Jan 21, 2011
Executives
Greg Olivier - Chief Compliance Officer Bryan Jordan - Chief Executive Officer, President, Director, Member of Credit Policy & Executive Committee, Chief Executive Officer of First Tennessee Bank, President of First Tennessee Bank and Director of First Tennessee Bank Gregory Jardine - Chief Credit Officer William Losch - Chief Financial Officer, Executive Vice President, Chief Financial Officer of Bank and Executive Vice President of Bank Aarti Bowman -
Analysts
Michael Rose - Raymond James & Associates Adam Barkstrom - Sterne Agee & Leach Inc. Emlen Harmon - Jefferies & Company, Inc.
Christopher Gamaitoni Anthony Davis - Stifel, Nicolaus & Co., Inc. Paul Miller - FBR Capital Markets & Co.
Erika Penala - Merrill Lynch Brian Foran - Goldman Sachs Christopher Marinac - FIG Partners, LLC Marty Mosby - Guggenheim Securities, LLC Robert Patten - Morgan Keegan & Company, Inc. Steven Alexopoulos - JP Morgan Chase & Co Kevin Reynolds - Wunderlich Securities Inc.
Ken Zerbe
Operator
Good day, ladies and gentlemen, and welcome to the First Horizon National Corp. Fourth Quarter 2010 Earnings Conference Call.
[Operator Instructions] I would now like to turn the conference over to your host, Ms. Aarti Bowman of Investor Relations.
Please go ahead.
Aarti Bowman
Thank you, operator. Please note that our press release and financial supplement, as well as the slide presentation we'll use this morning are posted on the Investor Relations section of our website at www.fhnc.com.
Before we begin, we need to inform you that this conference call contains forward-looking statements, which may include guidance involving significant risks and uncertainties. A number of factors could cause actual results to differ materially from those in forward-looking information.
Those factors are outlined in the recent earnings press release, and more details are provided in the most current 10-Q and 10-K. First Horizon National Corp.
disclaims any obligation to update any forward-looking statements that are made from time to time to reflect future events or developments. In addition, non-GAAP financial information is noted in the slide presentation and may be noted in this conference call.
A reconciliation of that non-GAAP information to comparable GAAP information will be provided as needed in the footnote or appendix to the slide presentation available in the Investor Relations area of our website. Listeners are encouraged to review any such reconciliations after this call.
Also, please remember that this webcast on our website is the only authorized record of this call. This morning's speakers include our CEO, Bryan Jordan; our CFO, BJ Losch; and our Chief Credit Officer, Greg Jardine.
With that, I'll turn it over to Bryan.
Bryan Jordan
Thank you, Aarti. Good morning, and thank you for joining our call.
Fourth quarter and full-year 2010 demonstrated our continued strategic progress. We made significant headway on our key priorities and goals for the year.
We returned to profitability, significantly improved credit quality, structured our balance sheet for growth, repositioned our core businesses and repaid TARP while maintaining our strong capital position. During 2010, pretax income increased from 2009 driven by solid performance of our core businesses.
We're pleased with our 2010 accomplishments and feel good about our 2011 prospects. In 2011, our focus will be on growing our businesses, improving productivity and efficiency and continuing to proactively deal with credit.
We're encouraged by recent signs of an improving economy, but we expect a slow economic recovery, and low interest rates are likely to persist. In this kind of environment, controlling cost is important.
We spent the last year making investments to become more efficient. We've upgraded systems and streamlined and improved processes.
We'll continue with these efforts in 2011, as BJ will discuss in a few minutes. But the bottom line is, we're starting 2011 as a more productive and efficient company, and expect to make additional progress this year.
We've also been taking steps to ensure that our core businesses of Regional Banking and Capital Markets are positioned to take advantage of opportunities in an improving economy. Again, I'm pleased with the progress we're making and believe we're beginning the year with competitive advantages.
Customer service will remain a primary focus in 2011 as we work to deepen and expand our customer relationships. Our efforts are already paying off with average core deposits up 9% in 2010 and net checking accounts growing 2%.
New consumer loan production was up 5% from last year. Although our Non-Strategic loans continue to run off, the Regional Bank's loan portfolio is benefiting from our sales force and active calling program.
During 2010, we hired 20 bankers and made 34,000 outbound calls to commercial customers. Our loan pipeline has stabilized.
We've started to see C&I growth driven by our corporate customers, particularly in asset-based lending where loans were up 11% from last year. We're also seeing opportunities in commercial real estate, as we have capacity in this asset class.
Pricing terms are favorable in the CRE sector as we book loans with experienced borrowers with good track records. We will continue to actively pursue new business in 2011 while maintaining credit and pricing discipline.
Turning to our Capital Markets business, we expect continued strong returns in 2011. Over the past year, we've added new accounts and made a number of strategic hires that should help further expand our extensive distribution platform.
However, fixed income revenues are likely to continue to reflect the normalizing of market conditions. To sum up, we believe we're on our front foot for 2011.
We recognize that the operating and regulatory environments present challenges. Out of these challenges will come opportunities, and we're set to take advantage of the opportunities.
With our industry-leading capital ratios, we have the flexibility to deploy capital, take advantage of both internal and external opportunities. To that point, we recently declared our return to a quarterly cash dividend of $0.01 per share.
We still have work to do, but we're confident in our ability to successfully execute our strategic plan and to achieve our long-term goal of maximizing shareholder returns. I'll be back for some closing comments, but BJ will now take you through the detailed financial review.
BJ?
William Losch
Thanks, Bryan. I'll start on Slide 5 with some highlights and significant items for the quarter.
As Bryan mentioned, our net loss available to common was $0.20 with the $63 million impact of TARP-related charges. Net income from continuing operations at $17 million, with core businesses' solid pretax income of $89 million.
Loan loss provision decreased for the second consecutive quarter with charge offs down for the sixth. NPAs, as Greg will talk to you about in a minute, down 9% linked-quarter.
Mortgage repurchase provision expense decreased to $44 million in the quarter as our expected rescission and severity rates remained fairly steady, and no private securitization requests and no new securitization litigation occurred in the quarter. And our capital ratios, as Bryan mentioned, remained strong after TARP repayment and our successful common equity offering.
Two significant items in the quarter, in addition to TARP repayment, you'll see in our numbers in our Non-Strategic segment, we had a decrease in our net hedging results declining to positive $7 million from last quarter's $32 million. We did execute a sale of a portion of our Class B Visa shares, about $15 million reduction of our Visa contingent liability over a part of it of $8 million and some various restructuring and repositioning expenses for a net change quarter-to-quarter of $4 million.
Turning to Slide 6, the consolidated financial results for the fourth quarter, in addition to Provision at $45 million being down for the seventh consecutive quarter, we saw a modest decline in NII, noninterest income at $211 million as Capital Markets fixed income revenue, while solid, was lower than 3Q. And as discussed, mortgage hedge results were lower as well.
Expenses were down to $335 million as both Core Business and Non-Strategic segment expenses declined in the quarter. In conjunction with our TARP retirement, we raised a net $263 million in common equity, issued $500 million in senior debt at the holding company and announced the redemption of $100 million of our trust preferreds.
Due to the capital raise in the fourth quarter, you'll note that we added 26.3 million shares. Turning to Slide 7, pretax income for our core businesses of Regional Bank, Capital Markets and Corporate was $88.6 million in the fourth quarter, with consolidated pretax income of $13 million.
Regional Bank's pretax income improved to $60 million, a 24% increase from last quarter, driven primarily by lower provision expense. Linked-quarter provision in the bank decreased by $8 million to $2 million in the fourth quarter.
Revenue in the bank was up 1% from last quarter. NII improved 2% from higher loan fees and the recognition of interest income on previously nonperforming assets, and fees were relatively stable.
In our Capital Markets segment, pretax income declined to $23.5 million in the fourth quarter as fixed income revenues decreased from lower volumes. Fixed income average daily revenue was at $1.4 million, down from third quarter's $1.7 million.
Expenses declined 3% from lower variable comp, which was somewhat offset by higher legal and professional fees. Fourth quarter's ADR was indicative of ongoing normalizing market conditions, which we currently expect to continue into 2011.
Pretax income in our Corporate segment was $4.6 million in the fourth quarter, up from last quarter's loss of $14.4 million. The improvement was mostly driven by the securities gain of $14.8 million from the sale of a portion of our Visa shares and an unrelated $8 million contra expense related to the reversal of a Visa contingent liability.
Those gains were diminished by the $5.4 million of restructuring, repositioning and efficiency charges. In our Non-Strategic segment, linked-quarter mortgage net hedge results declined 78% to $7 million as we experienced rate volatility and a rapid increase in spreads.
For the full year, consolidated expenses decreased 13% from '09 to '10 from lower environmental cost as foreclosure expense and mortgage repurchase provision declined as reflected in the Non-Strategic segment's 19% decline in expenses. We expect that our 2011 expenses should be lower than 2010.
Over the next year, we plan to improve our efficiency by working to become more productive and improve our cost structure. As we've discussed in the past, we are focused on taking cost out of the organization by looking both vertically, meaning within lines of business and support groups, and horizontally across the organization at things like cost per branch, cost per loan and cost to service to streamline processes and reduce expenses smartly.
Turning to Slide 8, our mortgage repurchase reserve was $183 million at the end of the fourth quarter, and our mortgage repurchase and foreclosure provision expense was $44 million. The pipeline increased 14% from last quarter to $534 million.
Although the inflow of requests increased $54 million to $263 million, resolutions were up as well, 34% to $196 million. Net realized losses were flat at $36 million.
Although our rescission rate was higher in the month of December, it remained within the range of 40% to 50%, and severity was stable at 50% to 60%. The majority of requests are still in the '07 vintage, but we're starting to see the mix shift towards the '08 originations as the amount of new requests between the '07 and the '08 vintages were about equal in the fourth quarter.
As a reminder, we sold our mortgage platform in August of 2008. In fourth quarter, the majority of our pipeline of requests was GSE-related.
In light of some of the GSE-related mortgage we purchase settlements we've seen in the industry, we are examining potential courses of action for our company. We still have not seen any requests from our private securitizations, and we are not aware of being named in any lawsuits regarding the privates other than those we reported last quarter.
We continue to believe that the risk from the privates should be manageable. Turning to Slide 9, consolidated net interest margin was at 3.18%, a decline of five basis points from the third quarter.
The NIM compression was driven primarily by the excess Fed balances, which had a 17 basis point negative impact on our margin in the fourth quarter compared to a 13 basis point drag in the third. Also lower yields from the Securities and Trading portfolios in mortgage loans and the Non-Strategic portfolio contributed to the quarter's lower NIM.
Core business NIM was solid at 3.56%. We continue to see better loan pricing as yields were up one basis point from last quarter and 21 basis points year-over-year.
The weighted average cost of core deposits declined four basis points to 70 basis points linked-quarter and decreased 20 basis points year-over-year. Over the next year, assuming rates remain low and loan growth stays muted, we currently expect that the net interest margin will be relatively stable, although we could see modest up or down movement over the course of the year absent any Fed rate increases.
Moving on to the balance sheet. Consolidated average core deposits rose 1% linked-quarter.
Average loans on a consolidated basis fell 1% as Non-Strategic loans dropped 6%. The Regional Bank posted a 1% increase in average loans driven by increased lending activity in Corporate Lending, Asset-based Lending and Business Banking despite fourth quarter's reduction in mortgage warehouse lending.
Period end, our Securities portfolio was up to $3 billion in the fourth quarter. We added about $400 million as we delayed fully funding the portfolio until rates were moderately more favorable towards the end of the quarter.
Going forward, we expect the size of the Securities portfolio to stay relatively stable, although it may fluctuate if we take advantage of opportunities to buy securities at attractive yields and structures. Turning to Slide 10.
You'll see we've made significant progress with our balance sheet positioning and profitability, as Bryan mentioned, particularly in our core business segments. Full-year pretax income of our core businesses at the bank, Capital Markets and Corporate improved to $257 million, a 76% increase from '09's $146 million.
Additionally, our pretax loss in our Non-Strategic segment dropped from $567 million in '09 to $207 million in 2010 as a significant reduction in credit losses more than offset increases in mortgage repurchase related expenses. As Bryan said, we believe we're entering 2011 on our front foot, and we're well prepared to take advantage of growth opportunities.
However, environmental and regulatory pressures, both revenue and expense related, including volatility in our mortgage repurchase pipeline and reserve will remain with us in 2011. While further improvement in credit-related costs is expected to benefit profitability, the rate of improvement is likely to slow.
In short, we're pleased with the progress and feel good about the ongoing successful execution of our strategic plan. And with that, I'll turn it over to Greg.
Greg Olivier
Thanks, BJ. Good morning.
I'll start with Slide 12. We've seen some good progress in credit quality as our proactive approach paid off.
Year-over-year, net charge-offs declined 45%, NPAs were down 20% and provision expense dropped nearly 70%. I'll discuss NPAs on Slide 13.
Linked-quarter, we saw a decline of 9% driven by fewer additions, more payments as well as improved performance in the Regional Bank's C&I portfolio from fewer downgrades and more upgrades. ORE balances also declined due to more sales and fewer additions.
I'll talk about the portfolio highlights on Slide 14 starting with our income CRE portfolio. Linked quarter, charge-offs increased by $6 million to $13 million from note sales and valuation write-downs in the fourth quarter.
NPLs were relatively flat from last quarter. In the fourth quarter, the hospitality industry showed some stress but other sectors in our CRE portfolio remained stable.
We expect continued stress as more borrowers come up for renewal, however, headwinds seem to be somewhat moderating in our markets as we're seeing less downgrade activity. Reserves were relatively flat at 9%.
Our C&I portfolio showed improving trends as charge-offs declined to $14 million. NPLs were down by $31 million.
The decrease was from large credits coming off of nonaccrual status as well as overall improvement for more upgrades and fewer downgrades. Our C&I portfolio also includes our TruPS [Trust Preferred Securities], bank holding company and other bank-related loans.
Seven bank TruPS are on deferral in the fourth quarter. Although financial institutions generally remained stressed, we've experienced some stabilization over the past few quarters.
At this stage of the credit cycle, we anticipate the C&I portfolio's credit trends should be stable to improving. Our Home Equity portfolio's credit trends remain relatively stable in the fourth quarter.
Linked quarter, charge-offs decreased 7% to $42 million, and 30-day delinquency was stable at 2.3%. Linked-quarter NPLs increased by $6 million to $32 million, which included a large consumer credit in the Regional Bank and reflected a higher number of modifications as we work with our borrowers.
Reserves were flat at $150 million. I will wrap up on Slide 15.
2010 showed significant improvement in credit quality as NPAs declined, charge-offs decreased and reserves were down. In 2011, assuming a stable to gradually improving economy, we expect a continued decline in credit cost, although we could experience quarter-to-quarter volatility, especially in our Commercial portfolios.
And as BJ mentioned, the rate of credit improvement will likely slow. I'll now turn it over to Bryan for some closing comments.
Bryan Jordan
Thanks, Greg. I'm pleased with our accomplishments in 2010.
We made progress on improving credit quality, strengthening our balance sheet and maintaining strong capital ratios while repaying TARP. We've also taken steps to become more productive and efficient.
We believe we're positioned for growth when the economy recovers, and we'll continue focusing on our goal of maximizing shareholder returns. Before we take questions, I'll thank our employees for their hard work over the past year.
Your efforts are making a difference, giving us the competitive advantage that will allow us to capitalize on the opportunities ahead in 2011 and beyond. Operator, we'll now open the call for questions.
Operator
[Operator Instructions] Our first question comes from Ken Zerbe of Morgan Stanley.
Ken Zerbe
Can you just talk a bit more about the assumptions you're making in terms of your NIM outlook? When you say it's going to be stable in 2011, what exactly does that assume?
William Losch
Ken, it's BJ. Good morning.
What we're looking at is, as I've talked about a little bit in the prepared comments, we used loan growth; continued low rate environment, so we're not assuming any increases from the Fed. And as we look at some of the positives that we see in our performance like loan yields improving, getting better pricing in the loan books from the Regional Bank.
We also have lower reinvestment rates that we're taking on the Securities portfolio as we reinvest there. So it's kind of the positives offsetting the negatives in 2011.
The little bit of upside could be if we continue to reduce the excess balances that we have at the Fed, that's been a significant drag, but we've got to figure out ways to put it to work. And obviously, that would be preferred in the loan growth area.
But we'll continue to look for opportunities to improve it in 2011.
Ken Zerbe
Because it looks like your Securities portfolio has obviously been increasing over the last several quarters, at a pretty nice clip. At the same time, your loan balance is coming down a bit.
I just wanted to make sure that in your expectations, I assume security balances are going to keep going up? I mean, I know you're going to try to reduce your excess liquidity but it seems that that could be a bigger drag.
You're assuming something other than that?
William Losch
Ken, I think what we see in the Securities portfolio is relatively stable from where it is. We ended the period at about $3 billion.
Our Securities portfolio, as you know, relative to the industry is on the smaller end of the asset base. And so, we want to be pretty conservative there and not get caught upside down if rates do move the wrong way.
So where we've been adding has been shorter duration, looking for structure versus yield. So we're hesitant to really make meaningful increases to the Securities portfolio over the course of the 2011.
Operator
Our next question comes from Brian Foran of Nomura.
Brian Foran - Goldman Sachs
In the past, I guess it has been a few quarters, but in the past you would kind of walk through what a sustainable long-term target for dollars of pre-provision earnings is. And if you gave it this time, I'm sorry, I missed it.
But just how should we think -- I think some people were disappointed this quarter but really, it's just MSR hedging in capital markets, and the MSR hedging is ultimately going to go to zero anyway and the capital markets is counter cyclical. So what do you think the right dollars of quarterly pre-provision earnings for the core company is to think about over the next several years?
William Losch
Brian, it's BJ, again. I think the way we look at it is we put out our bonefish targets.
And if you followed those through over some period of time, we will be exiting our Non-Strategic segment. We can't exactly pinpoint when that is, but that will happen over time.
And so, we look, really, at our core business performance, the Regional Bank, Capital Markets and Corporate. That's really kind of what we're focused on improving from a pretax pre-provision perspective and a pretax earnings perspective.
So if you took a look at the underlying performance of those three segments, they continue to heal and improve. And I believe that Slide 10 shows that significant improvement over 2009.
And so, we expect that to continue to improve over the course of the next several years.
Brian Foran - Goldman Sachs
And then one question I always get, on the Non-Strategic on Slide 20 or Page 20 of the supplement, I realize this quarter that the pre-pre in that business was negative. But in most quarters, it kind of nets to zero.
So as the revenues ultimately go away, the expenses are definitely trending down, but will the expenses fully go away, or should we think about the pre-pre contribution of that Non-Strategic segment as zero every quarter or do we have to build in some piece of expenses, which will ultimately be allocated back to the broader business?
William Losch
I think over the near-term, meaning 2011 at least, that expense is going to be here. That Non-Strategic expense is made up with the mortgage repurchase expense, which is probably half of that number right now.
It's people related to working out our mortgage repurchase, our Non-Strategic portfolios, the technology associated with that et cetera. And so until those are fully wound down, you're still going to see that.
But you should see that continue to come down steadily over the course of 2011.
Operator
Our next question comes from Paul Miller of FBR Capital Markets.
Paul Miller - FBR Capital Markets & Co.
On the mortgage banking side, we saw a big decline in that, and a lot of that I think was due to hedging. But I also know that you outsource a big chunk of your mortgage banking, I think now to PHH.
How should we view that going forward? And why is it so lumpy on the hedging side?
William Losch
Paul, it's BJ. I think on the hedging side, we still have positive hedge results but you saw, as you know, there was a lot of backup in rates in the fourth quarter, particularly in December.
And that caused a lot volatility in the markets and though our hedge was effective we had a positive to it, it was very difficult to hedge. So we know that that's going to move around.
We had had a couple of quarters, several quarters, of very positive hedge results. And this quarter was just more modest, but still positive.
Bryan Jordan
Paul, this is Bryan. On the PHH side, we have outsourced that origination.
We've made some changes in the model late in the year. Fourth quarter originations were impacted by rates backing up, they fell a little bit.
But that's going to be a fairly small piece of the business from quarter to quarter, it's going to be a flow business, and it's going to be essentially origination fees and straight pass through to PHH.
Paul Miller - FBR Capital Markets & Co.
Real quick on the commercial real estate, I know there's still a lot of people out there concerned about the commercial real estate exposure out there. What are you seeing in your core markets and if you have some, you're non-core markets, I know you've been running that off?
Gregory Jardine
Paul, this is Greg Jardine. What we've seen is actually over the last few months some stabilization within the income CRE.
Within our core areas, we see principally stabilization in the industrial, and in the retail to a degree. We've had opportunities in multi-family as well as hospitality within our contiguous states in Tennessee.
What we see is obviously the states that are under duress: Florida, Nevada, Arizona, still under some stress, we don't -- our exposure is declining there fairly significantly. We did have an asset sale in Nevada this quarter, this last quarter.
And it's still a little messy in some of the states. But within our core area, we are seeing some stabilization, and we actually see sponsors now kind of stabilizing themselves which is assisting as we are looking at renewals through 2011.
We did see hospitality, which we've had no NPLs, quite surprisingly. We did see one large asset go NPL, but that was not necessarily a surprise.
Operator
Our next question comes from Steven Alexopoulos with JPMorgan.
Steven Alexopoulos - JP Morgan Chase & Co
Could you just go through, why are the cost of time deposits not coming down more quickly? 242 is about double where everybody else is, and maybe talk about what you have maturing this year and what the new rates look like?
William Losch
Steven, it's BJ. You can see by the time deposit balances that they continue to steadily come down.
We do not emphasize nor focus on time deposits on the sale side on the Regional Bank. So you can see those continue to steadily run off.
Anything that we're doing is being booked at lower rates. So if you look at the interest expenses that has, it's a pretty modest amount relative to our total interest expense.
But you'll see that continue to come down.
Steven Alexopoulos - JP Morgan Chase & Co
With the tangible common equity ratio now over 10% and growing, maybe could you give your view on how you're seeing attractiveness for M&A deals given where pricing has moved to? And also, maybe talk about should we expect to see a share buyback this year?
Bryan Jordan
Steve, this is Bryan. Tangible commons, right at 8% or 9% or thereabouts, Tier 1 commons, a little north of 10%.
I think a lot is going to unfold around capital, some of it will be as a result of the stress testing that the largest 19 are going through, we'll learn a lot more about capital repatriation, whether it be dividends, dividend payout ratios, stock buybacks. So we'll learn more about that in the next few quarters.
We think that there will be opportunities from an M&A perspective to put capital to work. I would say that some of the pricing that we've seen more recently, and although this is not a studied analysis, is more aggressive than we would have expected at this point in the cycle.
But we do think that there will be opportunities to put capital to work at very attractive levels. And to the extent that the flexibility from the SCAP testing and so on allows us to think differently about repatriating capital, we'll evaluate that as well.
Operator
Our next question comes from Bob Patten of Morgan Keegan.
Robert Patten - Morgan Keegan & Company, Inc.
BJ, you talk about examining potential courses of action on mortgage. And while we're not expecting you guys to give us an answer, can you give us some detail around what the options are here?
William Losch
I think the obvious ones Bob are around what we saw Ally and Bank of America do with Fannie and Freddie. And so, we've obviously studied that.
We're looking at that closely, and so we're evaluating our courses of action on whether or not that's appropriate for us to do or enter into discussions with them on that. With that said, we feel like every quarter we get through this, we have more and more understanding of the GSE repurchase trends and put back trends and so on.
We feel like we're well-reserved on it. We feel like we've got a good team that's working through those.
I've talked about the new requests being roughly equal between the '07 and '08 vintages and knowing that we stopped originating in '08, that's somewhat encouraging. So we're well prepared to just continue to slog this out if we need to and do it that way.
But if we see an opportunity present itself on the settlement side, we'd certainly be open to that as well.
Robert Patten - Morgan Keegan & Company, Inc.
Just addressing the dividend question, obviously, you're going from a stock dividend to a dividend, where do you see that? Do you see the opportunity with your capital levels to do more than one increase in an annual period?
Bryan Jordan
Bob, this is Bryan. It's probably too early to know the answer to that.
As you know, there's a lot of work and a lot of talk being done with the stress test two and the larger institutions about their dividend payouts and payout ratios. We'll learn more from that.
Dividends got to be supported by our earnings stream. And as we see what unfolds from the work that the Fed and the largest 19 are doing around capital repatriation, that will help us formulate strategy.
So I'd say it's too early to address it. Clearly, we want to be in a position to repatriate excess capital to our shareholders, and we'll do that at the earliest possible times.
Operator
Our next question comes from Tony Davis of Stifel, Nicolaus.
Anthony Davis - Stifel, Nicolaus & Co., Inc.
BJ, what 2010 operating expense base are you using when you guys project the decline in overhead this year, first? Second, could you talk a little bit about the performance benchmarks that you're pursuing, give us maybe some specific examples or metrics you're looking at in trying to implement?
And then Bryan, I guess for you, does further productivity improvement take precedence over pursuit of M&A opportunities?
Bryan Jordan
Tony, I'll start. I don't think they're mutually exclusive.
I think productivity improvement is a way of life. It's something that we are focused on being a cultural aspect of our organization.
BJ can walk you through the benchmarks and the metrics in a minute. But essentially, we're looking at everything we do in the organization from a horizontal perspective, from the time we get a customer request, to the time we fill that customer request, looking for opportunities to be more effective and more efficient in the way we deliver that.
I think we can continue to do that and ingrain that in our culture, achieve significant savings and at the same time, be in a position to participate in the M&A environment as opportunities present themselves.
Anthony Davis - Stifel, Nicolaus & Co., Inc.
BJ, can you talk about those other two points?
William Losch
Yes. It's BJ.
So '09, we would have had a $1.6 billion expense base. 2010, it was down to about $1.37 billion, and we continue to see that moderate.
That's, as we've talked about before, the environmental costs coming down, the Non-Strategic expenses continuing to come down. You'd also see some moderation in the variable-related expenses on Capital Markets should they continue to normalize, as well as some of the efficiency efforts that we have ongoing.
To give you some more specifics as you asked about what we're doing, we have about 250 benchmarks across the organization that we have in each and every one of our businesses that we're looking at to drive improved performance. And so it's a clear stake in the ground for our folks that run our businesses to say, there are peers that do it better or different this way and how can we improve that.
And so, they're going through that on things like cost per branch, direct versus allocated cost per branch, cost per loan, cost per deposit, marketing spend per branch, financial center profitability, direct P&L profitability of our sales forces. So breaking that down and de-averaging that, looking at our staffing models, both front line and back-office.
And so we've got a heck of a lot of different ways that we're looking at taking costs out of the organization. As I've talked about, we really want to do it smartly so that it comes out permanently.
And we think the best way to do that is by systemically each and every quarter continuing to see that reduction come out. And you should be able to see that in our core businesses going into 2011.
Bryan Jordan
Tony, this is Bryan again. And to add to BJ's comment on doing it smartly, we want to do it in a way that it doesn't impact our customer service and customer satisfaction and our revenue streams.
If you think back about the progression that we've been through as an organization over the last several years, clearly, a lot of focus on getting credit quality, systems and processes, and attacking asset quality problems, we spent a lot of time in the last year, year and a half, implementing business model changes, system changes, business model changes like line of business approach, systems changes that will make us more efficient. And as BJ said, we've got a lot of metrics.
We're being very driven by the metrics. And although this is not a target-driven process, we want it to be cultural.
It's an opportunity. We think there's $100 million-plus of expense opportunity reduction for us in this organization.
So we're not -- I say that in the context that somebody is going to ask me about the $100 million four quarters from now and the kind of progress, we want it to be about doing it right, doing it smartly, protecting our customer base and our customer service, our revenue stream, but getting more effective and efficient. So we're going to just keep grinding away at the numbers to get these efficiency targets met.
Ultimately, hitting our bonefish targets, which are in that 60% to 65% range given the mix of Capital Markets and Banking.
Operator
Our next question comes from Marty Mosby of Guggenheim.
Marty Mosby - Guggenheim Securities, LLC
Regional Banking tended to come in a little bit better, provisions improving and you had about $3 million of core operating growth. So the banking number is moving in the right direction.
Capital Markets is where I wanted to focus most of the attention. With the drop we had in revenues, if we look at the fourth quarter, with the community banking kind of customer base that would traditionally kind of helps us, there's been a lot of portfolio restructuring, there's some cash flow coming in with prepayments, there's a steeper yield curve.
So I was curious why the daily average dropped like it did this quarter with some of the, what would be typical favorable impacts that could have kicked in the fourth quarter.
William Losch
Marty, it's BJ. I think that there are a couple of things going on.
One is, I would say the last two weeks of December really, really fell off. And so, that actually impacted the overall aggregate.
As you know, the snow up north and just generally the holidays really took a hit. We were tracking a little bit higher on the ADR through the first two and a half months of the quarter.
But also, I think everything you said is correct. But if I talk to our guys on the floor, I think what's occurring particularly in our depository institution clients is that they are just not making decisions on putting money to work, that they are sending Fed funds upstream.
And we've seen that in our Fed funds purchase from downstream correspondence. That there's a big buildup there, excess balances at the Fed.
Just taking what they can get and keeping the cash short-term because they're just afraid of getting caught upside down on a trade that they put on in the bond portfolio that could go the other way for them. And if you think about the smaller community banks, a little bit less sophistication, it's very difficult to make decisions about going long in the bond portfolio, it's much safer for them to just make no decision and keep it very short.
Marty Mosby - Guggenheim Securities, LLC
Also the, probably, desire for them to hold on to their capital. They're not ready to take any losses and start to return the portfolios to grab some of the increase in rates we saw then.
Bryan Jordan
Marty, this is Bryan. I think you characterized it a lot of ways, I suppose.
But when rates are backing up, it looks like you have the opportunity to invest in a higher rate tomorrow, and so it makes it hard to pull the trigger. And I think that's as much a driver as anything, particularly as you're coming to year end.
Operator
Our next question comes from Erika Penala of Bank of America Merrill Lynch.
Erika Penala - Merrill Lynch
Bryan, as you think about your capital deployment opportunities and balance that with some of the risk that still exists with regards to the reps and warranties issue, and I appreciate that we'll probably get more clarity from the regulators but internally, how much excess capital do you actually believe you have to redeploy near term?
Bryan Jordan
I guess, there's a little bit of art to near term. If you think about the environment we're in today and the economy and sort of the rules that are unfolding around the regulatory environment, Basel III, our 6% to 7% tangible common equity ratio is sort of, we're through the cycle.
We think it's probably north of 7% in what I would define as the near-term range. As I said earlier, we're north of 8.5%, so we have a real strong capital base relative to that.
So it's a significant amount of capital that we think can be redeployed in the business over a period of time. I do think that patience around it is important.
I think discipline around how we redeploy that capital is important. And we don't feel significant urgency around that issue right now because there's a lot to unfold in 2011, a lot of clarity to be gained about the banking business and capital and capital repatriation and consolidation.
So we think we've got good flexibility with our capital base today to be very proactive.
Erika Penala - Merrill Lynch
As a follow-up question, I apologize if I missed this during the prepared remarks, but is there a litigation reserve that you're accruing to for private label losses?
Bryan Jordan
No. It's really no different than the comments that we made in the third quarter and a couple of presentations in this quarter, or excuse me, in the fourth quarter.
In terms of private securitization losses, we don't believe that we have any losses that we consider probable or estimable. And that's really the key criteria for accruing a litigation reserve.
As BJ said in his comments, we still don't have any claims spending with respect to private securitizations.
Operator
Our next question comes from Kevin Reynolds of Wunderlich.
Kevin Reynolds - Wunderlich Securities Inc.
Question on M&A out there and your outlook for it. Could you talk, Bryan, a little bit about, if you could drill down a little bit, in kind of the markets that would be priorities for you and then maybe the profile of what the kind of ideal institution might be that you'll be taking a look at if you had complete control over everything out there?
Bryan Jordan
I don't think our priorities are any different today than they were six months ago. We like to either fill in in the state of Tennessee in our existing markets or we would like to fill in in surrounding markets where we have the ability to create market density like we have in the major MSAs in Tennessee, the ability to create strong branch and deposit share and be able to put in place a community banking model that allows us to bank in communities with local knowledge with leaders that know their customers, their communities.
We can push decision-making out and allow us to operate what we've been very successful in doing across the state of Tennessee. I guess you could infer from your question the size of institution.
I think the size is less important today. It's more important to be in the right type of market to have the right cultural fit.
And finally, to make sure that it's a financial transaction that makes a heck of a lot of sense, not only in the short term but also in the long term.
Kevin Reynolds - Wunderlich Securities Inc.
To follow up on that, when you're talking about size and profile, and I know someone noted earlier premiums that were going up or pricing levels that were going up, is it an oversimplification to say that prices are too high or is it just something that you'll negotiate when you find the right strategic partner, and then you'll sort of figure that the multiple will settle where it settles?
Bryan Jordan
Yes. I think it's probably too simplistic of me to make the generalization that prices are too high.
And I've made the comment earlier about they were higher than I expected. I commented that it wasn't a studied analysis.
It seems to me that the real drivers in valuation, in what we think will be a slower growth economy where you have lower rates, are going to be basically driven by -- the valuation of synergies we think can be realized, particularly the cost synergies, as well as what the drivers of the loan mark look like. And so I think those two things will help you get into the right area about the valuation.
Clearly, it's going to be different at any institution that you look at, depending on whether you have significant overlap or whether you do not, where they are in the credit cycle in terms of the marks. And so it's hard to generalize with respect to specific transaction pricing because I think it's going to be different transaction by transaction.
Operator
Our next question comes from Emlen Harmon of Jefferies.
Emlen Harmon - Jefferies & Company, Inc.
As I look at the Regional Bank, we've seen the provision come in quite a bit over the course of the year. Could you talk a little bit just about kind of if there's anything in particular driving that the last couple of quarters?
And kind of what you think of as core credit cost in that business going forward?
Gregory Jardine
This is Greg Jardine. What we've seen in the Regional Bank is in the C&I portfolio.
And specifically, if we kind of go through the different C&I portfolios in terms of the Corporate segment, which includes our asset-based lending, that was really the first that we saw borrowers really stabilize and heal and it's followed after that the Commercial segment and we see now, especially in the fourth quarter, late in the fourth quarter, some business banking clients also feeling more confident. And so, part of what we've seen through the year and certainly the momentum pickup in the last two quarters is the grades improving as companies have stabilized.
So we'd kind of continue to expect to see that and specifically, when we start to see 2010 year end numbers of clients in the second quarter, we'd expect that to continue, kind of, the good news. So I think in looking at the Regional Bank along those lines and obviously about 90% of our income CRE sits in the Regional Bank as well.
As that portfolio, to be frank, it's behaving a little bit better than I thought it might so far. And I hope I continue to be wrong in that perspective, that it will continue to improve.
We're seeing actually within that client set, as I mentioned before, stabilization of properties and therefore, of sponsors as well. So I think as kind of in a long-term basis, we go back to our bonefish, which is public, in terms of how I think that portfolio stabilizes.
It's obviously increasing the credit quality quarter-over-quarter and we'd expect that to continue. Any given quarter, we may have a large client that may cause a number to go up or not.
But the overall improvement, I think, continues as the economy heals, as the clients kind of right-size themselves to their balance sheets and are able to maneuver in the new economy, slower growth environment.
Emlen Harmon - Jefferies & Company, Inc.
Maybe more specifically, there's a $2 million provision in the fourth quarter, is there any reserve release in that, and then was it a couple of credits? Or could you maybe just give me a little color along those lines?
William Losch
It's BJ. I think the charge-offs in the quarter were about $35 million, and the reserve decrease in the Regional Bank was $33 million.
But I think, to Greg's point, bonefish targets over time, we expect annualized provision in the 30 basis points to 70 basis points range. So take 50 basis points, multiplied by our loans in the Regional Bank and you get roughly $15 million a quarter that you might reasonably expect over some period of time once it normalizes.
Bryan Jordan
Ken, this is Bryan. I'm going to take this opportunity as we're talking about the Regional Bank, to sort of back up to the question Brian Foran asked earlier in the call about pretax pre-provision earnings in the core business and talk about some of the impacts on that in the Regional Bank over what is likely to play out in 2011, 2012.
We've said for a pretty long period of time, we think that our balance sheet, assuming $25 billion plus or minus on our balance sheet, that we ought to be able to produce in the area of $125 million of pretax pre-provision. I talked about our efforts to pick up operational efficiencies, the environmental costs that are still impacting us will continue to come down.
And so, we really haven't moved from being in that area in terms of targeted pretax, pre-provision in the business. In the shorter term, we're going to be impacted by the implementation of Dodd-Frank, most notably the Durbin Amendment.
If you took unadjusted or un-offset, you're probably looking at the interchange rules impacting us by about $30 million on an annual basis, $30 million annually. So a lot of that will be offset, as we restructure products, as we restructure fees around those products.
And so we'll offset a fair amount of that. But that kind of volatility will be introduced into our business as well as everybody else in the sector over the next year or so.
So as you think about the banking business, as credit is improving, as the economy is healing, we will see some normalization but you're going to see other catalysts that make it hard to forecast, which don't make it any easier for those of you on the call building models, but it is going to be hard to forecast the timing of all of these things over the next year, year plus.
Operator
Our next question comes from Adam Barkstrom of Sterne Agee.
Adam Barkstrom - Sterne Agee & Leach Inc.
BJ, tax rate going forward, what are we thinking about? And then maybe if we can get -- I know you give some color here and there, but it's always helpful to get more, but talking about the C&I non-accrual reduction, maybe if you can give us some color on the types of credits that went back into performing, that would be great.
Bryan Jordan
Adam, it's BJ. Our incremental tax rate is around 37%.
What you see since profitability is lower, you'll see the permanent tax credits that we have take more prominence in the tax rate so that the effective tax rate looks somewhat odd sometimes. We have $9 million permanent tax credits that we have this quarter.
And so, that certainly affects it. And going forward, we'll have about $7 million to $9 million, let's call it, in 2011 of permanent tax credits that we'll recognize each quarter.
Gregory Jardine
This is Greg Jardine. As it relates to kind of the activity in nonperforming, we have one large asset that was $14 million that was a C&I asset that went back into perform.
And then, from that, there was a good breadth of customers that are not as chunky as that one across both income CRE as well as C&I that healed. In addition, we did have an asset sale and in that asset sale, there were some -- about 14 loans that we sold, predominantly were residential CRE-related that helped with the decrease as well.
But the healing is across both income CRE as well as C&I.
Operator
Our next question comes from Michael Rose of Raymond James.
Michael Rose - Raymond James & Associates
Just a quick question on competitive trends and what you're seeing in C&I lending specifically for the higher rated credit?
Bryan Jordan
Mike, this is Bryan. We had a lot of success in the quarter in booking Corporate C&I lending.
But it's getting more competitive, and it seems to get more competitive by the day, both on structure and in pricing, particularly on the strong or higher rated borrowers.
Operator
Our next question comes from Chris Gamaitoni of Compass Point.
Christopher Gamaitoni
In the Capital Markets business, how much of that revenue comes from activities related to MSR hedging by your financial institution clients?
Bryan Jordan
Our Derivatives business is principally a swaps business for loan customers, bond customers. I'm not aware of any significant revenue streams related to MSR hedging in the Capital Markets business.
Robert Patten - Morgan Keegan & Company, Inc.
How should I think about the Home Equity portfolio and kind of the length of that portfolio, it's non-core. When do you believe that will roll off and how do I think about kind of replacing those assets on the balance sheet in the future?
Bryan Jordan
Chris, this is Bryan, again. That portfolio's in the Non-Strategic side; it's a little over $3 billion to date.
In the fourth quarter, it ran off at about a 19% CPR. It's been running 15% to 19% for the last several quarters, and we don't see a significant change in that in the short run.
As we've thought about it, and as we work on it, I think one way to think about it is as that runs off it's being replaced and will be replaced by growth opportunities in the core banking business. If you think about what that portfolio represents, it is a higher credit quality Home Equity portfolio, but it does have lower spreads than a lot of Home Equity portfolios might have because it tended to be a prime-minus portfolio reflecting the credit quality.
So to the extent that runs down, it doesn't take $1 of growth in the core bank at the margins we can produce in our core banking business to offset that from a net interest income perspective. So we expect the trend to continue.
We expect to be able to offset the vast majority of it as we grow our core banking business around the corporate, commercial real estate and the consumer lending, we're able to do there.
Operator
Our next question comes from Christopher Marinac of FIG Partners.
Christopher Marinac - FIG Partners, LLC
Bryan, I just want to ask about the new loan growth that you are doing, if it is domiciled in any particular part of either Tennessee or in your adjacent markets?
Bryan Jordan
If I reflect just on the fourth quarter, it tends to be pretty broad-based. The Corporate Lending, we had good success in all of our markets and to some extent, in the presence we have in North Carolina.
Commercial lending is also fairly broad-based, more centered in Nashville and in the Memphis MSAs. But we're seeing pretty good distribution across the state of Tennessee and feel that that economic recovery that we're generally seeing nationwide is taking hold and as unemployment falls here in the state at a somewhat greater rate than it is nationally, we think that momentum will continue to build.
We think the success we've had, I mentioned hiring 20 bankers, the bankers that we brought to the organization are giving us new opportunities and new relationships, doing a fantastic job for us. And we think our opportunities to grow, this economy look pretty good.
Christopher Marinac - FIG Partners, LLC
Just quickly for Greg, the drop in new OREO this quarter, down roughly half from last quarter. Is that something that may bounce around quarter-to-quarter?
Or could that be kind of a permanent trend lower?
Gregory Jardine
I wouldn't necessarily think it's a permanent trend. We did have asset sales in terms of the inflow.
I would be very pleased if that was a permanent trend in terms of staying at the $30 million level. But I'm not certain that I would make that projection.
I would hope that in terms of the asset sales that we continue to have some good pickup in that area. We're constantly looking at opportunities.
And obviously, some of those paid off in the fourth quarter. So it was a good quarter in terms of inflow.
I would hope that it stays low, but I wouldn't necessarily believe that it'll stay that low quarter after quarter.
Operator
I'd now like to turn the call back over to Bryan Jordan for any closing remarks.
Bryan Jordan
Thank you, operator. Thank you for joining our call this morning.
We're excited about the progress we've made in 2010. As we have gone through this transformation, we believe we're right on track.
It is a marathon, it's not a sprint. We see very good, very strong momentum as we head into 2011, and are excited about the opportunities we see for us and our business.
Please let any of us or Aarti know if you have any questions or any additional follow up. Thank you, again, for joining us, and have a great weekend.
Operator
Ladies and gentlemen, that does conclude today's conference. You may all disconnect, and have a wonderful day.