WSFS Financial Corporation 3rd Quarter Earnings Call - WSFS FINANCIAL CORP

Financial Performance:

• Core EPS reached $1.75, with a core Return on Assets (ROA) of 1.58% and core Return on Tangible Common Equity (ROTCE) of 20.7%, all exceeding prior quarter levels.
• Year-over-year Core Pre-Tax Pre-Provision Net Revenue (PPNR) increased 15%, and Core Net Income rose 14%, resulting in 25% Core Earnings Per Share (EPS) growth.
• Net Interest Margin (NIM) expanded 1 basis point quarter-over-quarter to 3.88%, driven by loan growth and higher investment yields, partially offset by a 4 basis point rise in deposit costs.
• Core fee revenue declined 1% sequentially but grew 3% year-over-year, accounting for nearly one-third of total revenue.
• Gross loans grew 1% sequentially (5% annualized); excluding the spring equity portfolio runoff, loans grew 2% sequentially and 7% year-over-year.
• Average core deposits rose 10% year-over-year, with non-interest-bearing deposits growing 20%; these now constitute 35% of total average deposits.
• Core non-interest expenses decreased 3% sequentially and were flat year-over-year, driving the efficiency ratio down to 56.1%.
• Asset quality remained stable with a net recovery in Q3; year-to-date net charge-offs were 3 basis points of average gross loans, and delinquencies fell 11% year-over-year to a two-year low.
• Problem assets increased $57.5 million (12%) sequentially due to downgrades in multifamily, construction, and CNI but remain down 16% year-over-year.
• Returned $70 million to shareholders ($60 million via share repurchases); year-to-date repurchases total 5.6% of outstanding shares, with over 90% of net income returned.

Guidance and Future Outlook:

• Management anticipates exiting the current rate cycle with a cumulative interest-bearing deposit beta of 35%, assuming a December rate increase, though normalized beta is expected to trend toward 45-50% over time.
• Forward NIM outlook suggests a 2-3 basis point increase per 25 basis point rate hike, contingent on deposit beta management and competitive pricing.
• Deposit and loan growth are expected to normalize to mid-single-digit rates (approx. 5%) for the medium term.
• Credit outlook remains positive; management expects year-end net charge-offs to be better than previous guidance due to a favorable trend of recoveries.
• Long-term capital return target remains at a 12% Tangible Common Equity (TCE) ratio, though buyback pace may slow if interest rate volatility impacts the TCE ratio.

Business Segments and Product Lines:

• Wealth & Trust: Grew 30% year-over-year, now representing 60% of total fee revenue; delivered double-digit growth for eight consecutive quarters.
  • Institutional Services: Corporate Trust and Global Capital Markets grew 45% and 48% respectively, driven by new mandates and market share gains.
  • Personal Trust: Grew 22% year-over-year, fueled by new account growth and tax policy shifts favoring Delaware.
  • Private Wealth: Grew 14% year-over-year, driven by higher Assets Under Management (AUM).
• Commercial & Institutional (CNI): Grew 5% sequentially and 9% year-over-year; funding levels have moderated to normalized rates after strong first-half activity.
• Consumer Lending: Residential mortgage and home equity loans grew 6% sequentially and 24% year-over-year, supported by a strong origination pipeline despite high rates.
• Cash Connect: While fees declined due to rate cuts and lower volumes, the segment maintained a 15% profit margin. A 25bps rate hike is estimated to add ~$2.7 million to fees and similar amounts to expenses, resulting in minimal margin impact.

Market and Competitive Landscape:

• The Wealth & Trust business continues to gain market share in securitization, ABS, and MBS markets, which remain resilient across rate cycles.
• Competition in the CNI funding space is intensifying, with management noting pressure on pricing for existing clients but no significant change in client investment appetite.
• The firm operates with an asset-sensitive balance sheet, utilizing floor options to maintain upside potential in a rising rate environment.
• Securitization and capital markets activity show broad growth, though growth rates may moderate from the exceptional 20% annual pace seen recently.

Risks and Challenges:

• Deposit Pricing: Continued market pressure on deposit costs is expected, with deposit betas likely to drift upward over time.
• Interest Rate Sensitivity: High interest rates may create "penciling out" issues for certain CRE projects, potentially affecting refinancing and new originations.
• Concentrated Credit Risk: Problem assets increased sequentially due to specific downgrades in multifamily and construction; a student housing loan required an $8 million specific reserve.
• Capital Volatility: Rising interest rates may negatively impact the Accumulated Other Comprehensive Income (AOCI), potentially affecting the TCE ratio and necessitating adjustments to capital return targets.
• Revenue Volatility: Cash Connect margins face slight pressure in rising rate environments due to non-interest-earning cash balances.

Management Commentary and Tone:

• Management expressed high confidence in the franchise's diversified model, highlighting the consistent double-digit growth in Wealth & Trust across various market conditions.
• Tone was cautious regarding deposit competition and CRE refinancing challenges but optimistic about the resilience of the Wealth & Trust and CNI businesses.
• Leaders emphasized "expense discipline" while continuing to invest in the franchise, noting that the 56.1% efficiency ratio is a result of strategic growth.
• Acknowledged the temporary nature of non-recurring expense savings and the seasonal volatility of transactional deposits.

Analyst Questions and Answers:

• Loan Growth & Rate Sensitivity: Analysts questioned if rates could cause demand destruction; management confirmed slower consumer mortgage growth due to >7% rates but expects steady CNI growth and competitive positioning.
• Deposit Beta Trajectory: Analysts asked if the 35% beta is sustainable; management clarified that while 35% is the exit target for the current cycle, a normalized beta of 45-50% is expected over the long term.
• Capital Strategy: Questions regarding the 12% capital target revealed a potential deviation in buyback pace due to AOCI volatility from rate hikes, though the 12% medium-term goal stands.
• Expense Sustainability: Management noted the Q3 expense decline included $2-3 million in non-recurring items and medical expense normalization, suggesting a slightly higher run rate.
• Credit Outlook: Analysts inquired about CRE stress; management reported no material stress in the 24-month stress test but is monitoring projects where debt service coverage is tightening.

Other Key Points:

• The firm maintains a disciplined securities portfolio strategy, keeping it in the low 20s percent of assets while reinvesting proceeds to capture higher yields.
• Strategic focus remains on real estate-secured lending for consumer growth and market share expansion in capital markets for institutional services.
• The "exit rate cycle" beta calculation accounts for a partial month of the September rate hike, with a December hike factored into the 35% projection.
• Non-interest-bearing deposits are projected to grow at a pace consistent with overall deposit growth (mid-single digits) in the future, normalizing from the recent 20% surge.