Credit Market Barometer

Transcription

1 Credit Market Barometer A comprehensive report highlighting risks and opportunities f or U S lenders Second q uarter

2 Contents 02 Overview 04 The US macro view 08 Interest rates and bond markets 11 Wholesale loan activity 18 Retail loan activity 28 Credit quality 33 Bank financial performance 38 Capital 40 Robotics in lending 42 Regulatory snapshot 44 Appendices Facing page: Colors indicate the actual trend relative to the prior level indicated for each reading, representing improved (green), weakened (red), and little changed (orange). Rates are intentionally displayed without color coding. Any inference of a continuance of any trend should not be assumed or inferred. 1 Capital values represent the arithmetic averages of six US globally systemic important banks (G-SIBs) that comprise the universal bank group displayed in this report. Please see appendix for the banking institutions used within the three primary groupings used throughout this report: universal, regional and community banks. B Sources: Credit EY, Federal Market Reserve Barometer Economic Data Ernst (FRED), & Young S&P LLP Market Intelligence, Bankregdata.com

3 Credit weather snapshot Macro Change in non-farm payrolls 98k (Mar) 182k, last twelve month average Troughs and peaks since K 524K Mar 2009 May 2010 Unemployment rate 4.50% (Mar) 5.34%, one year prior Troughs and peaks since % 3.80% Oct 2009 Apr 2000 Real GDP growth 2.10% (Q4 2016) 0.9%, one year prior Troughs and peaks since % 7.80% Q Q Inflation (CPI, all) 2.80% (Feb) 0.98%, one year prior Troughs and peaks since % 5.50% Jul 2009 Jul 2008 Rates LIBOR, 3-month 1.15% (Apr 5) 0.63%, one year prior Bank loan growth Troughs and peaks since % 6.87% May Jun year mortgage rate, US average Troughs and peaks since % 8.64% 4.10% (Apr 6) 3.59%, one year prior Nov May week change in total US bank credit Troughs and peaks since % 6.13% 0.03% (Mar 29) 1.32%, last twelve month average Sep 2009 Oct month change in US consumer credit Troughs and peaks since % 7.19% 0.29% (Feb) 1.52%, last twelve month average Dec 2009 Feb 2006 Bank asset quality Non-performing commercial loans, all US commercial banks Troughs and peaks since % 0.49% 1.28% (Q4 2016) 0.77%, one year prior Q Q4 Net charge-off rate of loans and leases, all US commercial banks Troughs and peaks since % 0.40% 0.43% 0.40%, one year prior Q Q Bank performance Return on average assets, US banks $1b-$15b Troughs and peaks since % 1.46% 1.01% (Q4 2016) 1.02%, in 2015 Q Q Return on average equity, US banks $1b-$15b Troughs and peaks since % 16.85% 9.29% (2016) 9.81%, in 2015 Q Q Bank capital Common equity/assets, average of six US G-SIB banks 1 Troughs and peaks since % 9.85% 9.66% (YE 2016) 9.85%, YE 2015 YE 2008 YE 2015 Tier 1/risk weighted assets, average of US universal banks % (YE 2016) 13.95%, YE 2015 Troughs and peaks since % YE 2007 YE 2016 Credit Market Barometer Ernst & Young LLP 1

4 Overview Welcome to EY s Credit Market Barometer (CMB), a publication of the Capital Management and Credit Risk group within EY s Financial Service Risk Management Advisory practice. Our goal r a e red fi er a d e r a er a a perspective on the trends in lending, asset quality and competitive dynamics across the US banking sector. This publication provides a thorough tour of US lending conditions by broad loan types and by bank size, with look-backs that frame current conditions relative e re e a a d e fi a a r e a de r observations on macroeconomic conditions, rate conditions and bond market activity. We also highlight trends related to FinTech in the credit space. Our analysis examines differences in performance among banks by e ree r a er a a fir re a a fir a d y a fir e a included in each group are provided in the appendix. Lending activity e d a y e r e 0 r 0 er a e r r 3 0 e re ed a e re d 0 a ee e e r er d a a a d a red 0 03 er a ere d 3 ee r r e e e d a d a growth has occurred across the majority of loan types over the past several years as borrowers enjoy interest rates that remain near historic lows. The credit-to-gdp ratio shows continued expansion of credit relative e era e y e e e a 0 a e er y d r a e e a 3 0 e e are e a e e ea er ed e a er a the crisis. Wholesale and retail loan balances continued to increase in 0 a a a er a e e e d a a a ed re a e d 0 red a y a a e a ee a er a y e er a e red a y d r e fi a a r although, a few loan types have been witnessing some credit quality pressures. The credit qualities of broad bank loan categories have rea ed a e e e ee e r r e er d the exception of residential mortgage loans, where legacy loans are holding back a full recovery in delinquency rates to pre-crisis levels. Rising delinquencies in consumer loans, especially auto loans, have emerged as areas of concern. Top of mind The burning question for many bankers now is how positive (or how draconian) will the medium and longer-term impacts of new e e e e a d ry dra a a e a 0 year a e ee a e fi a a r e e e a e drama is not going to stop not so much because of credit pressures, but because of technologies. Top questions that bear watching include: ere are e fi a rea a a d e ere are they? a a a d fi a a er e ad a a d e er serve customers? Will the pace of bank shrinkage continue at the current rate? a e e a y - a e der rea ed a e Summary dra a a e a e year a e ee a e fi a a crisis) we sense that the drama is not going to stop not so much because of credit pressures, but because of technologies. 2 Credit Market Barometer Ernst & Young LLP

5 T otal b an k c redit ( $ b il l ion s ) Total bank credit to GDP (%) 14,000 70% 12,000 60% 10,000 50% 8,000 40% 6,000 30% 4,000 20% 2,000 10% % Source: FRB H.8. Source: FRB H.8, FRED. Q Y T D Y G R ( 1 6 Q ) oq Prior QoQ oy CA 0 L Q Y g 1 6 Q A g ates t Prior Q Prior Y oy Ch an e o 0 0 Credit Market Barometer Ernst & Young LLP 3

6 The US macro view E arl y mac roec on omic c on dition s rel ev an t f or c redit of f ic ers e e e a edera e er e y e a er rre e d a r e edera e er e r e report is published every six weeks, prior to FOMC meetings. The most recent report was released on March 1. e r r a edera e er e r ed a e era e a ex a ded a a de - - dera e a e r ear y January through mid-february. e re r a ed a a r ar e re a ed ear y 0 a e r r e de y r dera e y y e re dera e y area a fi fir e era d r a ra e r e year r a e ed r er ar ar y engineers and IT workers were driving up wages in several Districts, while some Districts also noted labor shortages in the leisure and hospitality, construction and manufacturing industries. r re r ed de r dera e rea e e r e e ary a e era y e a ed r e r r re r Input prices, on the other hand, were up modestly on balance. In addition, businesses reported that they expected both input prices and selling prices to increase modestly in the months ahead. With focus on energy and farm prices, developments were mixed but mostly steady. Prices for construction materials climbed in a number of Districts. Respondents were generally optimistic about the near-term outlook but to a somewhat lesser degree than in the prior report. Con s u mer l en din g R etail s al es A u to s al es T ou ris m ac tiv ities T ran s p ortation H ome c on s tru c tion Expanded modestly Increased at a subdued pace Varied widely Mixed but mostly stronger Steady (somewhat higher) Expanded modestly R es iden tial ren tal market H ome p ric es Commerc ial real es tate S al es an d l eas in g L en din g ac tiv ity E n erg y Mixed Steady to up modestly Grew modestly Grew moderately Steady to somewhat higher Modest growth 4 Credit Market Barometer Ernst & Young LLP

7 N otew orth y ex trac ts f rom eac h F ederal R es erv e D is tric t Minneapolis, MN Chicago, IL Cleveland, OH Boston, MA New York, NY Philadelphia, PA San Francisco, CA Kansas City, MO St. Louis, MO Richmond, VA Atlanta, GA Dallas, TX D is tric t A tl an ta Bos ton Ch ic ag o Cl ev el an d D al l as K an s as City Min n eap ol is N ew Y ork Philadelphia R ic h mon d S an F ran c is c o S t. L ou is H ig h l ig h ted c ommen tary a y ex a ded de y e a r ar e re a ed e re de ex re ed er a y a e e e ad ra a d a a ed er a y a a d ere e a ed r e rea ed de y a d ar e r ed y e a - ed r er rea y d fi ere a rea ed er a y rr d e e ad ra y a e e a er a d a dea er a a ed a a e e ex e a d a a rer ex e a r re a y ere a e r e e e er e e year y e r e er a re a e r a fi a re a d ay a r ar e a e re e ed r a ed a d a e ed r e de y a y a re a ed a y e e a e r er a y rea ed e rd e a er ra fi a ed r e r re e ee a y ed ex a d a a dera e a e e e era r 0 a e a re a ed e e r y e d- e er Credit Market Barometer Ernst & Young LLP 5

8 T h e U S mac ro v iew continued T ren d ag ain s t F R B D F A S T mac roec on omic p roj ec tion s Real GDP growth ea r ra ed 0 r 3 e prior quarter, which was in line with GDP performance of the prior ree year ere e a era e a a ee The U.S economy has exhibited one of the strongest recoveries among advanced economies since the Great Recession. The trend in real GDP growth has remained close to the peak level observed in the DFAST Supervisory Baseline projections for the past four years. The real GDP growth as observed in the supervisory baseline scenario 0 r e are er a e ea e e er ed the DFAST projections for the past four years. Real GDP growth Actuals vs. proj ections peak/ trough 1 6.0% 4.0% 2.0% 0.0% -2.0% -4.0% ea r er ry e ere y ad er e e ar 0 DFAST projections are on average higher than the lowest levels observed in the DFAST projections for the past four years. -6.0% -8.0% U nemployment rate The unemployment rate has steadily declined over the past six years Actual Projected DFAST baseline Prior DFAST peak Projected DFAST adverse Prior DFAST trough Projected DFAST severerly adverse r e er ry e ar 0 3- a d d a a e r ary 0 The unemployment rate continues to trend downward and shows no signs of stress as seen by the close proximity to the trough observed in the DFAST supervisory baseline projections for the past fi e year The FOMC participants current estimate of the long-run level of e y e e ra e 0 a d a a ed a a e U n emp l oy men t rate Actuals vs. proj ections peak/ trough % 12.0% 10.0% While unemployment rate observed in the supervisory baseline e ar 0 r e are a a ar a the lowest levels observed in the DFAST projections for the past four years, the unemployment levels projected in the supervisory e ere y ad er e e ar 0 r e are lower than the peak levels observed in the DFAST projections for the past four years. 8.0% 6.0% 4.0% 2.0% Actual Prior DFAST peak Prior DFAST trough Projected DFAST baseline Projected DFAST adverse Projected DFAST severerly adverse r e er ry e ar Credit Market Barometer Ernst & Young LLP

9 H ou s in g p ric e in dex Actuals vs. proj ections peak/ trough Housing price index e r e dex a y rea ed e 0 a d rea ed a e e 0 The index is trending close to the peak level observed in the DFAST er ry a e e e ar e a fi e year e rre y a e e re- r ea er ed 00 ere ee e re e mortgage market, as we will note in the later sections. In line with the current trend, the supervisory projections for HPI e 0 a e e e ar e e ea e e observed in the DFAST projections for the past four years e er ry r e r e 0 e ere y adverse scenario is higher than the lowest levels observed in the DFAST projections for the past four years. Actual Prior DFAST peak Prior DFAST trough Projected DFAST baseline Projected DFAST adverse Projected DFAST severerly adverse r e er ry e ar 0 3- BBB c orp orate s p read Actuals vs. proj ections peak/ trough 1 7.0% 6.0% 5.0% 4.0% BBB corporate spread er e y a 00 a e fir ree ar er 0 rea a - ar er e read rea ed y 0 a 0 3 The BBB corporate spread remains below the peak and trough values observed in the DFAST Supervisory scenario projections for the last fi e year Interestingly, the supervisory projections for BBB corporate spread are expected to increase both in the baseline and severely adverse e ar e 0 r e e a e r e for BBB corporate bond spread in the baseline and severely adverse scenarios indicate expectations of a higher spread than the lowest and the highest levels of BBB corporate bond spread respectively observed in the DFAST projections for the past four years. 3.0% Actual Prior DFAST peak Prior DFAST trough Projected DFAST baseline Projected DFAST adverse Projected DFAST severerly adverse 1 The DFAST peak indicates the most favorable point (or least favorable point for the unemployment rate and BBB corporate bond rates) in DFAST baseline scenario projections in the past four cycles. The DFAST trough indicates the least favorable point (or most favorable point for the unemployment rate and BBB corporate bond rates) in DFAST baseline scenario projections in the past four cycles. r e er ry e ar 0 3- Credit Market Barometer Ernst & Young LLP 7

10 Interest rates and bond markets Mac roec on omic f ac tors Key rates Current trend e e er 0 a d a a ar 0 e ra ed e ar e ra e r e edera d a e y e ar e ra e 0-0 e ee ed e r e e a a d a r ar e d de ra e e ar e ra e ar 3 a ed e r 30- ay ed d re r e ere a a 3 a e a e d e a ra e - 0 y e e d 0 a d a 3 a e a e d y ra e ra e e 00- ra e a y e er e y e d r e a re er ed a a e pattern, after several years of generally holding a fair degree of steepness. LIBOR rates ra e a e dr ed fi a y -re e a d a e remained at extremely low levels. However, there has been an uptick e - a d 3- ra e e 0 e ra e er e 0 a d 0 re e e y a 0 a d a 0 a d a r 0 er e r y re d a e re e rea e ra e is closely following the increase in the Fed Funds rate. At the height of the crisis, the two rates had displayed a divergence as overnight interbank lending became risky. Prime rate e ra e rre y a 0 e re e rate move. The Bank Prime rate generally moves lock-step with the movements in the Fed Funds rate. 6 - month and 1 - year Treasury rates e - rea ry ra e rea ed r 0 a e e d e e re e ra e e The short-term Treasury rate has been on an upward trajectory since 0 e ry ar r e -year ra e a e y e d r year and 30-year fixed rates e ere ra e e r e re e ed e y e d e rea ry d a e e 30-year fixed ra e ar d 3 03 a 0 ared 3 0 ere a ee a rea e e ra e e 0 y e d rea r 0 e d 30-year fixed e r e a e a ed ara e e 0-year y e d e 30-year fixed ra e ar d 3 e e a 0 ared 3 0 ar e 0-year y e d e 30-year y e d a a rea ed e 0 Key rates Outlook e edera e er e a r a e e e a ee ar outlined the course of future rate hikes by the FOMC. The Chair noted a re a ex de a e e er y a d r ard r e a ee r ear e e ar e e y e e a r a ed a e e y e ra e a e with the median of FOMC participants estimates of its longer-run normal level. The FOMC policy remains accommodative, and it is expected that a strengthening of labor markets will be associated with rising interest rates. The real GDP growth contraction, poor industry capacity utilization and uncertainty over international growth prospects tend to offset any celebration over falling unemployment rates and higher wages, and might affect the rise in interest rates. This could delay any e a e efi a r er a e y e d In light of the progress toward the long-term goals of the FRB, the Chair mentioned that the median assessment of FOMC participants r e ed d ra e a a e 0 er e a e rea e e ar e ra e er 0 e a e r e real Fed Funds rate to its current neutral level and expects further add a rad a e 0 a d 0 As per the economic projections of Federal Reserve Board members and Federal Reserve Bank presidents under their individual assessments of projected appropriate monetary policy, released a ee e ar 0 e ed a r e ed edera d ra e ex e ed r e r 3 0 er -r ex e a ded y a er ex e a 0 a d 0 er e y e a a d a y r a d er e 0 e with the long-run average. 8 Credit Market Barometer Ernst & Young LLP

11 K ey rates All United States-based banks 9.0% 8.0% 7.0% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% month LIBOR 3-month LIBOR Prime rate 10-year Treasury 30-year fixed Source: FRED. 6-month Treasury 1-year Treasury T reas u ry y iel d c u rv e ( % ) All United States-based banks 4.0% 3.0% 2.0% 1.0% 0.0% 1m 3m 6m 1y 2y 3y 5y 7y 10y 20y 30y Most recent Month ago Year ago 3 years ago re e da e 30 ar 0 E c on omic p roj ec tion s of F ederal R es erv e Board memb ers an d F ederal R es erv e Ban k p res iden ts u n der th eir in div idu al as s es s men ts of p roj ec ted ap p rop riate mon etary p ol ic y, Marc h c y R g 3 L g L g V l n n L g n U Median Cen tral ten den an e ariab e on er ru on er ru on er ru Change in real GDP Decemb er proj ection nemployment rate f Decemb er proj ection PCE inflation Decemb er proj ection Core PCE inflation Decemb er proj ection Memo: Projected appropriate policy path Federal unds rate Decemb er proj ection e r e a e rea r d e r d a d r e r ea re a are er e a e r e r ar er e re year e r ar er e year d a ed a a d re a are e er e a e ra e a e re e e y e r e index for personal consumption expenditures (PCE) and the price index for PCE excluding food and energy. Projections for the unemployment rate are for the average civilian unemployment rate in the fourth quarter of the year indicated. Each participant s projections are based on his or her assessment of appropriate e ary y er-r r e re re e ea ar a a e e e ra e ea ar a e d e ex e ed er e der a r r a e e ary y a d e a e e r er e e y e r e r e edera d ra e are e a e e d e r e ed a r r a e ar e ra e r e edera d ra e r e r e ed a r r a e ar e e e r e edera d ra e a e e d e e fied a e dar year r er e er r e e e er r e ere ade e ee e edera e ar e ee e e er 3 0 e ar a d d er-r r e r e a e rea e e y e ra e r e edera d ra e e e e er 3 0 ee a d e ar a d d r e e ar 0 ee 1. For each period, the median is the middle projection when the projections are arranged from lowest to highest. When the number of projections is even, the median is the average of the two middle projections. e e ra e de y ex de e ree e a d ree e r e r ea ar a e ea year 3 e ra e r a ar a e a e year de a ar a r e r e e r a ar a e a year er-r r e r re a are e ed Credit Market Barometer Ernst & Young LLP 9

12 I n teres t rates an d b on d markets continued T otal b on d market is s u an c e ac ros s p rodu c t g rou p s ( $ b il l ion s ) 3,000 2,000 1, Municipal Treasury Mortgage-related Corporate debt Federal Agency Securities* Asset-backed Source: Securities Industry and Financial Markets Association (SIFMA). F c y n T u s u * A s s b Y g ederal ag en Mu ic ip al reas ry Mortg ag e- rel ated Corp orate deb t ec rities et- ac ked oy row th Prior YoY *Mortgage-related issuances include agency and non-agency pass-throughs and collateralised mortgage obligations. Total b ond market issuance across product groups Bond market 0 a a er year ery xed a e a e e across the categories shown in the graphs above. rea ry e r y a e r e de y y 0 a dr 0 e edera e er e ad rea ed ar e ra e ree e e 0 er e edera d ra e rea e e e er 0 rea ry y e d rea ed for all maturities with large increases in short- and medium-term securities. Mortgage-related security issuances (includes agency and non-agency a - r a d a era ed r a e a r e 0 a year r 0 e a a dr e y a e y r a e-re a ed a e r e e a e y e e 3 er e de e -a e y volumes stemmed from several real estate investment trusts exiting e ar e e re y r r d 0 d e a ra e pricing conditions, resulting in declines in non-agency RMBS and CMBS issuances. It will be interesting to observe the impact of rising mortgage rates on the issuance of mortgage-backed securities 0 edera a e y e r y a e ed r 3 0 a a 3 rea e 0 er a e da a 0 a a e edera a e y a e a d a ed y edera e a a a followed by the Federal Farm Credit System, Freddie Mac and Fannie Mae. a a e a a r r 0 0 e e e a ea e 00 e a a e ed a rea e 0 r e year general purpose-led issuances dominated total issuances followed by primary and secondary education, and water and sewer. e - a ed de ex ed r er ea e 0 a e a e - a ed de dr ed 0 a dr 0 e - a ed a e e re a ere ear re- r e e fi der 0 0 er e e r e Industry and Financial Markets Association (SIFMA), only credit card and student loan ABS experienced increases in issuance volumes, while auto, USD-denominated CDO, equipment and esoteric ABS all declined. r ra e de a e r e y 0 a d d a er r 0 e e rade d a e e a r ra e de a e r e a e r 0 r e a e er d a e y e d d dr ed er da a r 0 read e e rade d ere d r 0 e y e d d read ere d r 3 0 a e a y r ra e d issuances, according to S&P s Global Fixed Income Research, US de a ed er rea ed r de a 0 a d a er e d raded 3 er ared rade Credit Market Barometer Ernst & Young LLP

13 W Wholesale loan activity h ol es al e l oan ex p os u re Commerc ial an d in du s trial l oan s Commerc ial real es tate l oan s Credit Market Barometer Ernst & Young LLP 1 1

14 W W h ol es al e l oan ac tiv ity continued h ol es al e l oan ex p os u re The combined total of US banks commercial and industrial (C&I) and er a rea e a e a ed r e 0 a d ex eed r a d er a a ex re e a e e ea re rded r r e r a growth has been the biggest driver of wholesale loan growth since 0 0 a er a y ex eeded a r a a e a a er a e a e a ex re a 0 r a e e 00 C&I s stronger growth relative to CRE is a reversal of the pre-crisis trend, where real estate lending was the primary driver of wholesale lending s growth. T otal w h ol es al e l oan ex p os u re ( $ b il l ion s ) 5,000 4,000 3,000 2,000 rd e edera e er e a ary 0 a fi er r ey a e d ra e e d a dard a ere basically unchanged relative to the prior quarter s survey. This point a ed r a ar e ed fir a e a a fir e d a dard a e er e era y e ed er the period, which could potentially translate into a slower growth for CRE loans. 1, Source: FRB H CRE Loan Exposure C&I Loan Expsoure e r ed 0 e e y ex a d a ared r r ar er r 3 e r ra e a 00 a r e year a er d e y e ra e a a ed er a ar 0 r 3 e year a er d Q oq Prior QoQ Y T D Y oy CA G R ( 1 6 Q ) I E C& 0 03 CR The recent rate hike by the FRB may not have a major impact on business lending as wider macro conditions point to a strong US economy. The Trump Administration s promise of cuts in corporate taxes and increased infrastructure spending has enthused businesses, e e r er e e e e er 0 On the subsequent pages, we track outstanding loan balances and delinquencies across the groups of universal, regional and community banks. e er a y e e r e a d e er for health care and taxes are lower [for businesses], ey re d ed y ar e CEO of a large BHC, on President Trump s promises on policy impacting business 1 2 Credit Market Barometer Ernst & Young LLP

15 C& I l en din g b y b an k s eg men t ( $ b il l ion s ) Commerc ial an d in du s trial l oan s Segment- wide trends L en din g v ol u mes While C&I volumes have largely increased across the banking categories over the last few years, universal banks C&I portfolios a e de rea ed ar er er ar er a ra e rea a e e d 0 er e a e er d re a a d y a re e r r a e ra e 0 a d 0 re e e y rea 0 r re a a d r y a e dex d r a r d ex a ded y 0 d r e ar er 0 a ex er e ed a de e e 0 e a e e 0 e d ry a a y a a re a e e - er a era e a d e e re- r e e ar d 0 Universal BHCs Q oq Prior QoQ Y T D Y oy CA G R ( 1 6 Q ) U n R n iv ers al - 0 eg ion al 0 Commu ity 0 3 C& I l oan del in q u en c y rate 6.0% 5.0% 4.0% A slower GDP growth or even a decline could impact the C&I lending, albeit with a few quarters lag. This could be a challenge for bank revenues since higher loan volume has been a positive offset to the dampening effect of thinning margins. Interestingly, the Institute for Supply Management s Purchasing a a er dex re e ery 0 a d d a a e e er 0 e ere e ard ead dex rea ed 0 e e er a 0 r e e er d a r e fide e rd e a ary 0 a fi er r ey a e d ra e e a re r ed a de a d r ar e a d dd e- ar e a d r a fir a e a ed a a e during the fourth quarter. Meanwhile, a moderate net fraction of a re r ed a r e r e red rea ed a a ex e ea e e d a dard a 0 3.0% D el in q u en c y rates 2.0% 1.0% 0.0% e e y ra e a r a er a re e ed a a e ard ear er 0 a a e e er y e r came under material pressure with the dramatic fall in oil and gas prices. With the recovery of energy prices, the trend has reversed e a ar r 3 0 e a a ed a de e y ra e a er a a dr ed r a 3 0 r re a a de e e Universal BHCs Credit Market Barometer Ernst & Young LLP 1 3

16 W h ol es al e l oan ac tiv ity continued dr ed 3 r 3 0 a d r y a e a e de e y ea re r e 3 r e dde e de e e e fir ar er 0 coincided with the rate increase by the Federal Reserve Board in e e er 0 a e y a e a a a a r contributor to delinquencies. As the chance for Fed Funds rate increases grows, added pressures on debt service capacity of many borrowers may rise with it. As we noted previously, high levels of debt relative to income capacity in the system could hamper growth potential and sharpen the pain of the next serious macroeconomic downturn. C& I l oan v ol u mes v s. del in q u en c ies 2,500 2,000 1,500 1, % 4.0% 3.0% 2.0% Regarding asset quality of loans to businesses, moderate net fraction of banks reported that they expect asset quality of all C&I loan a e r e ar e a d dd e ar e fir r e e a 0 e a de e ra a re r ed ex e a e a y a a fir ar y r e er period Loan volume Delinquency rate 1.0% 0.0% A h is toric al p ers p ec tiv e Source: FRB H.8. a a e e ed a de e e e 0 0 d e e r a 0 a associated with an increase in C&I lending volume. e de e e ex a ard re d e 0 increasing exposure to C&I was a subject of regulatory scrutiny. e rre e e de e e a are e e de e e r r 3 00 er de e e a e e era y ee re e e a poor economy and stressed situation for the C&I lending segment, ara er ed y a rea e e y e a d a r decreasing GDP. e er e r e de e e ee e ear y ar 0 a a e ed ard 0 While business sentiment is high, capacity utilization and IIP numbers point to some slack in overall industrial activity. Correspondingly, C&I e d r a eared ra 0 C& I del in q u en c y rate v s. h is toric al h ig h an d l ow 5.0% 4.0% 3.0% 2.0% er e r ey red der r ra e 0 banks continue to ease underwriting practices in response to competitive pressures, expanding credit risk appetites and a desire for loan growth. 1.0% 0.0% Delinquency rate Historical high Historical low Source: FRB H Credit Market Barometer Ernst & Young LLP

17 Commerc ial real es tate l oan s Segment- wide trends e d a r a r a fi a e 0 e r re a a a e ea e re ery e d e y a a e e e a y fi ed e gap left by larger peers. Universal banks CRE portfolios grew quarter er ar er a a ra e rea 3 a e e d 0 er e a e er d re a a d y a re e r r a a ra e 0 a d re e e y rea r re a a d r y a a e e d 0 CR E l en din g b y b an k s eg men t ( $ b il l ion s ) The value of private nonresidential construction put in place de ed y e er a year- er-year a r a e r e y re e e r e e commercial real estate. As per data from the IMF, the pace of growth r e ed ear y 0 a ra a a era e r ra e e Universal BHCs 2010 e r er y dex re e e e e er r a e 3 er a r er e re r ed 3 0 a d a a a re r e ar er y a re r a re ded d ard e 0 e re r a e e re e dr e a r e a re a dr e 0 e e er 0 e dd- ra a ed r re e r e effect for CMBS issuers. The new rules require CMBS issuers to ee a a a e e r a ed e a of it in the form of bonds. Issuers can pass this share on to B-piece bondholders, but only if the bondholders agree to not sell the CMBS r a ea fi e year Regulators have noted in the OCC: Semiannual Risk Perspective,Fall 0 a a y a e e d ar e are ex er e substantial growth and that increased competitive pressures are r fi a y r a y a a a ra e a d r r er y a e Q oq Prior QoQ Y T D Y oy CA G R ( 1 6 Q ) U n R n iv ers al 0 eg ion al Commu ity 3 3 CR E l oan del in q u en c y rate 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% Universal BHCs Credit Market Barometer Ernst & Young LLP 1 5

18 W h ol es al e l oan ac tiv ity continued D el in q u en c y rates Delinquencies on CRE loans have been steadily falling since the crisis period and may be settling at a new base level. Delinquencies a a e er a a r e de y r 0 a e e d 3 e a e ea re a 0 3 for regional banks, basically unchanged from the prior quarter, and dr ed y 0 d r 0 a 3 0 r community banks. Regulators have observed an easing of CRE underwriting standards, including less-restrictive covenants, extended maturities, longer interest-only payment periods and limited guarantor requirements. However, delinquency rates remain very low and do not indicate weaknesses in the quality of CRE portfolios. Commerc ial real es tate l en din g b reakdow n ( $ b il l ion s ) e d e r ey re de e a ary 0 a fi er r ey a e d ra e e era y d a ed a their lending standards for CRE loans of all types tightened during the fourth quarter, a sign of banks recognition of risks in CRE lending Non-farmland CRE loan exposure Multifamily CRE loan exposure L en din g b reakdow n Construction and land development CRE loan exposure a e r e a a e d ayed e r 0 ar re de a a re a 0 a y a r e a d r a d de e e a re a 3 e r y re d 0 a a re e e de ed multifamily properties, with New York and San Francisco being the worst performing markets. Multifamily lending has been the pace e er a r e a ar er a 33 Q oq Prior QoQ Y T D Y oy CA G R ( 1 6 Q ) N f l y s L on arm Mu tif amil Con t/ an d 3 e a ary 0 e r a fi er r ey er ed that modest net fractions of banks reported weaker demand for construction and land development loans and loans secured by multifamily residential properties, while demand for loans secured by nonfarm nonresidential properties remained basically unchanged. 1 6 Credit Market Barometer Ernst & Young LLP

19 CR E l oan v ol u mes v s. del in q u en c ies 2,500 2, % 8.0% A h is toric al p ers p ec tiv e CRE loans continue to see new base levels of delinquencies as loan volumes continue to rise. The delinquency levels remain below the historical lows observed prior to the crisis. Even though there are no visible signs of stress in CRE lending, regulators have expressed concern on the rising CRE a a a e a a e fi a y e e ra a 1, % As noted in OCC s Survey of Credit Underwriting Practices Report 0 r re re a d e a e re ed re ax underwriting standards, especially at large banks. 1, % 2.0% This could increase regulator scrutiny for banks, especially y a a a a r a 0 e r a loan portfolio This along with the tightening of lending standards by banks, should d e a e e d 0 Loan volume Delinquency rate Source: FRB H.8. CR E del in q u en c y rate v s. h is toric al h ig h an d l ow 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% Delinquency rate Historical high Historical low Source: FRB H.8. Credit Market Barometer Ernst & Young LLP 1 7

20 Retail loan activity R etail l oan ex p os u re R es iden tial real es tate l oan s A u to l oan s Credit c ards O th er c on s u mer l oan s 1 8 Credit Market Barometer Ernst & Young LLP

21 R etail l oan ex p os u re a a ex re e re a e d e e r e 3 3 r a 0 e e rea e re a e d a e ee dr e y er e d a r e a a 3 er e a r year ared a 0 3 r residential real estate loans over the same period. The Federal Reserve Bank of New York s quarterly report on household debt and credit, a broader measure of consumer credit ex re a re e ed r er red r e d de rea y 0 r y 3 00 ea e e re d re e e fide e er are e y e y e a 0 a d re rd d a e e er a a e rea ed 3 0 a e e d 0 er rea er fide e e er e e dex rea e e e e r r e fi a a r a a 0 e a era e r y ear production and nonsupervisory employees have also risen to r a 0 re e er e d a a y r lower-income US consumers. er a ex e d re a e a r e e 00 Notably, the pace of credit growth has outpaced the growth in PCE and is more closely following the growth in PCE for durable goods. T otal retail l oan ex p os u re ( $ b il l ion s ) 4,000 3,500 3,000 2,500 2,000 1,500 1, Source: FRB H Other consumer loan exposure Residential real estate loans Q oq Prior QoQ Y T D Y oy CA G R ( 1 6 Q ) s u R R E Con mer e e ar e r e a r er r e re a ex re however, there are signs certain areas of consumer lending notably in auto and credit cards, are becoming stretched. The following pages provide further insight into the state of retail lending across banks in our universe. Credit Market Barometer Ernst & Young LLP 1 9

22 R etail l oan ac tiv ity continued R es iden tial real es tate l oan s L en din g v ol u mes Residential real estate (RRE) loans have seen a slight decline a r a er 0 er a a ex er e ed a 0 dr re a a a e r a a e de e y 0 a d y a re r ed a de e 0 0 e er a a a a e er a a r r e y 3 re a a y 3 a d y a y 0 Universal banks have retreated from RRE lending, as evidenced by a - 3 er e a r year y a a e e a e ed e d e a d a e re r ed a over the last four years. During the quarter, all types of mortgages saw rising rates, with the 30-year fixed ra e r a e r 3 0 a a e a e e e y dr ed e 0 a 0 e r a e r a dr ed y 0 0 a d e are refi a a y rea ed 0 r 3 a rr er ex e a r r a e ra e e re e r e r e y d r 0 a d a a a er da a r e edera a e e y e rda y dex e r 3 a ary 0 e e er re e e de rea ed affordability of housing in US. These trends point to a slowdown in re de a e d a er ed y a e a ary 0 a fi er r ey a e d ra e a e R es iden tial real es tate l en din g b y b an k s eg men t ( $ b il l ion s ) 1,400 1,200 1, Universal BHCs Q oq Prior QoQ Y T D Y oy CA G R ( 1 6 Q ) U n R n iv ers al eg ion al Commu ity era 0 a a r year r e ar e a r e e re de a r a d a r e e ed re de a 0 e a e r e 0 re e e de a d r e y ed e ar e 2 0 Credit Market Barometer Ernst & Young LLP

23 R es iden tial mortg ag e del in q u en c y rate 18.0% 15.0% 12.0% 9.0% 6.0% 3.0% D el in q u en c y rates RRE delinquency rates continue to remain at elevated levels compared with the pre-crisis period. On a YoY basis, delinquencies a e dr ed r 0 0 r er a a a d 0 3 r re a a e a e er d e r y a de e e r e y 3 a 30 The share of mortgages originated to borrowers with credit scores of e a 0 dr ed 3 r 0 3 e year a er d e a e fi re ad ea ed r r e fi a a r 00 e ed a re r a e r a a ed 3 0 ared 3 e year a er d As per data from Corelogic, the number of completed foreclosures a a dr ed 3 0 a er a ea % Universal BHCs 2010 e de e ed a ary 0 a fi er r ey a e d ra e re r ed a ey ex e ea e a dard a d see asset quality improve somewhat for all RRE home purchase loan categories. R es iden tial real es tate l en din g b reakdow n R es iden tial real es tate l en din g b reakdow n ( $ b il l ion s ) 1,800 1,600 1,400 1,200 1, e de a r a e e d ed a d 0 e ed a ra 3 0 a YoY basis, residential mortgage balances showed positive growth of 03 e de ed y e a d a a e r r e a e ere are e a y a r a ed 00 a d 00 a d a e are r re re d a e a r er hit due to rising interest rates as existing borrowers scramble to pay off their loans. At the same time, an alternate view is that the rising home prices could encourage borrowers to tap the equity and lead to r a e Residential mortgages HELOC Q oq Prior QoQ Y T D Y oy CA G R ( 1 6 Q ) R H E L O es iden tial C Credit Market Barometer Ernst & Young LLP 2 1

24 R etail l oan ac tiv ity continued A h is toric al p ers p ec tiv e e de a e d a re ered e e r period and the housing market has been gaining momentum for the past several quarters, as prices continue to rise and the Housing Affordability Index falls. Delinquency rates remain above the historical lows, but this is mostly due to the legacy loans retained from the crisis. The rise in housing prices has also been accompanied by recent modest increases in mortgage rates across all maturities. From a supply perspective, banks expect lending standards to ease in 0 er a re e e a r e ed a e R es iden tial real es tate l oan v ol u mes v s. del in q u en c ies 2,500 2,000 1,500 1, % 10.0% 8.0% 6.0% 4.0% er r ey red der r ra e 0 e underwriting practices for RRE loans have been loosened in general, with a double-digit increase in the percentage of banks that eased underwriting practices in these products % 0.0% Loan volume Delinquency rate Source: FRB H.8. R es iden tial real es tate del in q u en c y rate v s. h is toric al h ig h an d l ow 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% Delinquency rate Historical high Historical low Source: FRB H Credit Market Barometer Ernst & Young LLP

25 Credit Market Barometer Ernst & Young LLP 23

26 R etail l oan ac tiv ity continued A u to l oan s L en din g v ol u mes er a a a e r a a r a a ra e e re a a d y a re e r a a r a a ra e a d re e e y rea r re a a d 0 r y a a e e d 0 An interesting trend here is that regional banks have the highest percentage of auto loans, compared with all other categories of loans, and with this trend, auto loan delinquency rates are continuing to out pace rates among the universal and community bank groups. e a a e r e e dr ed a d a a e a e ry- - a e ra ed 0 3x ared a ra x a e e e year a d a r a e e ra ad a ea x 00 e 0 ed a ary 0 a fi er r ey a e d ra e ed a a dera e e ra a re r ed ea er de a d r a a e r ey a ed a banks expect to tighten lending standards on auto loans. Regulators have also expressed concern at the growth in auto lending with the OCC in its fall semiannual risk perspective pointing to increasing risks in auto lending because of notable and unprecedented growth across all types of lenders. D el in q u en c y rates A u to l en din g b y b an k s eg men t ( $ b il l ion s ) Universal BHCs Q oq Prior QoQ Y T D Y oy CA G R ( 1 6 Q ) U n R n iv ers al 0 0 eg ion al 3 Commu ity A u to l oan s del in q u en c y rate Delinquency rates on auto loans have moved upward across all er 0 e a a a e 3 a a der de e y a 0 ed y er a a a a d y a a 3 e e y ra e a a a e re ded ard 0 4.0% 3.5% 3.0% As per OCC s fall semiannual risk perspective, delinquencies on auto a a e rea ed a d e e a e a re e ed - ea a increases. OCC noted that in pursuit of market share, lenders lowered underwriting standards on direct and indirect loans. In addition, banks also layered risks by granting longer terms with higher advance rates re er ra 2.5% 2.0% 1.5% 1.0% Experian Automotive reported that the average term to maturity of loans on new cars at the time of origination increased to 68 months d r e r ar er 0 r 0 a er e ee 3 a d a ed r 3 e e e a d r 0 r e year a er d 0.5% 0.0% Universal BHCs 2 4 Credit Market Barometer Ernst & Young LLP

27 Credit c ard l en din g b y b an k s eg men t ( $ b il l ion s ) e e e ed a ary 0 a fi er r ey a e d ra e re ard a a d a ed a de e fractions of banks widened their spreads of loan rates over the cost of funds. Additionally, a moderate net fraction decreased the extent to which auto loans are granted to some customers that do not meet credit scoring thresholds for such loans. The share of auto loans originated to borrowers with credit scores of e a 0 dr ed 3 0 ared 3 e year ago period. The median credit score at origination also inched 00 r e year a er d a ed a a y da a r ded e edera e er e a e r ar er y e r on Household Debt and Credit Universal BHCs Q oq Prior QoQ Y T D Y oy CA G R ( 1 6 Q ) U n R n iv ers al 0 eg ion al 3 Commu ity 3-0 Credit c ard l oan s del in q u en c y rate 16.0% 14.0% 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% Credit c ards ed ear er e rea fide e a d e d er the US consumer has led to consumer lending reaching historic highs. re e ed red ard a e a e er a a re r a r re a a rea e r ex re y a d y a y 3 0 e a d red ard a a d a r er a a 0 a re a a a d 3 a y a a 0 As per TransUnion s consumer credit market forecast, TransUnion ex e e a era e red ard a a e er er r e r era e a a e are r e ed rea 0 y e e d 0 e de e a ary 0 a fi er r ey a e d ra e re r ed a a de e ra a reported weaker demand for credit card loans. e er 0 red e r ey d ed y e Federal Reserve Bank of New York noted that the likelihood of re de a y r red ard er e ex rea ed r e e r ey e e consumer s expectation of an application getting rejected increased r er 0 e ry ar r consumers expectations on limit increases, with the average e d r a y rea e r r and expectations on applications getting rejected rising from % Universal BHCs Credit Market Barometer Ernst & Young LLP 2 5

28 R etail l oan ac tiv ity continued D el in q u en c y rates e e e a e dr ed r er a a 0 a d a d a 0 a 0 ea e d r e a e er d delinquencies on credit cards have risen for regional and community a a d rre y are a e e a d re e e y a 0 e a ary 0 a fi er r ey a e d ra e noted that modest net fractions of banks reported widening the spread of loan rates over their cost of funds for credit card loans. Furthermore, modest net fractions of banks reported decreasing the extent to which credit cards are granted to some customers that do not meet credit scoring thresholds. The survey also noted that a fi a e ra a re r ed a ey ex e e a e a y red ard a de er ra e e a er 0 TransUnion s Consumer Credit Market Forecast also noted the combination of expected interest rate increases and more subprime borrowers in the consumer lending market to spur delinquency rate r e 0 Credit c ard l oan v ol u mes v s. del in q u en c ies Loan volume Delinquency rate 8.0% 7.0% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% Source: FRB H.8. A h is toric al p ers p ec tiv e red ard a e e r e a er fide e and spending power increases. The rise in volumes has been accompanied by a recent rise in delinquencies as well. On a long-term basis, delinquencies on credit card loans have fallen below the historical low seen prior to the crisis. This fall might be an indicator of the increased standards of lending followed by banks post the great recession. The trend points to credit card delinquencies setting a new base level. As noted earlier, banks expect the quality of credit card lending to de er ra e 0 de ra a a e a rea ed their spreads in credit card lending and tightened overall standards on lending as well. Even though delinquencies remain low from a historical perspective, credit card lending might experience a slowdown as banks tighten lending standards. Credit c ard l oan del in q u en c y v s. h is toric al h ig h an d l ow 8.0% 7.0% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% Delinquency rate Historical high Historical low Source: FRB H Credit Market Barometer Ernst & Young LLP

29 O th er c on s u mer l en din g b y s eg men t ( $ b il l ion s ) (includes student loans) O th er c on s u mer l oan s ( in c l u des s tu den t l oan s ) Universal BHCs L en din g v ol u mes Other consumer lending has reduced in absolute terms for the universal banks in the last eight quarters, even as overall consumer e d e d ry rea ed 0 er a a re r ed a de e 3 er er a e regional and community banks reported quarterly increases of 3 a d re e e y e er- er re d a universal banks reducing their exposure as regional and community a e e fi e d er e e r edera e er e ar er y e r e d de a d red de de a rea ed y 3 e a ar er a d a 3 r a 0 a edera de a r re a a d edera a y d a a a d y 0 3 a arr ed a a re a e de a de a 0 day de e r de a a 0 O th er c on s u mer l oan s del in q u en c y rate 8.0% 7.0% Q oq Prior QoQ Y T D Y oy CA G R ( 1 6 Q ) U n R n iv ers al eg ion al Commu ity While campaigning, US President Trump outlined a student loan y e a d a edera de a ay e a borrowers income for a maximum of 15 years. As per Forbes r ey re a e- rd 3 3 rr er a e re a de a d e e-fi a e re a de a d re de a er r ey re ea a a large amount of debt corresponds with a hope that government will forgive student loan debt and lowered their payments. As more a d re re a rr er are re ay e r a der e- r e e ay e a a - dy e a e er e ay e re er a e a re e e rea y 6.0% 5.0% D el in q u en c y rates 4.0% 3.0% 2.0% Delinquency rates have risen across all tiers, with regional banks re r 3 de e a 0 ed y er a a a 3 0 a d y a a e e e ere a r er a a 3 r re a a a d r y a % 0.0% The trend of rising delinquencies in other consumer loans has followed the general pattern seen in other categories of consumer loans, such as auto and credit card loans. Universal BHCs Credit Market Barometer Ernst & Young LLP 2 7

30 Credit quality T ren ds in s p ec ial men tion, c ritic iz ed an d c l as s if ied l oan s Ch arg e- of f s 2 8 Credit Market Barometer Ernst & Young LLP

31 T ren ds in s p ec ial men tion, c ritic iz ed an d c l as s if ied l oan s Special mention loans G row th rate of s p ec ial men tion l oan s 15% 10% 5% er re d er e 0 e a e a dr ed r re a a d y a 0 e re a a ex er e ed a dr y a a a a e a y 0 er a d a ad ex er e ed ea e red a y a re e ed e upward movement in delinquency rates. 0% -5% -10% -15% Criticiz ed loans r ed a a e a ed a ar a a a fied a a d a e ee a ard re d e 0 re d dr e a y y e r a fied a 0 er a a a a r r ed a re a a a a r 3 a d y a a a e r r ed a re a er ex er e ed a de e r ed a 0 re a a re r e ar e de e 3 Both universal and community banks have reported modest declines 0 a a Classified loans G row th rate of c ritic iz ed l oan s 30% 25% 20% 15% 10% 5% 0% -5% -10% -15% -20% a fied a a a er e a e era a a e y r e 0 err ed y y e a ed y de e e er y r e a e a 3 0 e r e e er y a a a ee a - e e a e er y r e e a a d y a re r ed 3 a d a fied a re e e y 0 e er a fied a a er a e a e a a a era e ra e a d 0 re e e y Universal BHCs Growth rate of classified loans 25% 20% 15% 10% 5% 0% -5% -10% -15% -20% Credit Market Barometer Ernst & Young LLP 2 9

32 Credit q u al ity continued Ch arg e- of f s Ch arg e- of f s b y as s et c l as s Asset class 12% Charge-offs for all different types of loans analyzed have fallen post e r ea a er e 00 fi a a r 0 ar e- inched up across C&I loans and consumer loans, while charge-offs on a e red y rea e a e a e r % 8% ar e- er a a d d r a a ed 0 0 ared 0 3 e year a er d a d 0 the previous quarter. As noted earlier, loans to the energy sector were ar ar y re ed d r e de r e 0 e er oil prices have stabilized since then and, as mentioned earlier, banks ex e a e a y ex re r e 0 6% 4% 2% Charge-offs on loans secured by real estate have fallen from a peak ed ear er e commercial real estate market has been strong and shows no signs of stress with delinquencies remaining at historic lows. However, regulators have expressed concern at the growth and concentration of CRE loans at banks. The housing market has also recovered from the post-crisis shock, with foreclosures plunging and house prices rising. However, the impact of rising interest rates on the quality of real estate lending has to be watched closely in the coming quarters. 0% Commercial and industrial loans Credit card loans Other consumer loans 2015 Consumer loans All loans Loans secured by real estate 2016 ar e- er a a e r e 0 ared e year a er d a d e previous quarter. This is driven by charge-offs on credit card loans of 3 0 ed ear er e a y a e d a a e 0 a re r er de e e ar e- er er a a e a ed 0 0 ared 0 e year a er d d e ed a er e 0 a ary a fi er r ey a a ex e ee e a y a a d red a de er ra e 0 e e 0 could be a year of higher stress in consumer lending. 3 0 Credit Market Barometer Ernst & Young LLP

33 Ch arg e- of f s b y b an k s eg men t 1.2% 1.0% 0.8% 0.6% Bank segment In line with the declining (gross) charge-offs observed across loan types, overall loan portfolio charge-offs by bank segment have also fallen to stable levels. Charge-off rates for the regional bank group have not recovered to the levels seen prior to the crisis, whereas for the universal bank group, charge offs have bested pre-crisis levels. 0 re a a ar ed 0 e r a era e a a d ea e ared 0 r er a a a d 0 0 r y a ar e- d a 0 r er a a 0 r re a a a d 0 0 r y a % 0.2% 0.0% Universal BHCs 2010 Further analysis of charge-off data shows that charge-offs on auto, red ard a d a a e r e 0 ared 0 During the same period, charge-offs on real estate loans (includes a d a a e a e 0 ar e- auto loans saw an increase across the board, with regional banks ar er a a ar a d y a ar 0 3 ared 0 a a a a ar r e ar e- er a a r 3 re a a r 3 3 a d y a r N et c h arg e- of f to av erag e l oan ratio 4.5% 4.0% 3.5% 3.0% 2.5% 2.0% Reserves N et c h arg e- of f to av erag e l oan s an d l eas es Net charge-offs (NCOs) have followed a similar trajectory to gross charge offs with all tiers of banks reporting low NCO, compared with e ea er ed a er e fi a a r y a a e re r ed e e 0 ed y er a a d re a a 0 0 a d 0 re e e y ar er ar er er a a a e ar e- r e y a re a a a a rea e a d y banks saw net charge-offs dipping by 5 bps. 1.5% 1.0% 0.5% 0.0% e ar er y a r fi e ed a e e ar e- r e r e fi e e ar er a a red ard ar e- ere er e e ar e- a r e 3 ar e- re de a r a e a ere er 0 compared with the year ago period. Universal BHCs Credit Market Barometer Ernst & Young LLP 3 1

34 Credit q u al ity continued A l l ow an c e f or l oan an d l eas e l os s es As seen across all loan performance indicators, the allowance for loan a d ea e ra a a ee a de re d e period analyzed. During the same period, asset quality has improved a d re e ed e er ar e- a d de e e re r ed by all tiers of banks. The decline in the ratio is largely driven by declining allowance being maintained by banks. A L L L to total as s ets ratio 3.0% 2.5% e ra a re a ed ar e y a er 0 a d er a a a e a a ed a ra 0 re a a a e a ra 0 a d y a a e a ra 0 a re er e e r e fir e fi e ar er a er e ar er y a r fi e y The decline was led by a reduction in reserves for residential real estate loans followed by commercial loans. e a a a e e e ra ed y er a banks and community banks. It can be observed from the chart that the banks started building up their loss reserves following the crisis, meaning that the banks started providing for loan losses after the effect. However, the Financial Accounting Standards Board (FASB) a ad ed a e rre x e ed red de a is more forward-looking, and it will replace the current impairment model to estimate loan losses. 2.0% 1.5% 1.0% 0.5% 0.0% Universal BHCs 3 2 Credit Market Barometer Ernst & Young LLP

35 a fi a a performance E arn in g s R etu rn on av erag e eq u ity R etu rn on av erag e as s ets N as daq b an kin g in dex Credit Market Barometer Ernst & Young LLP 3 3

36 Bank financial performance continued E arn in g s Net income e e rea ed - r re rd a a 0 r e universal, regional and community bank groups, but only by the slightest of margins. Net income performance has been choppy for all tiers of banks, but y r e ar e a fi e a d e a a e hampered recoveries. In general, net incomes for all tiers of banks are trending better, despite the pressures on managing regulatory and compliance expenses. e a a a er a d ayed a de e e income, on a YoY basis the performance has been strong for all tiers ex e re a a er a a a e e r e y 30 a d y a re r ed a 0 rea e e a a a a d d 0 in net income. As we will see in the coming pages, net interest income (NII) for all er r ed 0 ared 0 e ere margins of all banks should improve in the coming quarters as the Federal Reserve Bank embarks on its rate tightening exercise. e r y d er e e er ed 0 ared 0 a e ree er e e e r er a a re r a de e d r y a re r a re de 0 de e 33 a d re a a re r a r e r 0 e r y a re a a a e ee aggressive in consumer lending, especially auto loans. We have seen earlier that delinquencies on all types of consumer loans have risen in 0 A similar analysis on non-interest income shows that universal a re r ed a 3 3 rea e 0 compared with the year ago period, community banks reported a 3 r e - ere e e re a a a - ere e dr y 3 0 compared with the year ago period. N et in c ome b y s eg men t ( $ b il l ion s ) Universal BHCs Q Y T D Y G R ( 1 6 Q ) U n R n oq Prior QoQ oy CA iv ers al eg ion al Commu ity Credit Market Barometer Ernst & Young LLP

37 Net interest income e ere e a e a e r ar er r er a a 0 ar er r re a a a d ar er r community banks in the period of analysis. During the same period, interest rates have remained low and loan volumes have increased to new highs across all the tiers of banks. er er r a e 0 er a a re r ed a d y re a a re r ed y 3 a d y a re r ed y ared 3 0 However, on a Yo-basis, all tiers saw NII rise, with universal banks re r a rea e re a a re r a r e a d y a re r a r e The recent hike in interest rates by the Federal Reserve, coupled with the future hikes expected to improve the interest margins of banks and, hence, positively affect NII in the coming quarters. Net interest margin Similar to the trends observed for NII, net interest margin (NIM) for universal banks has steadily declined during our period of analysis to a 0 e er re a a d y a a e ee a e y rea e e r er e er d 3 a d 3 3 re e e y er a a a e ee e r ar de e r ar r e a re a a r 3 3 a d r y a ar r e r Yields on loans for universal banks have been lower than both regional banks and community banks, whereas costs of funds have been higher. There is also a difference in the funding structure a r er er a a a e a a - -de ra while regional and community banks have loan-to-deposit ratios of e 0 er dy a ar er y da e e d re d upward in the coming quarters given the rate hikes expected from the Federal Reserve. N et in teres t in c ome b y s eg men t ( $ b il l ion s ) N et in teres t marg in b y s eg men t % % % % % % Universal BHCs Universal BHCs Q oq Prior QoQ Y T D Y oy CA G R ( 1 6 Q ) U n R n iv ers al eg ion al Commu ity Q Q Q 1 5 A v g. ( L T M) A v g. ( 1 6 Q ) U n R n iv ers al eg ion al Commu ity Credit Market Barometer Ernst & Young LLP 3 5

38 Bank financial performance continued R etu rn on av erag e as s ets Return on average assets (ROAA) is increasing across all tiers of banks during the period of analysis even though the rise has been ra er erra ar rea ed 0 r 0 e year a er d re a a a a de e r a d y a re r ed a r e 0 r 0 3 e year a er d e a e a e a er a r e 0 The higher ROAA for regional banks is driven by the higher returns earned by credit card companies (American Express and Discover Financial Services). R etu rn on av erag e eq u ity Return on average equity (ROAE) for all tiers of banks has moved to higher levels than the levels observed in the immediate aftermath e re e 00 a d ayed d a d rea e during the period analyzed for all bank tiers, in line with changes in net income. Regional banks have maintained a higher ROAE than universal and community banks for a large part of the period of analysis, helped by the higher ROAE of the credit card BHCS (American Express and Discover). In line with the earnings performance of the respective er er a a re r ed 0 ared e year a er d re a a re r ed a de e r a d y a re r ed ared e year a er d e er a a all tiers saw a decline in ROAE. R etu rn on av erag e as s ets R etu rn on av erag e eq u ity 2.0% 1.5% 1.0% 0.5% 0.0% -0.5% -1.0% -1.5% 15.0% 12.0% 9.0% 6.0% 3.0% 0.0% -3.0% -6.0% -9.0% -12.0% -2.0% % Universal BHCs Universal BHCs 4 Q Q Q 1 5 A v g. ( L T M) A v g. ( 1 6 Q ) U n R n iv ers al eg ion al Commu ity Q Q Q 1 5 A v g. ( L T M) A v g. ( 1 6 Q ) U n R n iv ers al 3 0 eg ion al Commu ity Credit Market Barometer Ernst & Young LLP

39 N as daq b an kin g in dex r a ea re a der e r d ra e ed ra e e e e er a d e era y d ear er r a e a r e a d ry a e ee dra a a y re e ed e a are r e d e e ee e e day e er a d e e d 0 e a dex a ea er a er d ar e dex a y a a 33 N as daq b an kin g in dex I X BK 4,000 3,500 3,000 2,500 2,000 1,500 1, Source: Nasdaq a a r ar 3 0 Credit Market Barometer Ernst & Young LLP 3 7

40 Capital Ban k c ap ital metric s Credit RW A to assets In the prior graphs, regional banks demonstrated better NIMs, ROAAs and ROEs versus the universal and community bank peer groups er e er d e e r e fi a a r e graphs highlight several capital measures where the regional bank r a d red - - a a e er a a ra e era e ra a d a a ade a y ra e prior graphs, each ratio in the following four graphs shows a weighted average. Higher credit RWA-to-total assets tends to indicate higher levels of credit risk relative to other sources of risk. Whether the higher ratio r y a a ra e dr er e e re a a e er r fi a y r a y re a a a e a d e fi e e e traditional businesses of lending requires further study. When a bank has higher credit RWA-to-total assets, the bank is arguably tending to d a e er a d a d a a a r fi a e a r and is more likely than otherwise to focusing on loans with higher risk weights. If a bank is not achieving higher credit RWA-to-total assets, that could mean the bank either is weaker in its loan-to-deposit ratio or holds higher concentrations of loans with low risk-weights. Tier 1 capital ratios In the graph of Tier 1 capital ratios, each group comfortably exceeds e re d re red e a fied a e a a ed er each of the past 11 quarters shown. The graph also points to regional banks managing to operate with more modest capitalization levels versus their universal and community bank competitors. Note that the Tier 1 trend for regional and community banks is slightly declining, whereas for universal banks, the ratio is rising as these banks contend with not only the phase-ins of capital conservation buffers, but also the Globally Systemically Important Bank (G-SIB) countercyclical capital buffer. e e d 0 e er a a ra r e er a a r ad r e y d ed y 0 33 r re a a a d r e y r y a compared with the year ago period. e ra a d a r er a a r re a a a a d 3 r y a a 0 Credit R W 90.0% A - to- total as s ets T ier 1 c ap ital ratios 14.0% 80.0% 13.0% 70.0% 12.0% 60.0% 11.0% 50.0% % Universal BHCs Universal BHCs 3 8 Credit Market Barometer Ernst & Young LLP

41 Leverage ratios e era e ra er a a - - a ex re d a e a d off-balance sheet exposures) across the three groups surprisingly show the regional bank group as the most conservatively leveraged. a are r a y a e e re d a da ed y e regulators to be considered well-capitalized for this ratio. Capital adeq uacy ratio The total capital ratio for all tiers of banks analyzed is comfortably a e e re d 0 a da ed y e re a r e considered well-capitalized. The higher capital standards imposed e er a a are re e ed e er a a ra a a ed y e 0 r r er a a a a ed a a a ade a y ra r the prior quarter. The capital adequacy ratios of regional banks and y a d a 3 a d 3 a 0 L ev erag e ratios 12.0% Cap ital adeq u ac y ratio 18.0% 11.0% 17.0% 10.0% 16.0% 15.0% 9.0% 14.0% 8.0% 13.0% 7.0% % Universal BHCs Universal BHCs Credit Market Barometer Ernst & Young LLP 3 9

42 Robotics in lending Fintech has the potential to transform the way that financial services are delivered and designed as well as the underlying processes of payments, clearing, and settlement. Governor Lael Brainard, The Opportunities and Challenges of Fintech, December 2, 2016 What is RPA? Robotics, or robotic process automation (RPA), is a means to respond to increasing cost management pressures and expectations to do more without increasing headcount. RPA uses a software robot, combining innovative new technology that replicates human interactions with the user interface of a computer system. How does it help you? RPA eliminates or lessens repeatable manual processes that result in quality issues and data inconsistencies. Additionally, it reduces the reliance on application development life cycles to create sustainable long-term solutions that continue to drain capital expenditures and take too long to implement. Traditional vs. cognitive RPA Traditional RPA automates repeatable, mostly nonjudgmental tasks. Cognitive RPA allows certain decisions to be made with judgment. 40 Credit Market Barometer Ernst & Young LLP

43 Benefits of robotics Efficiency Data quality improvement Reduce critical path time during especially peak load periods when SLAs or key deadlines are at risk Increase in data accuracy and a decrease in operational risk due to reduced manual intervention Cost savings and avoidance Substantial cost reduction and cost avoidance due to reduced staffing needs Speed to value Ease of deployment, continuous improvement and innovation without ambitious business process re-engineering Controls and oversight Improve consistency, control and traceability of error-prone manual processes Robotics in the credit life cycle process Origination and screening Underwriting Approval Closing and funding Scan/search and populate obligor financial and appraisals into credit decision tools Search and populate relevant credit analyses data into credit write-ups Perform specific credit decisions and make escalations Search/scan documents such as loan agreements, legal documents and master agreements and populate core systems Surveillance and monitoring Automated identification and investigation of breaches of internal risk ratings and limits Robotics enables organizations to automate existing high-volume and/or complex process-handling actions as if the business users were doing the work themselves. Software robots are a virtual workforce comparable to onshore and offshore workforces and will drive efficiencies in the business operations of financial institutions. Credit Market Barometer Ernst & Young LLP 41

44 Regulatory snapshot Summary of major regulatory updates Regulatory actions 42 Credit Market Barometer Ernst & Young LLP