Oct 28, 2008
Executives
Irene Oh - SVP, Corporate Finance Dominic Ng - Chairman, President and CEO Tom Tolda - EVP and CFO
Analysts
Joe Morford - RBC Capital Markets Ken Zerbe - Morgan Stanley Aaron Deer - Sandler O'Neill James Abbott - Friedman, Billings, Ramsey & Co. Joe Gladue - B.
Riley & Company Julianna Balicka - Keefe, Bruyette & Woods Lana Chan - BMO Capital Markets
Operator
Welcome to the third quarter 2008 East West Bancorp Earnings Call. My name is Ahmed, and I will be your coordinator for today.
At this time all participants are in listen-only mode. We will be facilitating a question-and-answer session towards the end of today's conference.
(Operator Instructions). As a reminder, this conference is being recorded for replay purposes.
I would now like to turn the presentation over to your host for today's call, Ms. Irene Oh, Senior Vice President of Corporate Finance.
Irene Oh
Good morning, everyone, and thank you for joining us today to review the financial results of East West Bancorp for the third quarter 2008. In a moment, Dominic Ng, our Chairman, President and Chief Executive Officer, will provide highlights for the quarter.
Then Tom Tolda, our Executive Vice President and Chief Financial Officer, will review the financials. We will then open the call to questions.
First, I would like to caution participants that during the course of the conference call today, the management may make projections or other forward-looking statements regarding events or future financial performance of the company within the meaning of the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995. We wish to caution you that these forward-looking statements may differ materially from actual results due to a number of risks and uncertainties.
For a more detailed description of factors that affect the company's operating results, we refer to you our filings with the Securities and Exchange Commission, including our Annual Report on Form 10-K for the year ended December 31st, 2007. Today's call is also being recorded and will be available in replay format at www.eastwestbank.com, and www.streetevents.com.
I will now turn the call over to Dominic.
Dominic Ng
Thank you, Irene. Good morning.
Thank you for joining us on today's call. Yesterday afternoon we announced financial results for the third quarter 2008, and we declared the dividend payment on both our common and preferred stock.
Our financial results for the quarter are indicative of the challenging economic environment we are currently faced with. Tom will discuss some of the details of our financial performance later in the call.
First, I would like to provide an overview of our financial results and discuss credit trends we are seeing. We reported a net loss for the quarter of $31.2 million after non-cash other than temporary impairment charge of $53.6 million and provision for loan losses of $43 million.
Excluding this one-time OTTI and loan loss reserve, core operating income was $48 million. The OTTI impairment charge resulted from $47 million impairment on Freddie Mac and Fannie Mae preferred stock and also $6.6 million impairment on pooled trust preferred securities.
We believe that East West made significant progress in the third quarter by strengthening the balance sheet and improving both credit quality and overall liquidity. Unfortunately, the progress made during the third quarter and the core operating performance of East West is clouded by non-cash items.
Again, Tom will address the securities impairment charges later in the call, but first I would like to call attention to the solid progress we made during the quarter. We tackled credit issues head-on and made strong progress during the third quarter in reducing total loan delinquencies.
Quarter-to-date, we experienced a substantial decrease in overall loan delinquency and stabilization in overall credit issues. We continue to build the allowance for loan losses, which totaled $177.2 million, or 2.14% as on September 30, 2008.
We also significantly improved liquidity by increasing our borrowing capacity. Additionally, the third quarter results show substantially lower operating expenses as we continue to contain costs and improve efficiencies during this very challenging economic cycle.
Let me first address our progress made in problem credits. Overall I believe we made good progress in the third quarter in dealing with problem loans.
Total loan delinquencies decreased $53 million or 14% at September 30, 2008, compared to June 30, 2008. Additionally, non-accrued loans and nonperforming assets are stable at $177 million and $200 million respectively.
In fact, it was a mere $7 million increase from June 30, '08. The small percentage increase in NPA is primarily due to decrease in total loan balances, which is consistent to our plan for this year.
On the contrary, 30 to 59 days delinquencies dropped $171 million at June 30 to $111 million as of September 30. 60 to 89 days dropped from $66 million to $54 million, three months later.
So we are making good progress in the overall delinquency as of September 30. While many of our competitors have seen sharp increases in delinquency and nonperforming asset level in the third quarter, we actually were able to reduce the total delinquency by a substantial amount.
We believe that the proactive status we took on identifying and resolving problem credits earlier this year has positioned us ahead of our peers in dealing with credit issues going forward with 2009. During the quarter, net loan charge-offs were $39.7 million, up $4.9 million from the second quarter.
All of the residential construction and land charge-offs for the third quarter were loans that have been identified as weaker credits in our comprehensive loan review conducted earlier in the year. We continue to build the allowance for loan losses and grew the allowances to $177.2 million or 2.14% of our outstanding loans.
We provide total of $43 million for loan losses during the quarter, down from $85 million in second quarter and $55 million in the first quarter. Additionally, the allowance to non-accrued loans increased to 100% coverage as of September 30, 2008.
We made great progress in reducing REOs and other problem loans, particularly residential construction and land loans during the third quarter of 2008. We sold a total of six REO properties during the quarter at prices very comparable to the carrying value.
Additionally, we sold a total of 12 notes during the quarter. All of them were non-accrued loans or problematic residential constructions or land loans.
I'm pleased to report that we have made good progress again during this first four weeks of the fourth quarter to resolve NPAs, either by obtaining payments from the borrowers or by actively selling REO properties and notes, and we'll continue to do so for the rest of the quarter. Quarter-to-date, construction and land loan balances have decreased $235.4 million.
Additionally, the total unfunded commitment on construction loans has decreased $185 million from $684 million at June 30 to $499 million at September 30. For the first three-quarters of the year, we have had a major focus on reducing credit risk exposure, and we expect to continue in this mode for the remainder of the year.
We strongly believe that if we continue the strong momentum from the third quarter to pare down problem loans and REO assets, we'll be in good shape to start the New Year. At this point, we have not seen any meaningful deterioration in the C&I, trade finance, or income producing commercial real estate portfolios.
As a direct result of our continuing effort to reduce credit risk exposure, particularly in our trade finance portfolio, which totaled $389 million of outstanding balance, as of September 30, 2008, we have a zero delinquency and trade finance loan. In anticipation that the economy and employment levels may weaken, we have continued our proactive approach of critically monitoring our loan portfolio very closely.
In particular, we are carefully scrutinizing the C&I, trade finance and construction portfolio. Additionally, we have continued to build a reserve for loan losses in light of these additional economic risks and in anticipation of potential future deterioration.
As of September 30, 2008, we have increased the allowance for loan losses both in absolute dollars and in percentage of total loans across all loan categories. On a final note, I would like to discuss our expectations for the remainder of 2008.
We maintained a previously announced guidance and estimate that earnings per share for the fourth quarter of 2008 will be positive and range from $0.11 to $0.13. This guidance is based on projection of a net interest margin of about 3.05% for the fourth quarter.
This net interest margin projection for the fourth quarter is based on the assumption that the Fed funds rate will decrease another 50 basis points when the Fed meets at the end of this month. Additionally, we believe that the provision for loan losses for fourth quarter will be at a low level from the last three-quarters.
Based on the credit trends we are seeing we currently believe that provision for loan losses would approximate $35 million for the fourth quarter of 2008. And with that I would like to turn the call over to Tom Tolda who will discuss our third quarter 2008 financial results in more depth.
Tom Tolda
Thank you, Dominic. I would like to start with our third quarter reported net loss of $31.2 million or $0.50 per common share.
As Dominic noted, the primary driver for the net loss reported for the third quarter was a non-cash other than temporary impairment charge on our Fannie and Freddie preferred stock, which cost 47 million and an additional $6.6 million OTTI charge against our pool trust preferred securities, which combined cost $0.85 per share pretax in the quarter. These charges, coupled with the $43 million provision for loan loss, drove the loss reported in the quarter.
Ironically, it wasn't that long ago that an investment in Fannie Mae and Freddie Mac was thought to be a very solid one, yet this quarter many banks were confronted with a new reality having to write-down their entire investment in these securities to a market that was between $0.03 and $0.05 cents on the dollar at quarter end. The market for pooled trust preferred securities is inactive at this time, and this ill-liquidity has adversely impacted the fair value of these securities.
However, these securities continue to be well collateralized and we were not impacted by recent downgrades by rating agencies. Given the recent US Treasury plan to strengthen bank capital, increase liquidity and likelihood of further consolidation of weaker banks we believe these events strengthen the prospects for these securities going forward.
As noted in Dominic's earlier comments, positive developments are evident in the area of credit. Delinquency is down, progress is made in reducing problem assets, construction and land portfolio balances are reduced and nonperforming assets appear to be stable.
The significant reduction in provision for loan loss from $85 million in the second quarter to $43 million in the third quarter was largely expected and we anticipate this going lower in the fourth quarter. Excluding OTTI charges and provisions for loan losses, pretax earnings in third quarter were $48 million versus second quarter's $49.9 million.
The variance was primarily due to $5.7 million lower net interest revenues, non-repeat of the $3.4 million gain on sale of securities in the second quarter, partly offset by $7.1 million lower non-interest expenses in third quarter. Net interest revenues declined in the quarter on lower portfolio balances down $367 million and a 23 basis point decline in net interest margin.
The decline in margin is a result of reinvesting loan payoffs into short-term lower yielding treasury securities and Fed Fund assets and also due to the impact of lower Fed Funds earlier in the year. In fourth quarter, we plan to use some of these short-term investments to pay off higher rate FHLB borrowings that will come due, thereby lessening our funding costs and improving spreads.
We have also taken action to improve short-term investment yields that should also help. As Dominic mentioned, further strengthening our balance sheet has been a huge focus for us in 2008 and is evident in our capital rates in April, growing cash and near cash balances, lessening our loan to deposit ratio, increasing our borrowing capacity $1.1 billion in the quarter to $2.8 billion or more than a third of our deposit base, and significantly increasing our allowance for loan losses to 2.14% of total loans and 100% coverage of our non-accrual loans.
We are confident that these actions among others that we continue to take position us very well for the uncertain times we are in, and will allow us to capitalize on opportunities going forward. Shifting gears for a moment, I would like to comment on our expense trends.
Throughout the year, we have been managing our costs wisely. The credit cycle costs involving the reappraisal of real estate, additional legal costs, and other credit review related costs have offset some of the progress getting made.
In the third quarter, non-interest expenses decreased $7.1 million versus second quarter, largely through attrition and selective hiring policies. We were able to reduce staffing on a net basis 145 FTE, or about 10% from December 2007.
We also reduced incentive compensation and other related expenses that were fully realized in the quarter. These efforts, along with ongoing deferrals and/or cancellation of discretionary investments, are continuing.
Opportunities to further increase efficiency are being pursued, and we expect costs will continue to moderate as we approach year end. Our efficiency ratio was 46.4% in the third quarter and compares very well to others in the industry.
On a final note, we will be able to record the full impact of the tax benefit from the GSE preferred stock OTTI impairment charge in the fourth quarter and we'll pick up $5.7 million in tax benefit going into the final quarter of the year. This tax benefit is already reflected in our regulatory capital in accordance with regulatory guidelines made available in early October.
In closing, while we took a heavy pounding in the quarter from non-cash charges, good progress is evident in reduced credit exposures. We continue to increase total risk-based capital now at 13.12%.
We further strengthened liquidity and improved efficiency. Barring unforeseen events we expect to return to profitability in fourth quarter and are well on our way to better positioning ourselves for growth and opportunities in 2009.
Dominic Ng
Thank you, Tom. Again, I'd like to thank everyone for joining the call today, and for your continued interest in East West.
I would now open the call to questions.
Operator
(Operator Instructions) Your first question comes from the line of Joe Morford with RBC Capital Markets.
Joe Morford - RBC Capital Markets
Thanks. Good morning.
Dominic Ng
Good morning.
Joe Morford - RBC Capital Markets
I just wondered if you could comment on the values realized in the sales of non-performing loans and REO in the quarter, and how do they compare to the carrying values on your books at June 30th? Also, along those lines, based on your ongoing review of the portfolios, can you update where you think the current average LTV stand for the residential land and construction portfolios, either relative to last quarter or at origination?
Thanks.
Dominic Ng
Let me answer the first question on the value of the sales of REO and notes. I think we won some and we lost some, but overall, it was a 9% discount from the carrying values for all the REO and note sales taken place.
We have taken the path that we worked on these loans one at a time rather than doing a bulk sale, and currently I think the book sale value is quite depressed. Obviously if you looked at what major banks were doing, like Merrill Lynch and some of the other big out there are selling at a huge discounts.
So if we go out there and do a big book sale, I think that we are probably not doing our service appropriately in terms of fiduciary responsibility. But, on the other hand, what we worked on these loans and REO one at a time, we are making some pretty good progress, and there are some of which we actually sold above the new appraised value and then there are some of them actually we did it below.
All in all what we are doing is that we just work on one at a tame and making good progress, and as of, I think that September 30, it was a 9% discount from our carrying value. So that was the first question.
Now I do not remember the second question.
Joe Morford - RBC Capital Markets
It was just any read on current average LTVs for the residential land and construction portfolios?
Tom Tolda
Joe, this is Tom Tolda. With regard to the loan-to-values, on the residential construction we still are around that 80% level with land just short of 70% loan-to-value at this point.
Joe Morford - RBC Capital Markets
Okay. Great.
Then one last just housekeeping thing. Just to clarify, the guidance for the fourth quarter on the EPS being $0.11 to $0.13, I think you said, does that includes the $0.09 tax benefit?
Tom Tolda
Yes, it does.
Joe Morford - RBC Capital Markets
Okay, perfect. Thanks so much.
Tom Tolda
Thank you.
Operator
Your next question comes from the line of Ken Zerbe with Morgan Stanley.
Ken Zerbe - Morgan Stanley
Hi, good morning.
Tom Tolda
Good morning.
Ken Zerbe - Morgan Stanley
On the trust portfolio, I was actually wondering if you could tell us, you took the $6.6 million write-down there. How much do you have left on your books?
What is the unrealized loss on that amount as well?
Tom Tolda
Sure, Ken. With regard to the unrealized loss, currently we are at $54 million unrealized loss and the face value of the securities were $134 million.
Ken Zerbe - Morgan Stanley
That is the par value, $134 million.
Tom Tolda
That is correct.
Ken Zerbe - Morgan Stanley
Got you. Okay.
Just in terms of compensation expense, obviously we saw a huge drop this quarter, and I know you said that you keep expenses down, but, was there any one-time adjustments in the comp expense, or is that really a correct ongoing number to use?
Tom Tolda
Yes, I mean, there were adjustments in there in terms of the compensation and so forth that I refer to. However, we do anticipate that this new level would continue into fourth quarter.
Ken Zerbe - Morgan Stanley
Got you. Okay.
Great. Thank you very much.
Tom Tolda
Sure.
Operator
Your next question comes from the line of Aaron Deer with Sandler O'Neill. Please proceed.
Aaron Deer - Sandler O'Neill
Hi, good morning, everyone.
Tom Tolda
Good morning.
Aaron Deer - Sandler O'Neill
Tom, I just wonder if you could explain the deposit flows in the quarter. It looked like there were some big declines in money marks and jumbo CDs and then some big gains in consumer CDs.
What was driving that?
Tom Tolda
Well, in terms of the decline, I think that a couple of things are happening. If you look at the chaotic banking market for the last few months, because of the fear of depositors about what exactly is FDIC insurance and all that, and this like affect the entire country.
What we have done, actually, while most of our customers are feeling pretty calm and not doing anything, we actually took a very proactive action to educate our customers regarding FDIC insurance. Now, keep in mind that the vast majority of the time, for the last three months, I mean insurance only up to 100,000 versus 250,000.
We were actually very busy educating our customers in terms of getting full insurance, and we have been a member of CEDAR for years. We do not need to do much with it, but with this changing environment, we feel that it is only appropriate for those customers who really do not understand banks financial performance, safety etcetera.
It will be most prudent for us to take a proactive stand to encourage them to, if they want to sleep good at night and not worrying about anything, in terms of the safety of the deposits and that we will get them into the CEDARs program, which is get them fully insured up to $50 million. So through that process, we actually help a lot of our customers and what you find is that, our core deposits in the now account, money market account, and even some of the DDAs have slipped down to the time deposit area, because our active effort to helping the customers to go to the CEDARs program which can only be offer at time deposit.
Therefore, you find many more deposits going in that direction. In terms of, there are also more deposits at less than 100,000.
The many customers also have taken the position to restructure their deposits, restructure their deposit by knowing the fact that they have many more, let's say, family members that can open more accounts, that they can actually take one account, let say from 600,000 and split it up to six into 100,000 each. There are more of that activities taking place.
So, all together, I think that we have seen some of this shift in deposit mix, which I think that from a total core customer standpoint, it is more or less the same customers that we have in the past. It is just that because of the changing environment in the banking industry, that we have customer making these type of direction.
Moving forward, I think that with the $250,000, limit and also with non-interest bearing deposit being fully insured, plus the fact that we also get additional insurance for money market account. I think we changed the profile also slightly.
But, I think that to a certain extent this deposit mix we probably still wanted to pay too much credence to simply because that many of these movements are somewhat artificial, rather than have any significant changes that is going on with our customer base.
Aaron Deer - Sandler O'Neill
Okay, that is helpful. Then Dominic, what are your thoughts on the TARP capital?
Were you approached by your regulators and is that something you will seek, and if so, how much would you think would be appropriate?
Dominic Ng
Yes. Our regulators have talked to us about this looks like a very attractive thing, and than they actually would have no problem to see us going in.
They would love to like help us through the process and so forth. We at East West do not take this type of opportunity lightly.
So, in fact, we spent the last two weeks gathering information from anyone out there who seems to know more than we do. We have been getting a lot of information, and in fact, just the past weekend, this Friday and Saturday we had a Board retreat and spent a significant amount of time discussing the pros and cons about joining this program.
The key thing that we wanted to address with our Board members was, since East West has very good capital ratio, if we do get these additional capital coming in, how should we deploy our capital? This weekend we came to a conclusion about specific steps that we could have taken, if we were able to get this additional capital.
We feel confident that we will be able to deploy this meaningfully, whether it is in lending, gathering deposit, and acquisition without ever thinking about going outside of our comfort zone or doing things that we do not feel that we are capable of doing. So with that conclusion, the Board has approved this management to go ahead and apply which we have done yesterday.
Aaron Deer - Sandler O'Neill
Perfect. Thank you, Dominic.
Operator
Your next question comes from the line of William Wallace with FBR. Please proceed.
James Abbott - Friedman, Billings, Ramsey & Co.
This is James Abbott. How are you?
Dominic Ng
Good.
James Abbott - Friedman, Billings, Ramsey & Co.
Just a couple of questions. Several of mine have been answered, but do you have the reserve on your past grade loans, a ratio for us on that?
I know that you have built your reserve ratio to a very significant percentage relative to most of the other companies in the industry, also looking for the reserve for the past grade loans.
Tom Tolda
Do you have that number, Dominic, with you?
Dominic Ng
We do not have that readily available, but we can get back to you James, shortly with that.
Irene Oh
James its Irene, let me just let you know. So our total allowance is about $177 million of that, $144 million are for past five loans.
So we do not separately breakout what it is for past loans or for past five it is 144. The remaining $33 million are for the impaired past [114] loans.
James Abbott - Friedman, Billings, Ramsey & Co.
Okay. Thank you.
Then another quick, this is on the expense issue, as the deposit insurance expense as we go into the next year. What basis point run rate do you anticipate or right now currently it is running around nine, 10 basis points annualized, unless there is someplace in there that I am not aware of.
Where do you see this moving to?
Dominic Ng
Well, we expect that the FDIC deposit insurance assessment will go up, because FDIC Chairwoman has indicated very clearly that is going to happen. So, we have not yet, finalized our guidance at this point for 2009, because of all these changes that may be happening.
We will beat it definitely, you can count on the fact that we will make sure the minute we get better information from the FDIC that we will put that number through and be able to come up with a finalized number. Because what is happening, right now is that, with the Fed fund rate dropping another 50 basis points, with this the likelihood that we may be getting significant amount of capital, which we would deploy in doing different things.
I think that there are enough factors that are taking place for 2009 that it will be rather unproductive for us at this moment to put our 2009 guidance and that is the reason why we only put out the 2008 fourth quarter guidance. We feel very comfortable, because it is only three months and we are already almost into one month, and we feel pretty confident about where that is.
But, when it comes to 2009, there is so many additional factors that may affect the numbers. We feel at this point that what we are going do is just focus on doing what we set to do at the beginning of the year.
That is said, pare down nonperforming loans to a level that we will be ahead of our peers and increase the liquidity, so that we will be a very safe and sound balance sheet. Pare down the operating expenses, so that when we are ready to go out and start aggressively doing more business, when the economy starts rising that we are in a much, much lean and mean position, so that we will be able to do better.
Also, not to be tempted to go out there and start offering substantially a high rate for deposits, because at this very challenging economic environment, many banks are out there paying huge premium and high rate to attract deposits. We try to stay away from just going to that direction, because eventually, I think that if we continue to pay higher and higher rate, it will definitely damage our margin.
I think at this point, our margin is depressed primarily because we had non-accrual loans with which to deal. Secondly, when the Fed fund rate dropped to its low level, obviously banks that have higher DDA account will be suffering, like us.
Some day the Fed funds will have to rise to a more normalized level, and at that point, we will be able to enjoy much better margin than those who are paying much higher deposit rates. So, we are trying to focus on the variance right now, and at this point we are not going to be spending the effort to try and to figure out the '09 numbers, yet.
James Abbott - Friedman, Billings, Ramsey & Co.
Yes, I am sorry. I did not mean to ask for guidance on all of '09.
I am just trying to understand the deposit expenses, because that is something that at least we have. I do not want to miss model or overstate it.
Tom Tolda
Yes. It will go up, but because of the increase from the FDIC, that is one, and secondly, we expect deposits to grow in '09.
So both volume and both rate will affect the expenses to go up substantially.
James Abbott - Friedman, Billings, Ramsey & Co.
Okay. Then lastly, I appreciate you taking all these questions, but on the trust preferred securities pools, I know there were some income notes and a lot of BBB rated product in there.
Where did the impairments come, on what tranches?
Tom Tolda
James, we had impairment on the trapeza 12, I am sorry. Irene, would you?
Irene Oh
James, We had five trust preferred securities where there was impairment. Three of those were income notes and two of them were BBB rated.
One of them in particular, most of the impairment came in one security which had been downgraded by Moody's. Additionally, this was a security where there was REIT and homebuilder exposure, so there was a little bit of a credit issue with that one.
James Abbott - Friedman, Billings, Ramsey & Co.
Okay.
Irene Oh
Yes. Also the income note balances as of September 30th was about 1.5 million.
Tom Tolda
That is the total.
James Abbott - Friedman, Billings, Ramsey & Co.
Okay. Thank you very much.
Operator
Your next question comes from the line of Joe Gladue with B. Riley & Company.
Please proceed.
Joe Gladue - B. Riley & Company
Good morning. I know this is somewhat of a moving target, but just in terms of the guidance, particularly on the provision, any reason to believe there is any greater visibility this quarter than you might have had last quarter or you might have any better comfort level for where you think that will end up in the fourth quarter?
Dominic Ng
Well, actually every quarter is getting better. I would say that from my perspective, the hardest time for me was actually December 31.
I absolutely had no idea what on earth was going on then. Came March 31st, it became more apparent that the economy was going to be getting substantially worse, and that is why we took the approach of doing a 100% review of every single one of these residential construction loans and land loans, and later on even including the commercial construction loans and even some of the high LTV commercial real estate.
We also implement a pretty much now almost 100% review of C&I loan and trade finance loan. The whole idea was to get ourselves in a position that we know better in detail every single loan in our portfolio.
While we are doing all that I think we have a very good feel of these characteristics of our loans. We have no way of controlling the market.
So while I knew the market is going to be really ugly back in June, I had no idea Lehman Brothers would file bankruptcy, AIG would be taken over by government, and Fannie and Freddie and all these other stuff that are happening also. After all that some bad stuff happened, I have no idea now we got talks and then most banks will get capital.
So these are all changing targets that is hard for us to predict. I can assure you that our loan portfolio, I think we have got a much better visibility today than a month ago or two months ago or three months ago simply because every day we are paring down these, not only that by selling the REO and the notes, the problem notes, that makes us feel comfortable that we are reducing our exposure not only that because we are reducing the delinquencies dramatically that we feel that we are reducing exposure.
More importantly, every day we are working with existing customers with past loans, loans that are paying as agreed, have no problems, but fundamentally because the economic conditions of the market some day they may potentially be a problem. We have been aggressively for the last three to four months working with these, what I call good current paying customers and making sure they do not become a problem.
Let's say six to nine months from now, which requires us to tighten up the debt covenant or maybe requires us to ask for additional collateral or may require to us ask for borrowers to put in additional guarantor that has substantially better net worth. All of these things are taking place for the last few months, one loan at a time.
As of today, we feel substantially more comfortable that I think that we have a much better grip of this portfolio. Now that is not to say that because of all bad things that have taken place that we would not take losses simply because of the fact that the market had deteriorated dramatically.
Every one of us can see it just by reading the media report in terms of how home prices have dropped. How there is so many retailers or small business filing bankruptcy, and all that stuff going.
So there is no question that despite the fact that we have taken substantial reserve as of June 30, and the deterioration of market have caused us to take some further write-down on some of the loans. As I indicated earlier, the REO and problem loans that we sold result in a 9% discount.
Had it not for these rapid deterioration of the market, we were probably be able to sell these loans quickly with a gain, however because of the very challenging and declining market, quite a few investors were scared away from the opportunity. So these are challenging markets we are dealing with, but our position is that we will aggressively continue to pare down these problem loans, because if we do not do that, who knows, six to nine months from now the deterioration of the market value of these existing portfolio that we thought we had a very good handle and we thought that we had provided adequate reserves may deteriorate even further.
Let me share with you my experience back in the early '90s when Southern California was going through an extraordinary real estate recession back then. We were paring down real estate loans in '91-'92, but there are a few of them.
We did not take quick action and we thought that those customers are doing fine. They will be okay.
We work with them. Eventually came to '94, like four years later, customer exhausts all their liquidity.
When that customer at that time when that four years later, the deterioration of the value of the collateral has dropped substantially, so we feel that early action now to try to find a way to alert our customers about the severity of the problem and early action now to try to resolve this problem credit in many different ways is the right thing to do and that is what we are going to continue to focus on that.
Joe Gladue - B. Riley & Company
Okay, all right. Thanks.
That is helpful. Based on those same lines how much of the remaining land and construction loans are in the Inland Empire and other distressed areas.
What portion of those, are already classified as non-accruing or versus still accruing?
Irene Oh
Hi Joe, this is Irene. Joe if we look at our exposure in the Inland Empire for land, we have about 40 million as of September.
Residential, excuse me, a 157 million, and then residential construction total of about 70 million, and about 100 million commercial construction.
Joe Gladue - B. Riley & Company
All right. Lastly, I will ask the 2.8 billion of new liquidity, is that all new unused liquidity or is part of that already used?
Tom Tolda
Joe, of the 2.8 billion this is both FHLB and Federal Reserve borrowing capacity which is not utilized.
Joe Gladue - B. Riley & Company
Okay, all right. Thank you.
That is it.
Operator
Your next question comes from the line of Julianna Balicka with KBW. Please proceed.
Julianna Balicka - Keefe, Bruyette & Woods
Good morning. I wanted to follow up on some of your comments on the call so far.
You had mentioned the decrease in unfunded commitments from 684 million to 499 million. Was that residential construction only or did that include land and, if not land, what is the land commitments, please?
Irene Oh
Julianna, primarily that decrease is residential construction. There is a little bit of unfunded commitment on the land but very low, maybe 15 million.
Julianna Balicka - Keefe, Bruyette & Woods
Very good, and then continuing on, you discussed the reinvestments of payoffs into treasuries and other low yielding securities. So going forward in the fourth quarter are you going to continue that strategy or are going to change to different securities?
Tom Tolda
Yes, Julianna, what we will be doing is paying down those FHLB borrowing that are coming due in the fourth quarter and into next year. So that will give us a boost on the margin as we move forward here.
Dominic Ng
We parked this cash into low yielding securities back in the third quarter because there was not much Federal Home Loan Bank advances coming due in the third quarter, but we would have pretty sizable Federal Home Loan Bank advances due.
Tom Tolda
Correct, so we also have these borrowings that are coming due at, like climate change, 5% range, and given that the Fed funds right now are invested at the 2% range. We should pick up some additional margin as this occurs.
Julianna Balicka - Keefe, Bruyette & Woods
I know you are not giving guidance for 2009, but assuming no TARP capital, how would you expect your margin to behave?
Tom Tolda
We would expect the margin to improve going forward. I think that that is a function of the lower cost borrowings.
I think to the extent that the environment improves, I think we can go a little bit long with some of the investments that we have been making to also enhance yield, and then to the extent that we can come back into the lending space. I think new production would also enhance the yields on the portfolio going forward.
Julianna Balicka - Keefe, Bruyette & Woods
Very good. You said you applied for TARP and how much money did you apply for?
Dominic Ng
We are looking at to get close to the max, and that is what we are planning to do, which about 300 million.
Tom Tolda
350 million.
Dominic Ng
Simply over 350 million.
Julianna Balicka - Keefe, Bruyette & Woods
That is very good. I will step back now.
Thank you.
Operator
(Operator Instructions). Your next question comes from the line of Lana Chan with BMO Capital Markets.
Please proceed.
Lana Chan - BMO Capital Markets
Hi. Good morning.
Tom Tolda
Good morning.
Lana Chan - BMO Capital Markets
Most of my questions have been answered, but could you just give us an update on where you are with the loan review process? I know you have completed much of the commercial loans reviewed in the third quarter, but if you could give us an update where you are on the commercial real estate front?
Dominic Ng
Yes. Actually, we much have completed the one-time review of just about everything, and also now is what I call the ongoing review.
So just because we review it once with the market condition changed a lot of things just need to be revisited again. If you look at commercial real estate markets, let's say three months ago versus today, I would say that there is some dramatic economic factors that have changed that potentially can add risk to the portfolio.
Now, the good news for us is that this very low LTV does make a difference. That is why as of today we still have very little problem that we identified from the commercial real estate portfolio.
We continue to look at industry specific risk to try to determine, for example, in California, how would this economic crisis that are happening globally would affect, let's say tourist industry, which ultimately would affect hotel business. How would it affect like general business would affect office buildings market.
How would that affect retail business that would ultimately hurt the retail centers? How about commenting on the import-export business that will actually cause a negative impact to industrial warehouse?
These are the things that we are going through right now, step by step, and trying to analyze the economic situation globally and which ultimately will affect what is happening within our portfolio. Both from a commercial real estate and also C&I and trade finance loan.
Fortunately for us at this point, because we are such a small consumer lending business, so what is been happening right now, and throughout the country regarding consumer credits such as home equity line and credit cards, auto loans and stuff like that, really does not have much of a impact to us at all. So in that regard I think that we feel pretty good about where we are today and that we will continue to diligently review and monitor the C&I trade finance and commercial real estate portfolio, in addition to these construction and land loans that we are now very, very familiar with.
Lana Chan - BMO Capital Markets
Thanks, Dominic. Also as a follow-up question, on the residential construction and land portfolios.
Is there any way to give us an estimate of what you think the cumulative remaining losses are on those portfolios?
Dominic Ng
Cumulative remaining loss, are you talking about the reserve that we set?
Lana Chan - BMO Capital Markets
Yes, and price it.
Dominic Ng
Yes, so if we look at the specific reserve that we set for the land and construction loan, Irene, can you take a look at the number to see whether you can provide some color?
Irene Oh
If we look at the reserve for land loans we have about $27 million. For residential construction loans, specifically, we have about $70 million.
Lana Chan - BMO Capital Markets
Okay, that is helpful. Thank you.
Irene Oh
I want to clarify, that that is total, including the general reserve plus any allocated general reserve for the impaired loans.
Dominic Ng
Yes. We do not expect that we would have that losses coming soon.
The reason is that this reserve includes general factors and then like for example even we have a quite a few very strongly performing construction or land loans that we have due to the fact that construction and land is a high-risk loan portfolio today, we assign a higher percentage factor to these past loans. So therefore what Irene has shared with you is the total reserve that we provide for land and construction loans.
Lana Chan - BMO Capital Markets
Okay. Thank you.
Dominic Ng
Okay.
Operator
Your next question is a follow-up from the line of Julianna Balicka with KBW. Please proceed.
Julianna Balicka - Keefe, Bruyette & Woods
Hi good morning. Thank you for taking my question again.
Just looking back for your '09 expectations and I know with the TARP capital there is a lot of moving parts of how you can leverage and deploy it. So I understand that there is no point in thinking about it too precisely, but in terms of your credit expectations, the ones that you gave back over this summer.
How are you thinking about that? The provisions cost I believe it was 60 million for '09.
Dominic Ng
Yes. I think that we still feel pretty comfortable that because that expectation is basically through other pretty detailed analysis.
I think that number would not have anything to do with TARP from our standpoint. From discussion with our board on the board retreat, we have very specific plans, some of deployment of this capital.
When we looked at the credit cost for 2009, and that is based on our understanding of our entire portfolio, and projecting continued deterioration in the market. The one thing that potentially affects the $60 million in total of credit costs for 2009 would be mainly from a major deterioration in the market.
Or the other thing is that now, if there is an acquisition, now, so I want to cushion, I mean, make sure that we take out any potential acquisition that will come. Because, if there is an acquisition, obviously there will be a different potential adjustment to provision and so forth.
Now, obviously, we have set a notion of, if we do get the capital, there is a few specific niche lending and deposit initiatives that we feel very comfortably that with our expertise that we would do really well at. Because also the illiquid market today that we may potentially be able to take advantage on.
Now, in that regard, when those loans start growing to a certain manner, obviously we would need to provide the proper general reserve to it. So again, if you ask us the total number, I mean if we start putting the loan production in the fashion that we expect, based on our strategic position this weekend, then I would expect that, of course, we would have to provide additional provision due to the loan growth.
But, I do not think there will be anything above and beyond that.
Julianna Balicka - Keefe, Bruyette & Woods
Very good. Thank you very much.
Dominic Ng
Thank you.
Operator
Ladies and gentlemen, that concludes the question-and-answer session. Now, I would like to turn the call back to East West Bancorp management for closing remarks.
Dominic Ng
Thank you. We look forward to talk to you again in the fourth quarter earnings release.
In the mean time, we are going to go back and start paring down more problem loans. Good-bye.
Operator
Thank you for your participation in today's conference. This concludes the presentation.
You may now disconnect. Have a great day.