Oct 24, 2017
Executives
David Urban - Director IR Sandro DiNello - President & CEO Jim Ciroli - CFO Lee Smith - COO Steve Figliuolo - Chief Risk Officer Drew Ottaway - President, Michigan Market Kristy Fercho - President, President of Mortgage
Analysts
Jessica Levi-Ribner - Friedman, Billings, Ramsey Scott Cyphers - Sandler O’Neill and Partners Scott Valentin - Compass Point Kevin Barker - Piper Jaffray Bose George - KBW
Operator
[Operator Instructions] Good day everyone and welcome to the Flagstar Bank’s Third Quarter 2017 Earnings Call. Today's call is being recorded.
And, at this time, I'd like to turn the conference over to David Urban, Director of Investor Relations. Please go ahead, sir.
David Urban
Thank you, Vicky and good morning everyone. Welcome to the Flagstar Third Quarter 2017 Earnings call.
Before we begin, I would like to mention that our third quarter earnings release and presentation are available on our website at Flagstar.com. I would also like to remind you that any forward-looking statements made during today's call are subject to risks and uncertainty.
Factors that could materially change our current forward-looking assumptions are described on Slide 2 of today's presentation, in our press release, and in our 2016 Form 10-K and subsequent reports on file with the SEC. We are also discussing GAAP and non-GAAP financial measures, which are described in our earnings release and in the presentation we made available for this earnings call.
You should refer to these documents as part of this call. With that, I'd like to now turn the call over to Sandro DiNello, our President and Chief Executive Officer.
Sandro DiNello
Thank you, David, and thank you, everyone for joining us today. In addition to David, I’m joined this morning by Jim Ciroli, our Chief Financial Officer; Lee Smith, our Chief Operating Officer, Steve Figliuolo, our Chief Risk Officer; and Drew Ottaway, our Michigan Market President.
As you know Kristy Fercho joined our team in September as President of our mortgage business. Christie joined Flagstar from Fannie Mae where she held a number of leadership positions during her 15 year tenure.
We are thrilled to have Kristy in Flagstar team. She not only knows the mortgage business top to bottom, but also knows us well and brings many industry relationships with her that will help make our mortgage business even stronger than it already is.
But I’m sure she’s listening, Kristy is not with us today as she is attending MBA Annual Convention in Denver. I'm going to start the call by providing a high-level view of our performance for the quarter.
Then I’ll turn the call over to Jim for details on our financial results. Lee will follow with a review of our business segments and strategic initiatives, and I’ll conclude with guidance for the fourth quarter before opening up the lines for questions.
We're pleased to announce net income of $40 million or $0.70 per diluted share continuing our record of solid diversified earnings with no surprises. We again demonstrated the power of our banking business to generate earning assets as we notched double digit growth in all three of our commercial loan proposals.
This shows the progress and our success in delivering on our strategic objective of building a more stable and predictable earnings stream. As I said last quarter and it has been further supported by this quarter’s results.
Flagstar has found a little midsize bank with one of the best mortgage origination platforms in the nation. There are many highlights in the quarter that interest income increased again this quarter and crossed $100 million for the first time and solid earning asset growth.
Mortgage revenue rose 13% led by up14% increase in gain on loan sales due to higher retail originations. And, credit cards were again negligible, while capital remained strong.
Expense rose at 11% last quarter in line with expectations as we realized the first full quarter of expenses from Opes, plus some costs from investments and business expansion. The integration of our business on track with our initial expectations and while it’s still early, the financial performance is slightly ahead of expectations.
Jim and Lee will provide more detail on expenses. While we remain formally committed to controlling expenses, we will take on extra cost in the short term to build revenue for the long-term as long as it doesn’t prevent us from hitting our return targets.
The last couple of months had certainly been difficult for many businesses and people due to the hurricanes. Flagstar was no exception as Texas and Florida are second and third largest mortgage origination states.
Thus difficult to precisely estimate the financial impact, we believe it was as much as $0.3 per share. We continue to do what we can to help our communities recover and our committed to working with our customers to weave the financial burden.
Finally as you know we closed on our first mortgage securitization in July. As you may know we are back in the market with another offering which is very similar to the first one, from out totaling about $576 million.
Given the success of our first issue we believe the ability to go to market with this product is an important differentiator for the Flagstar mortgage business that will enhance our origination opportunity and add revenue to the business in a meaningful way going forward. Looking back at the quarter, I’m very pleased with the results especially considering the challenging mortgage environment that we continue to operate in, the steady, high quality growth in our commercial lines of business, because of our ability to regularly add high performing and very experience lenders is something we are very proud of.
With that my colleagues will take you through to a more detail discussion of our financials and operations. First up is Jim.
Jim Ciroli
Thanks, Sandro. Turning to Slide 6, our net income this quarter was $40 million, $0.70 per share.
This compared to net income of $41 million, $0.71 per share last quarter. Again our earnings reflected three key things, the growth of the community banking business, the strengthening of the mortgage origination business, and a strong discipline upholding the line of expenses.
We performed well on each; earning assets grew 5% supported by deposit growth of 3%. In our mortgage origination business, margins widened, while volumes remained relatively constant, reflecting a full quarter of our Opes acquisition, and expenses remained well controlled as we saw positive operating leverage partially offset by the expense growth from a full quarter about these expenses.
We also held the line on interest expense, at solid growth and deposit balance was achieved, while the cost of those deposits remained under control. Credit costs remain virtually nonexistent.
As net charge-offs were negligible, nonperformers and delinquencies stated their very low levels and our allowance coverage at 2.0% of total loans was the strongest among our peers. Finally our capital position is solid.
We consider the results from our, the fast [ph] exercise in the outside to benefit that we should experience from the propose changes in the capital regulation, our capital is among the most robust in our peer group. We spend more time reviewing our capital position coming up.
But for now let’s turn to Slide7 and dive deeper into the income statement. Net interest income this quarter rose sequentially to $103 million, representing an increase of $6 million or 6%.
Two key factors drove this performance; first, average earning assets rose 5% supported by our strong liquidity in capital base. Average commercial loans increased 13% as we benefited from having a full quarter of the balance we grew last quarter.
Importantly we ended the quarter with $15.2 billion of earning assets, $0.4 billion higher than our third quarter average giving us a nice start to the fourth quarter. Second, the net interest margin rose up basis point to 2.78% as we grew higher spread loan portfolios and enjoyed the full quarter benefits of the increase in short-term rates that occurred at the end of the second quarter, and yet as I mentioned earlier deposit balances grew 3%, while deposit cost rose only modestly; overall the strong performance by the entire community banking team at Flagstar.
Credit costs were negligible this quarter as we provided for net charge-offs. Also included non-interest expense was $0.5 charge reflecting a higher allowance for unfunded loan commitments as we continue to grow our commitments to our commercial customers.
Non-interest income increased $14 million or 12% this quarter led by a $9 million increase in net gain on loan sales. The increase in gain on sale revenues largely reflected a higher gain on sale margin this quarter.
While fallout adjusted locks remained relatively constant compared to last quarter. The gain on sale margin rose 11 basis points to 84 basis points led by a higher distributed retail mix.
The net return on the mortgage servicing asset was an annualized 11%, resulting in a gain of $6 million this quarter unchanged from last quarter. The performance above our return expectation resulted from a more stable prepayment environment and improvements in our hedging program maybe in the last year.
The increase in loan fees and charges resulted from a higher level of retail mortgage loan closings this quarter. Finally the R&W benefit is $4 million, as the R&W reserve fell to $16 million, the result of strong underwriting and servicing which is reflected in the improved risk trends and a repurchase demand pipeline that was only $5 million at quarter end.
Moving now to expenses. Non-interest expense rose 11% to $171 million this quarter, as compared to $154 million last quarter and was in line with our expectation and the guidance we provided on last quarter’s call.
The increase from last quarter was largely due to a full quarter of operating expense associated with Opes. The main increase in expenses reflected below incremental expense load for growing our community banking revenues.
Finally, the Company's effective tax rate is 32% unchanged from last quarter reflecting our existing business mix and the benefits of tax planning. Slide 8 highlights the expansion of our average balance sheet this quarter.
Average earning assets increased $0.7 billion or 5% led by growth in commercial loans. Average loans held for investment rose $579 million or 9%, most of which came from commercial loans.
The commercial loan growth was noticeable in its breadth as each core component, CRE, C&I, and warehouse grew by double digits. Lee will go into further details on loan growth later.
Average deposit rose $266 million or 3% in quarter led by higher company controlled deposits. Average retail deposit rose $70 million driven by an increase in retail CRE, yet costs remained under control performing better than the deposit pricing betas we model.
We continue to maintain strong liquidity in the quarter. Our core banking loan to deposit ratio is only 78% at quarter end.
This is important because it shows how much asset growth we can continue to generate and it’s also a competitive advantage at Flagstar. We are able to fund our most liquid assets; loan sale per sale, and warehouse loans with company controlled deposits, the escrow balances from our servicing business that we hold the bank.
We’ll give this, we have the runway to grow assets by another $1.7 billion about any deposit before we have a core banking loan to deposit ratio of 100%. At September 30th, our common equity to asset ratio remained strong at 8.6% and our tangible book value per share rose to $25.01 as we continue to compound our earnings.
We will cover regulatory capital level shortly. Let’s turn to asset quality on Slide 9.
Non-performing loans rose negligently and stood at $31 million at the end of the quarter while the non-performing loan ratio remained steady at 44 basis points. The absolute level of non-performing loans at September 30th remained near the lowest we've reported in over 20 years.
Early stage delinquencies also remained low. Only 5 million of consumer loans were over 30 days delinquent and still accruing at September 30th unchanged from June 30.
There were no commercial loans of over 30 days delinquent and still growing. Net charge-offs were negligible in the quarter representing a scant eight basis points of HFI loans.
At September 30th, our allowance coverage was 2.0% of total HFI loans well above the coverage levels of any other midsize banking peer. Coverage remained strong at 2.3% of consumer loans and 1.7% of commercial loans.
We believe any credit impact from this quarter’s hurricane will be a material and in reviewing our allowance coverage ratios at the end of the quarter, sound the levels to be adequate to cover any exposure we might have that specific risk. Turning to Slide 10, capital remained a hallmark.
Our Tier 1 leverage ratio was 8.8% at September 30th, down only 30 basis points from last quarter. Given the positive signals we saw this quarter on the proposed changes to capital regulations, we allow our MSR to grow this quarter which accounted for most of the decreased in this capital ratio.
Looking at our Tier 1 leverage capital would be, should the proposed regulations be enacted exactly as they are proposed. We would have a Tier 1 leverage ratio of 9.5% even with this quarter’s growth in the MSR portfolio.
I would observe that the MSR is returned to strong 11% this quarter because we are bank we have the ability to fund this asset efficiently and the ability to hedge exposure, the changes in interest rates complexity and bright future volatility. So, increasing this portfolio makes sense to us.
We also encourage to having a limit of 25% gives us the flexibility, the better manage the uncertainty that may exist within the MSR market at any given time. At September 30th, our Tier 1 leverage ratio had 380 points proper above the minimum level needed to be considered well capitalize.
If you review our capital position in light of the capital simplification proposal, we would expect to have a capital bumper of approximately 450 basis points as Tier 1 leverage in excess of our regulatory minimum. Considering our projected level of MSR balances, our recent track record of hedging this portfolio and other factors, we expect to continue the target arrange at 89% for the Tier 1 leverage ratio over the long-term.
When you review the strong, the fast results we released last week. Our capital level at Peer even more robust, our the fast results demonstrate that what we have been building is working that we can generate a superior level of return from lower level of risk in the balance sheet, from strong asset quality to relatively neutral market risk position, and more than ample liquidity, all supported by high quality risk management function.
Nearly lost and all this good news that we continue to grow our regulatory capital and a pretax rate and utilized our net operating losses. At September 30th, our Tier 1 leverage ratio was reduced by 80 basis points for the annual related DGAs; we expect that we will recover most of this trap capital as we utilize our annual over the next nine months.
We also included the summary appendix to our earnings call presentation to analyze the impact that various changes in the tax code on our deferred tax asset position. While we can’t predict what might happen or when, we remain positive and meaningful reform and simplification would provide a significant boost to our run-rate earnings, but even lacking reform, we will continue to improve the tax efficiency of the company.
I'll now turn to Lee for more insight into each of our businesses.
Lee Smith
Thanks Jim and good morning everyone. It was another solid quarter as we reported earnings of $0.70 per diluted share and continue to execute on our strategic vision for the bank.
We were able to grow average earning assets $770 million during the quarter of which $434 million came from commercial loan growth. As we further build our reputation as a strong community bank.
This loan growth enables us to growth net interest income by $6 million or 6% quarter-over-quarter to $103 million. We remained focused on continuing to grow earnings from the community bank, smoothing out earnings volatility and creating a sustainable and predictable earnings stream.
The two mortgage acquisitions we closed earlier this year upheld this grow gain on sale revenue $9 million for $75 or 15% quarter-over-quarter. Furthermore, we also saw an increase of 11 basis points or 15% gain on loan sale margin due to our mix of retail mortgage business increasing significantly following the Opes transaction.
We had been one of the biggest sellers of mortgage servicing rights during 2017 and have sold approximately 29 billion UPB, up on the line loans through September 30th. We retained sub-servicing on 85% of the sales, as a result of our best in class servicing platform and now service or sub-service approximately 415,000 loans.
Our capital ratios remained strong as we continue to build Tier 1 capital at a pretax earnings run-rate given our differed tax asset. To put this into perspective, we’ve grown our ending balance sheet almost 3 billion or 20% since the beginning of this year and our Tier 1 leverage has decreased just 8 basis points to 8.80%.
Our capital position is only going to be further enhanced for the capital simplification proposal which would further increase Tier 1 leverage by approximately 70 basis points as of September 30 and in future earnings. 2017 has been a solid year, we’ll execute on our strategic and we are well position to continue to grow and be successful across all three business lines in the future.
I will now outline some of the key operating matrix from each of our major business segments during the quarter. Please turn to slide 12.
Quarterly operating highlights for the community banking segment include average commercial loans increase $434 versus the prior quarter to $3.7 billion following strong and balance growth from all loan categories and portfolio. Average commercial real-estate loans grew $169 million or 11%.
Commercial and industrial loans grew $137 million or 16%, while average warehouse loans increase $128 million or 15%. We have grown average C&I and CRE balances 1 billion over the last 12 months, as we continue to build the strong commercial presence and balance earning contributions between the mortgage and commercial businesses.
This growth has been facilitated by the introduction of several new business lines over the last year or so, so including builder finance lending, MSR lending, equipment finance and leasing, as well as establishing a syndications group. We've also strengthened our middle market lending and business banking teams during the first nine months of the year as a result of our successful recruiting efforts.
We are very excited about our commercial lending businesses and the high quality interest earning assets they are generating. And, believe we continue the growth you’ve seen as we leverage the new lending channels while building our core CRE and C&I businesses.
Average consumer loans increase to $145 million as we added high quality jumbo and home equity loan to credit to our portfolio as we look to main a diversified approach to asset holdings. Average total deposit increased $266 million or 3% in the quarter led by an increase of $121 million in company controlled deposits and average retail deposit increased $70 million led by growth in retail certificates of deposit.
We continue to be focused on executing on several strategic initiatives to drive further deposit growth, including acquisition opportunities, building out a digital strategy, putting a great emphasis on bringing in deposits from commercial customers and leveraging our sub-servicing business, the custodial escrow deposits. We are very encouraged by the sustained growth in the community bank, our positioning and potential for the future.
Please turn to slide 13. Third quarter operating highlights for the mortgage origination business include fallout-adjusted lock volume declined 1% to $8.9 billion quarter-over-quarter a slightly lower correspondent and broken volume was offset by stronger retail volume following the full quarter about these originations.
Mortgage closings increased 4% in the quarter. Again primarily due to the full quarter of Opes, but also because of the operational excellence of our underwriting and fulfillment teams who continue to combine both quality and efficiency in that processes.
Our net gain on loan sale margin increased 13 basis points quarter-over-quarter to 84 basis points led by a higher distributed retail mixed following the Opes acquisition. Although it’s difficult to estimate, we believe the impacts of the hurricanes was worth anywhere between $0.2 and $0.03 of loss earnings per share through a combination of loss mortgage lost and credit erosion.
As we previously discussed, the strategy behind the two acquisitions was to preserve mortgage banking revenues in a declining market and also build our retail presence as the market shift towards the purchase market. I believe our Q3 results valid our original thesis.
We recently launched our second securitization of the year which consists of $576 million a fully amortizing, high balance confirming and jumbo fixed qualified mortgage loans to borrow strong credit profiles and low leverage. We are excited to be able to return to the market just three months following our renewal securitization and believe this can become a regular activity for us.
As Sandro mentioned Kristy Fercho was appointed President of mortgage banking earlier in the quarter. And, we are thrilled to have someone with Kristy’s talent and experience leading our mortgage business.
We believe we are one of the best mortgage origination platforms in the country and trying to take advantage of any dislocation in the industry even the smaller or more competitive market, further consolidating our position as the big largest bank origination in the nation. Moving to servicing, quarterly operating highlights for the mortgage servicing segment on Slide 14 include; through the first nine months of this year, we have been one of the biggest sellers of MSRs in the country of the 29 billion UPB of MSR sold, we have retained the sub-servicing on 85% of the sales.
I believe this is testaments of the servicing platform we are putting place. We have previously spoken about the Fannie Mae Star awards for two consecutive years from quality point of view.
And, we also offer MSR lending, servicing and advance lending and recapture services or comprehensive one stop short to owners of MSR assets. If we combine the offspring with the robust risk and compliance infrastructure and well capitalized bank, you can see the attractiveness of our proposition and our strength as a solid and reliable counterparty.
The escrow custodial deposits these loans generate also help us fund our balance sheet and we held 1.5 billion such deposits at the end of the quarter. We currently service of sub-service 415,000 loans where almost 300,000 sub-service, furthest making us the eight largest sub-servicer in the country.
The remaining of 115,000 loans, our MSRs we owned were caught it by HA by book. It should be noted less than 2% of the loans we service as sub-service are more than 60 days delinquent.
Our MSR to CET1 capital ratio at the end of September was 20%. And, the recently announced capital simplification proposal would allow us to hold up to 25% of the MSRs to CET1 capital before it became impunity.
This is obviously significant and very positive development for Flagstar. And, in relations to the hurricanes within FEMA counties, New Texas, Florida, Porto Rico and US Virgin Islands, we offered home owners 90 day forbearance on their mortgage payments in accordance with invested guidelines, but also included working with borrowers on repayments plans in order to allow an extra time for payments so that they could get back on their feet.
Going forward we will remain focused on growing our fee income generating sub-servicing business which has the capacity to service up to 1 million loans and leverage another business opportunities as a result of this offering. Moving on to expenses on Slide 15, our non-interest expense increased $17 million to $171 quarter-over-quarter which was in line with the guidance we provided on the last call.
Significant increase in expense dollars was predominately because of the full quarter of Opes expenses. If you recall we closed this transaction in May, so only reported the part of the expenses in Q2.
Opes also generated revenues in excess of its cost ratio during the quarter and continues to perform in line with our expectations and be accreted from an earnings per share point of view. As we previously noted we expect the payback on this investment to be less than three years.
We also continue to invest in growth initiatives across the bank, particularly in our expanding commercial lending businesses and we should see the revenues from these investments materialize as we move forward. Expenses across all other areas of the organization were in line with our expectation as we maintained a disciplined approach to expense management.
The increase in our efficiency ratio of 1.1% to 73.5% from last quarter was again due to a full quarter of Opes result, while the business is profitable and generating earnings and in line with our expectations, our retail mortgage platform is inherently less efficient than the community bank. We are focused on improving our efficiency ratio through the growth of revenues across all three major business lines while continuing to build on the cost discipline and risk management, we’ve been still throughout the organization.
We estimate non-interest expense will be between $176 and $172 million during the fourth quarter of 2017. We are very pleased with how we performed so far in 2017 with delivering on our strategic plan and believe we will continue to create significant value for our shareholders.
With that I’ll hand it back to Sandro.
Sandro DiNello
Thank you, Lee. I'm now going to close our prepared remarks with some guidance for Q4 and then open the call for questions and answers.
Please turn to Slide 17. We expect net interest income will be up slightly with average earning assets consistent with period and Q3 levels.
We anticipate a steady net interest margin. We expect a seasonal decline in gain on loan sale income.
We anticipate 5% to 10% in mortgage locks. We expect a steady in gain on sale margin.
We anticipate the net return on MSR's is approximate 5% to 7% for full transaction costs from the closing of the MSR sales. We expect loan fees and charges will fall moderately and lower mortgage closings while all other non-interest income will remain steady with Q3 levels.
And as Lee noted, non-interest expense will remain fairly stable between $167 million to $172 million. This concludes our prepared remarks.
And, we'll now open the call to questions from our listeners. Vicky?
Operator
[Operator Instructions] And we'll take our first question today from Jessica Levi-Ribner with FBR. Please go ahead.
Sandro DiNello
Hi, Jessica.
Jessica Levi
Hi, good morning. Thanks for taking my question.
Can you speak a little to the kind of supply dynamic of homes for sales in your markets, and then also what kind of competitions you’re seeing for originations from some of the larger banks?
Sandro DiNello
Sure. I think from a supply point of view it seems pretty clear to me from my interaction with our county executive, and loan officers around the country that the supply is tight and particularly in some of the west coast markets there just doesn’t seem to be enough supply out there, and I think that’s holding back the size of the mortgage market.
And, relative to competition from banks, I mean, we don’t really look at banks versus non-banks from a competitive point of view, I mean, what we try to do is position our business so that it make sense for Flagstar, so look at what the opportunities are out there and make sure we place the business right way and make sure they were balancing our capacity against our production and our revenue targets in the right way and the let the rest of it take care of itself, and I think that approach has been working pretty well for us.
Jessica Levi
Okay, thank you. And, then in terms of sub-servicing, you mentioned that you have the capacity to sub-service up to a million loan; is that a strategy of yours to go after sub-servicing or is it more on the basis of MSRs or loan originated and your selling MSR retaining the sub-servicing?
And, then also how are you thinking about MSR sales versus holding them on the balance sheet given the capital simplification?
Lee Smith
Growing sub-servicing is a strategy Jessica and we can grow sub-servicing always basically, one way if you articulate each selling MSRs we create through our origination business and then sub-servicing those loans and we’ve been pretty successful at doing that over the last three years. Another strategy is on boarding loans, we have been originated and this year we’ve already on-boarded about 30,000 loans that were not originated by Flagstar.
And, we think that’s an opportunity going forward and that’s typically coming from the MSR owners that was selling MSRs too because they’re buying from a number of counterparties. We can work directly with Fannie and Freddie, and we have capacity agreements in place with both of them.
And, then fourth leg of the store would be private label sub-servicing and this is something we are working on having in place, sometime during 2018. So, it is a strategy to grow sub-servicing and we like the fact that it’s seeing business, we got the quality for the Fannie awards and we can opt for a lot of banks axially services such as lending around the MSR servicing advances to bank better.
In terms of our strategy, I think with the capital simplification rule, I mean, we will hold as much as MSR as we can, we like the assets as you heard Jim say, the returns are strong. And, I think the increasing what we can hold is just gives us more options, I think 10%, we were having to sell more, the fact that it’s been increased to at least 25%, it means we can hold more, we only need to sell it if the economic makes sense for us.
Sandro DiNello
Let me add a couple of things there Jessica, number one as Lee said in his prepared remarks, we are probably the largest sellers of MSRs this year in the country. It’s important to know that we’ve been able to keep sub-servicing about 85% for those sales and I think that’s the – and we’ve been able to sell at our marks and I think that speaks the track that we’ve been capitalizing our MSRs at the right rate, and I think that’s important because if you take risk in the way you capitalize your MSR in short term it can help the origination, but in long term it can put you at risk, because that MSR might not really have the value that you placed on the balance sheet.
And, I think you can’t underestimate the flexibility of this piece of this capital simplification plan, at 10% you don’t just have flexibility, you pretty much have to sell it when you originate it, when you create it, at 25% it just gives us the flexibility to make sure that we do it when it’s right from the economic point of view and that just changes week-to-week depending on what the interest rates. So, it’s real, real big benefit to be able to have 25% as oppose to 10%.
And, with respect to the servicing platform, we are really the only full service bank in the country that’s taking this approach to building this business, and I think the way it complements the level of MSRs that we create and turns into business is pretty creative, and I think as I said quite unique overall and I think the one thing that Lee I don’t think mentioned in terms of the benefits you provide to those that might onboard with us loans did originate is the regulatory discipline that we have as a bank and the only bank that’s really trying to do this, I think that’s a big differentiate for us.
Jessica Levi
Okay. One last one for me would be just what the market is like now for MSRs – the pricing?
Lee Smith
Yes. So, I think what I would say Jessica going back to the election from the selling point of view, the market was great and we were able to take advantage of that and that’s why we sold 29 billion of underline loans year-to-date.
The pricing is definitely contracted or got tighter in the last two or three months. But again coming back to the capital simplification rule and moving up to 25%, it gives us more flexibility, we don’t have to constantly be selling and if you have seen in the last quarter, we certainly didn’t sell as much as we did in the first six months of the year.
Jessica Levi
Okay. Thanks so much.
That’s it for me.
Sandro DiNello
You’re welcome Jessica.
Operator
And, we'll take the next question from Scott Cyphers with Sandler O’Neill and Partners,
Sandro DiNello
Hi, Scott.
Scott Cyphers
Hey Sandro, just wanted to ask you about, I think if there is one thing I have kind of noticed about, of course the year, the pace of the balance sheet growth has been really quite rapid and it’s done a great job of overwhelming just in sort of tough mortgage environment, I’m just curious as you see it, what’s going to be appropriate pace of balance sheet growth going forward, in other words when is it kind of reach a steady state or begin to kind of Plato in terms of just the overall pace of the long portfolio growth?
Sandro DiNello
I think the pace we’ve been at this year is pretty consistent with the last couple of years and consistent with the guidance that we’ve been talking about going forward. Jim talking about all the capital we have and as long as we got the capital and as long as we are able to continue to bring new people into organization, we will be able to continue to generate those assets, you use the term rapid, I don’t naturally agree with that term, I think it’s been bit steady, it’s been thoughtful and it’s solid quality and a price that make sense.
So, we are optimistic that we can continue to bring new and high quality people into the organization and if we can do that then we will continue to grow earning assets at the pace that we have done.
Scott Cyphers
Okay, I appreciate that color. And, then just maybe on the funding side, I guess, the only challenge with overall asset growth it can be tough for total deposit growth to keep pace even having said that even growing deposit based is pretty rapidly or pretty helpfully, so just curious for your thoughts on overall funding strategy where you would see things going from here?
Sandro DiNello
So, I think similar answers. What we’ve been doing growing those core deposits pretty steadily going from 6.2 in the bank to 6.5.
I think we can continue to do that, I think the brand awareness campaign that we started a couple of years ago, it’s taking shape, we’ve seen our brand awareness scores improve in a very nice fashion based on the information we have in our primary banking markets is growing as much as anybody else over the last 12 months or so, and then we added this great distant relationship with the Jersey sponsorship. So, I think you can see we’ve made a big, big commitment to building our brand, and I think as we build our brand then that allow us to develop our core relationships more and then we have these other ways of building deposits as well to our government banking business that controlled deposits that Lee talked about and we are working on more online banking opportunities to expand our deposit gathering for print if you will, so we are trying to be as creative as we can and then also to get at the more traditional ways of bringing the funding into the company.
Jim Ciroli
Scott, I would also add in the same way that we are adding loans, we are adding deposits by bringing high quality people from other institutions over to Flagstar and we bring those high quality individuals over especially in the commercial arena and in the business banking arena, they’ve been really good about bringing over the entire relationship. So, it’s not just the loan that we are doing, but it’s also in a great many of those cases we are getting the deposits in those relationships.
Lee Smith
Scott I’ll just add and I have mentioned this in my prepared remarks, so well sort of building the brand and building core deposits and we have done a nice job of that, I mean, this other strategies, I mean, this acquisition opportunities Sandro just mentioned building at a digital strategy leveraging our commercial customers as Jim just deluded too and then leveraging the sub-servicing business for escrow custodial deposits. So, there are number of other strategies outside of building, the core deposits that were we’re looking at the moment.
Scott Cyphers
Right, that’s great. I appreciate your guys thought.
Sandro DiNello
Thanks, Scott.
Operator
And, I’ve got Scott Valentin with Compass Point, please go head.
Unidentified Analyst
Hi
Sandro DiNello
Good morning, Scott
Unidentified Analyst
Hi, this is the one for Scott Valentin, how is it going?
Sandro DiNello
How are you?
Unidentified Analyst
I’m doing fine. Just quickly I appreciate the color on the impact from the hurricane, I understand the volume side is difficult to quantify.
But did you see any impact on or perhaps on loans that you have funded that having yet then sold?
Sandro DiNello
No, nothing material, it’s just a timing difference where we needed to get reprise along some of those, but yes nothing material, delayed has been able to call and sell a few days, but nothing material.
Unidentified Analyst
Great, thank you. And, as it relates to forbearance, we also assume that it’s not significant that exposure there and I guess as we look to the fourth quarter, should we expect on the short term up pick in residence delinquencies?
Sandro DiNello
Again we don’t think it’s a big exposure and we don’t expect it to be an opportunity in the delinquencies in Q4.
Unidentified Analyst
And, just on M&A you mentioned there was a possibility to grow deposits by acquisitions, obviously it’s been focused more recently on non-bank acquisitions, in just terms of priorities, are you still looking at expanding the mortgage operation, are you comfortable with the size of the unit there, I guess, how would you prioritize where you’re looking for M&A?
Jim Ciroli
I think M&A has always the opportunistic, so I think when you just address the mortgage side of the first. So, I don’t think that a mortgage acquisition high on a priority list, we did the acquisition of Opes that has been a great, great addition to the company it’s allowing us to expand our retail business in the way we wanted to and it’s created a hybrid sort of operation that is very interesting to other loan officers as individuals and as teams, and so we are seeing the ability to bring the people into our retail loan origination program and without having to pay for it if you will.
So, if we can do that, if we can continue to expand our retail origination platform, because people want to come to Flagstar because it offers a differentiated choice, then there’s no reason to pay somebody a premium for that business. That said if a right economic opportunity presented itself like we did with the Stearns and the Opes situations, we’ll take advantage of it.
And, the banking side, the right banking situation is going to be hard to find for us, given the fact that we can do what we’re doing organically. And, again similarly wide and lot of pay really it’s that premium when we can do what we needed to do organically.
But again same as if the right economic situation presented itself, we would always consider it. But I don’t put M&A at the top into our priority list right now.
Unidentified Analyst
Got it, I appreciate that. Thank you.
And, if I could just slip more in the reps and warrants reserve, the releases you’ve had there been a nice tail, and it looks like you do have some runway there I guess, at what level would you expect the reserve to stabilize?
Sandro DiNello
Yes, can’t answer that specially, what I can tell you of course is that we review at every quarter and clearly the trend has been from our model has been to view the risk for the loss in the declining fashion. And, so right now it seems like that could continue, but to try to predict with the market might bring going forward not want to do that, but certainly I’ll tell you that it was very comfortable with the quality of originations, the low defect rates we have, we are pleased with some of the changes, the agencies have made, allowed us to be more predicable about their rep and warranty risks.
And, I’m very comfortable with the level that we have and we are pretty conservative, we are going to be careful about taking that down too far.
Unidentified Analyst
Fair enough. Thank you very much for taking my questions.
Sandro DiNello
You’re welcome.
Lee Smith
Thank you.
Operator
And, we’ll now take our question from Kevin Barker with Piper Jaffray.
Sandro DiNello
Hi, Kevin.
Kevin Barker
Good morning. In regards to the MSRs and imagine your capital base, you’re obviously going to see a lot more spread revenue given, your long growth has been robust.
And, then if that continues to grow and you have more predicable mortgage bank given, you have the Opes transaction, and you’re more retail oriented, would you be comfortable perhaps bringing that Tier 1 leverage ratio below the target range 8% to 9%?
Jim Ciroli
I don’t think so. I think day and age, 8% to 9% is the right place for a bank like us, it’s the complexity, the risk levels that we have in our organization the way we evaluate that I think 8% to 9% is the right place to be.
Kevin Barker
Okay. Given the change in the capital rules, are there any changes in your priorities on deployment of that capital overtime or do you believe you continue to grow into your capital?
Jim Ciroli
Yes, I think it’s latter, there is no reason to change anything, I think it just strengthens our ability to do what we’ve been doing for the last few years and we are continuing to do. I don’t think we change anything, and we continue to sell fund growth that we have through that capital generation compounding the earnings.
Kevin Barker
Okay. And, then in regards to the securitization that you did recently and could you talk about the gain on sale that you got from most recent securitization versus what you’re getting in conforming or the FAJ market?
Sandro DiNello
I don’t think we provided that kind of detail Jim.
Jim Ciroli
Kevin what I would say about the deal is, there is a lot of different components to the benefits we get from securitizing those loans including really access to a more efficient market and while we didn’t disclose that we are very pleased with the results. And, I think this can be our regular activity moving forward.
Sandro DiNello
Yes, and I think in terms of providing guidance to you and what that might mean financially when you look little bit experience in history here before we can be more specific about it. But certainly just having ability to generate that product from the origination point of view that is very helpful for loan officers, because there are not a lot of companies that have done that right, I think Chase is the only other company that’s doing it right now.
So, it’s definitely another arrow in quiver if you will for our loan officers and don’t underestimate the benefit of that.
Kevin Barker
Okay. And, then one last question in regards to your expenses, you seemed quite a bit pickup in the commission expense; sellers are obviously bumped up following the Opes transaction.
Could you talk about run-rate for commissions given that Opes is fully integrated at this point, and then how you’re thinking about expenses as well in the next few quarters?
Sandro DiNello
Let me give you quick response and maybe Lee might want to add something to that. I hope this is the last time we talk specifically about Opes, right, because this is the first full quarter that we have Opes.
So, this now becomes our retail platforms. So, going forward when you look at commission, it’s not going to be Opes versus Flagstar; it’s just going to be Flagstar basically.
So, commissions are going to grow based on how our retail originations grow and we are pretty optimistic about our ability to do that part of our mortgage business. I think otherwise with respect to expense I think we are pretty satisfied that we’ve been able to keep the legacy expenses if you will under control and the only other expenses that we’ve incurred those are allowing us to generate more revenue.
In order to get these people you’ve got to invest some money in advance, but we are doing it deliberately and very carefully and we are not trying to get the expenses too far ahead of the revenue.
Jim Ciroli
Kevin, I’ll just add that the run-rate you’ve seen in Q3 and what we’ve guided to in Q4, I think that’s pretty consistent as we mentioned in the prepared remarks, there is a little investment in growth initiatives, but not a ton. But then you obviously got mortgage business, the reason seasonality and so that can impact quarter-to-quarter, but again not a ton.
So, I think what you’ve seen in Q3 where we’re guiding you to in Q4, is pretty consistent run-rate.
Kevin Barker
Okay. Thank you very much.
Jim Ciroli
Welcome.
Operator
[Operator Instructions] And, I’ve got Bose George with KBW, please go ahead.
Sandro DiNello
Good morning, Bose.
Bose George
Hey guys, good morning. On the new capital simplification proposals, what’s the most likely timeline for this to go into effect?
Sandro DiNello
Well, this is just my personal, yes, we try to keep pretty close to that, so they still have an actually issue the proposal, the final proposal. So, there is likely to be a 60 day common period after that, because as everybody knows [indiscernible] in J1, I would expect that they would issue that pretty soon, so that they can get the new proposal finalized, the new rules finalized before January 1st, that’s just my personal opinion.
Jim got a different view on that.
Jim Ciroli
No, as I mentioned that [indiscernible].
Bose George
Okay, great. Makes sense, thanks.
And, then actually one more just the efficiency, just with the higher retail and the higher efficiency ratios result, does this change anything in terms of your longer term mid 60s target?
Sandro DiNello
It does not, our long term target is still in the mid 60s and we believe we will get there through growing revenues across all three major business lines.
Jim Ciroli
Now I’ll add that with respect to the acquisition as I think we said previously we didn’t model any expense savings there other than the funding benefits, but certainly as time goes on, we’re finding ways to put the two organizations together that create combinations that’s more efficient. So, the efficiency ratio is specifically related to that additional retail will get better as time goes on.
And, so we remain committed to getting the efficiency ratio down there and, mid 60s eventually.
Bose George
Okay, make sense. Thanks.
And, one last big picture question. And, I know it’s early in terms of tax reform, but do you have any thoughts about what a doubling of the standard deduction could do potential homebuyer behavior?
Jim Ciroli
Well, if overall tax rates are lower than I don’t think it should be a problem, I think that makes people feel like their paycheck is bigger and they can afford the house as the same, so I’m one that believes that it’s not impairment to home ownership. We think it’s all driven off the disposable income Bose, and if you get that disposable income through an interest deduction or through a greater standard deduction it’s still money in the pocket of the consumer.
Bose George
Okay, great. Thanks.
Sandro DiNello
You’re welcome.
Operator
And, I’d now like to turn it back to sandro DiNello for any additional or closing remarks.
Sandro DiNello
Thank you Vicky, and thanks, everyone for your interest in Flagstar. And important story line of the quarter was our power to lose earning assets, we continue to deploy our capital wisely and increase assets almost a billion dollars in the quarter, wasn’t that long ago that we talked about putting the past to rest activity into growth in the future and we’re doing that.
We made two mortgage acquisitions earlier in the year to offset the impact to what we expected to be a smaller and tighter mortgage market. These acquisitions also help to diversify our mortgage business.
We have closely clean consistent earnings quarter-after-quarter despite a very challenging mortgage environment over the last year. And, our community bank seems to grow as does the stability of our earnings.
All in all it was an excellent quarter with important matrix showing impressive results. We also walk in the capital simplification proposal from our regulators as SRA capital SRA coronation to support our growth and importantly give us more flexibility in managing our MSR assets.
We appreciate the loyalty and our support of our shareholders. And, we thank our employees for their extraordinary efforts to make Flagstar success.
Finally thank you for your time this morning. As I look forward to reporting Q4 in January.
Operator
And, thank you very much. That does conclude our conference for today.
I’d like to thank everyone for your participation and you may now disconnect.