portfolio. I don't expect it to be decreasing as much as the cash component.
Matthew Breese (Analyst)
Appreciate that. Thank you.
Craig Gifford (CFO)
Mm-hmm.
Operator (participant)
Our next question comes from the line of Jon Arfstrom with RBC Capital Markets. Please go ahead.
Jon Arfstrom (Analyst)
Hey, thanks. Good morning, guys.
Joseph Otting (CEO)
Morning.
Jon Arfstrom (Analyst)
I don't know if this is an easy question or a hard question, but if the economy stays in kind of a steady state, when do you guys think we'll see the peak in non-performers?
Craig Gifford (CFO)
I think the repricing that comes into the portfolio over the course of the next two years will continue to have a component of it that moves into non-performing. So I think we'll see a continued level of new additions to non-performings through 2026. Then the question becomes how quickly will we be able to action the existing portfolio of non-performers? Many of the loans that are in the non-accrual category are in there because of our focus on looking out at the repricing characteristics and a pretty stringent assumption that, or a criteria that, from a classification standpoint, would suggest that we expect them to default. The reality is that we see the vast majority of them continuing to perform, even when they do reprice.
And so that will, those loans are performing, they are, amortizing their principal balances, but I think it will continue to see new loans being added to the nonperforming portfolio over the course of the next two years as loans reprice.
Jon Arfstrom (Analyst)
Mm-hmm. Anything unusual about this quarter in terms of the review? Obviously, it didn't go up like last quarter, but are you saying this is increasing at a decreasing rate, or how material do you expect it to be, the increases?
Joseph Otting (CEO)
Yeah. No, there wasn't anything particularly unique about this quarter. We just continued to run our process. You know, we still had some financials to grind through. The level of new substandards, you know, sort of at the same pace that we saw before. We've gotten through the bigger loans, it's smaller, so we're looking at a lot of smaller loans that, more widgets, but there wasn't much of a change. We're just sort of getting through it. This is an annual process. You know, as Craig said, this will continue. Each year, we'll have to do new financial reviews and review these loans as they're getting into the refinance window, but so I wouldn't say that there's anything unique.
The one thing that I would add is, Kris says this is an annual process, but we went to a standard on the expectation is that the borrowers would provide us the financial data, and perhaps in the past, there was more lax about whether they sent their financial data into the company, and then second of all, I think there's a new standard of underwriting around debt service coverage and loan-to-value, as opposed to using loan-to-value for the risk rating process.
Jon Arfstrom (Analyst)
Yeah.
Joseph Otting (CEO)
And so that in itself, there's more rigor around your primary and secondary source of repayment.
Craig Gifford (CFO)
Yes, I agree with that, Joseph. That we were very aggressive in terms of getting financial information. I think 98% of our borrowers provided financial information, which is significantly higher than in the past. And we did, in the second quarter, institute changes relative to how we evaluate risk, with more of a focus on debt service coverage ratio than, as Joseph said, as opposed to loan-to-value. But, you know, that process started in the second quarter and continued on into the third, and that will be our standard going forward.
Jon Arfstrom (Analyst)
Okay. That helps, and then just two others. You guys do a lot of benchmarking in the presentation, and I know this isn't an easy question, but what do you think the normalized, more normalized reserve percentage should look like for the company in 2026 and into 2027?
Craig Gifford (CFO)
From a provisioning or overall reserve percentage?
Jon Arfstrom (Analyst)
Overall reserves. Overall reserves, yeah.
Craig Gifford (CFO)
... Yeah, you know, I think our portfolio is pretty idiosyncratic, and it kind of depends on how the portfolio performs as we transition into a more C&I-based portfolio and balance the portfolio. I think that you'll see the C&I reserve levels will be substantially lower than what the commercial real estate levels on the existing portfolio are. And so that will have an impact, but it will really depend on the portfolio performance.
Joseph Otting (CEO)
Yeah, portfolio mix is very important.
Jon Arfstrom (Analyst)
The mix. Okay. You said the mix. Okay, I understand that. And then, on slide nine, and then some of your comments about the margin thinking. I hate to ask it this way, but is that the easy part of the formula, just the margin lift from CRE repricing? Is that just the natural output of the maturity schedule, and you have high confidence in that margin trajectory?
Craig Gifford (CFO)
Yeah, the bulk of that, the margin percentage is a combination of the repricing of the commercial real estate multifamily portfolio, but it's actually tempered a bit with the C&I build because we expect that the C&I loans would have a slightly lower overall spread than the commercial real estate and multifamily loans as they reprice, so it's the lift from the repricing balanced with the growth in the C&I portfolio.
Jon Arfstrom (Analyst)
Yeah. Okay. All right. Thanks, guys.
Operator (participant)
Our final question will come from the line of Steve Moss with Raymond James. Please go ahead.
Steve Moss (Analyst)
Good morning.
Joseph Otting (CEO)
Hi, Steve.
Craig Gifford (CFO)
Hi, Steve.
Steve Moss (Analyst)
Just wanted to follow up on nonperformers here. You know, the multifamily bucket was the driver of the increase this quarter, and I'm just curious if that's related to, you know, the roll-forward setup in terms of the eighteen-month look forward on, as you analyze what's substandard and criticized. And just if, you know, maybe there'll be certain quarters we'll see this step up, given the repricing dynamics stretch out into 2026 and pick up in 2027, or, you know, if there's something special this quarter about the, something else that drove that.
Craig Gifford (CFO)
This quarter is a combination of getting through more of the portfolio. We moved from 75% to 95% of the portfolio and another quarter coming into the eighteen-month window, so to speak. Moving forward, we have a little bit more of the catch up to do, but not much. Then we'll each quarter have more loans that will come into the window. It's about $1 billion a quarter for the next four quarters that comes into the window, and then the 2027 repricings that move in are about $1.5 billion a quarter that move into the window for evaluation. And when they do, some portion goes to substandard, some portion remains in pass graded.
But that repricing pathway is what will drive it moving forward once we get beyond fourth quarter, where we've gotten through the full portfolio review.
Steve Moss (Analyst)
Okay. And then just one follow-up here in terms of... I know that the secondary market seems to have improved here in the past couple months. Just curious if you think there's any potential for an acceleration in prepays for the multifamily portfolio, you know, just given the shifting rates. I know we've had a backup here in the last couple of weeks, but I'm just curious if there's any possibility.
Craig Gifford (CFO)
So, so-
Joseph Otting (CEO)
One comment I would have, you know, obviously, when rates, as Craig mentioned, backed up a bit, there was somewhat of a flurry of a lot of people locking in rates. I think because they've, you know, now increased back up slightly, people are waiting to see the next Fed move, but that should spur a fair amount of refinancing. And what we're finding is people are coming out of pocket to rebalance loans, and our, you know, objective would be for them to take those loans elsewhere and get financing. So we have found in the number of the large office transactions we have, as you probably noticed, we moved one large transaction to held for sale. We do expect in the month of November to close that transaction.
We marked it at what our agreed-upon sales price was for that transaction, and there are a number, four or five other large transactions were under discussion at this point. There is interest, even in the office space, for investors. You know, some of those we're selling at where we have it marked, and some of them we're taking slight losses. But overall, we do think that will pick up, and then on the multifamily side, there has been kind of a renewed interest, even in the rent-regulated space for people looking for assets in that space. We are optimistic that the next couple of quarters, as we did bring on a new head of our workout group, has organized that group with a team who is doing outreach to customers and having dialogue.
We have an assigned kind of SWAT team that's taking that on. We do think we'll see the fruits of that activity going forward.
Steve Moss (Analyst)
Okay, great. Really appreciate all the color. Thank you very much.
Craig Gifford (CFO)
Thank you.
Operator (participant)
With that, I'll turn the call back to Joseph Otting for closing remarks.
Joseph Otting (CEO)
Okay. Hey, thanks. Thank you for taking the time to join us this morning. We very much appreciate your questions and your interest in the company. Craig and I are usually readily available if you would like to have dialogue or further questions. If you do, please contact Sal, and he'll arrange time for us to talk. And I'd just like to say, this is the closeout of them for us at New York Community Bancorp as the holding company, and look forward to next time we're meeting, being under the Flagstar Financial banner. So thank you very much.
Operator (participant)
That will conclude today's call. Thank you all for joining, and you may now disconnect.