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National Bank Holdings Corporation (NYSE:NBHC)
Q3 2019 Earnings Call
Oct 23, 2019, 11:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning, everyone, and welcome to the National Bank Holdings Corporation 2019 Third Quarter Earnings Call. My name is Mariama and I will be your conference operator for today. At this time, all participants are in a listen-only mode. We will conduct a question-and-answer session following the prepared remarks. As a reminder, this conference is being recorded for replay purposes.

I would like to remind you that this conference call will contain forward-looking statements, including statements regarding the Company's loans and loan growth, deposits, strategic capital, potential income streams, gross margin, taxes and non-interest expense. Actual results could differ materially from those discussed today.

These forward-looking statements are subject to risks and uncertainties and other factors, which are disclosed in more detail in the Company's most recent filings with the US Securities and Exchange Commission. These statements speak only as of the date of this call and National Bank Holdings Corporation undertakes no obligation to update or revise these statements.

It is now my pleasure to turn the call over and introduce National Bank Holdings Corporation's Chairman, President and CEO, Mr. Tim Laney.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Thank you, Mariama. Good morning and thank you for joining National Bank Holdings third quarter 2019 earnings call. I have with me, our Chief Financial Officer, Aldis Birkans and Rick Newfield, our Chief Risk Management Officer. We're pleased to report another record quarter of earnings on the strength of solid loan balance growth, strong growth in non-interest bearing deposits and record fee income.

More specifically, we grew loan balances at an annualized rate of 10.7% while growing non-interest bearing demand deposit at an annualized rate of 12.9%. Record fee income was driven by our residential banking group with a solid contribution from our consumer group.

Finally, it's important to note that we remain very focused on expense management and we believe we are setting ourselves up to realize additional operating efficiencies in 2020. Aldis?

Aldis Birkans -- Chief Financial Officer and Treasurer

Thank you and good morning.

As Tim already mentioned, we are very pleased to be reporting another quarter of record earnings driven by solid loan and low cost deposit growth and a great performance by our residential mortgage business. For the third quarter, we reported record quarterly net income of $21.6 million and record [Indiscernible] share of $0.69. This is an increase of $1.4 million or 6.7% on a linked quarter basis and an 18.7% increase over the third quarter of 2018.

As we reported in our earnings release, this was a busy quarter for us on many fronts, and I will call out some of the key drivers, as I cover various parts of the balance sheet and income statement.

In terms of organic loan growth, we are pleased with the trends we saw this quarter. Led by strong commercial loan activity, our new loan originations this quarter were $319.2 million, an increase of 9.9% over the second quarter 2019 and 16.2% increase over the production levels during the same quarter last year. Originations continue to be well diversified across various geographies and asset classes. The regional economies in our markets remained solid and growing, despite the macro uncertainty around global economic growth. Our small business, middle market and consumer clients generally maintain a positive forward outlook. However, given the increased uncertainty, we took the opportunity to groom portions of our loan portfolio this quarter and expect to continue these efforts during the fourth quarter as well.

Our strategic actions, combined with increased client refinancing activity this quarter, resulted in an elevated loan paydown and payoff levels. On a year-to-date basis, our originated and acquired loan balances have grown a strong 10.7% and we expect to achieve the full year 2019 loan growth guidance of 10%.

On the other side of the balance sheet, we continue to be very pleased with the growth of our low cost relationship deposits. Average non-interest bearing deposit balances grew 12.9% annualized on a linked quarter basis and our non-interest bearing deposits now represent 26.1% of total deposits with a 2.5% improvement from a year ago. Our total average transaction deposits grew 5.1% annualized and we expect to deliver on our full year guidance for average transaction deposit growth in the mid-single digits.

Our transaction deposit cost decreased 1 basis point from the prior quarter to a low 39 basis points in the third quarter. Heading into the fourth quarter, we have taken actions to further lower interest rates on our deposit accounts. We have $2.4 billion in average money market, savings and other interest bearing deposit accounts to which we are rapidly responding with pricing adjustments. We expect to realize a continued drop of transaction deposit costs in the fourth quarter as a result of these actions.

Fully taxable equivalent net interest margin for the quarter was 3.91%. Our linked-quarter decrease of 9 basis points entirely driven by the two 25 basis point Fed funds rate cuts. This decrease is in line with our expectations of a 5 basis point to 7 basis point drop for each 25 basis point cut in the Fed interest rate target.

Looking ahead, if the Fed follows through with a widely expected interest rate cut at the end of October, our margin will continue to be impacted and we now project the fourth [Indiscernible] taxable equivalent net interest margin to be in the low 380s. Consistent with the prior guidance, earning assets should end the year at around $5.4 billion.

With regard to credit, our overall loan portfolio remains in very good shape. We moved swiftly to address the one problem loan that came over with the Peoples Bank acquisition, which we discussed during the second quarter's call.

As a result, our annualized net charge-offs this quarter were 66 basis points. Excluding the charge-off related to this one acquired problem loan, the remaining portfolio net charge-offs remained very low at 3 basis points annualized year-to-date. The provision expense this quarter was $5.7 million and included $4.2 million related to this problem loan.

Just to recap. At the time of the Peoples Bank acquisition, the day one loan mark was $9.8 million, more than sufficient to cover this specific problem loan expense as well as the rest of Peoples loan portfolio. As of September 30, 2019, we still had $6.1 million of the purchase market remaining that will continue to be amortized into our earnings over time. We see no systemic issues across our diversified and granular loan portfolio and in fact, non-performing loans declined on quarter-over-quarter and on a year-over-year basis with the non-accrual ratio improving to 58 basis points from 79 basis points at June 30, 2019.

For the fourth quarter, we are expecting provision expense to normalize to cover originated loan growth at 1%, and annualized net charge-offs of 10 basis points to 15 basis points.

During the third quarter, we realized record non-interest income of $24.8 million, which was $4.1 million higher than the second quarter 2019. While we showed solid results in our service charges and bank card fees, this quarter's highlight was the $14.7 million in mortgage banking income which exceeded our guidance.

Our core residential mortgage business is built on the purchase market and we continue to benefit from operating in strong local markets. Additionally, this quarter, our teams capitalized on the low mortgage rates that have fueled the refinancing activity, which in turn provides a nice hedge to the margin pressures.

To give you some color, this quarter refinancing activity represented 50% of the origination volume as compared to 26% during the second quarter 2019 or just 16% the same quarter last year.

Looking ahead, we project both the home buying and the refinancing activity to slow down, especially during the second half of the fourth quarter, heading into the holiday season. We project our total non-interest income for the fourth quarter 2019 to be in the $17 million to $18 million range.

Regarding expenses, our third quarter's non-interest expense totaled $43.8 million and decreased $2.7 million from the prior quarter. This quarter, we closed on two OREO property sales that had been in work for some time. The gain from these OREO sales totaled $6.5 million and was recorded as a contra expense within our non-interest expense. Our previous guidance projected these gains to cover this year's problem asset workout expenses and we are very happy to have exceeded our guidance.

Additionally, this quarter we announced the consolidation of four banking centers that will occur in the fourth quarter of 2019. As part of this effort, we incurred $900,000 impairment charge during the third quarter, which we expect to earn back within a year through improved operating efficiencies.

We do not expect these consolidations to have any material impact on our ability to grow and service our low-cost deposits. Since 2015, we have either consolidated or closed a total of 22 banking centers as we continuously look to improve our operating leverage to allow us to invest in the digital conveniences that our clients expect.

Excluding OREO gains, problem asset workout expense and the banking center consolidation charge, non-interest expense in the third quarter increased $2.8 million. This increase was driven by a $2.9 million increase in the total compensation line as a result of the higher residential mortgage performance.

For the fourth quarter, we expect our total expenses to be in the $45 million to $46 million range. The effective tax rate for the quarter was 20%, reflecting the higher taxable income. For the fourth quarter of 2019, we expect the effective tax rate to be in the previously guided 18.5% to 19.5% range.

Tim, that concludes my comments.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Thank you, Aldis. We are proud of having delivered another record quarter of earnings with increasing returns on tangible assets and tangible common equity. To be clear, we are not pleased with the expense taken during the quarter related to the previously discussed acquired loan. We'll share with you that despite the reliance on audited financial statements in connection with this relationship, we've uncovered regularities, if not suspect activity that continues to be investigated.

Moving on, as it relates to capital, we finished the quarter with a 10.9% Tier 1 leverage capital ratio. Our tangible book value per share was $20.45 and we're pleased to have increased tangible book value 13.4% over the past 12 months, while having increased our quarterly dividend 35.6% [Phonetic] over the same period.

On that point, we'll open the call up for questions. Mariama?

Questions and Answers:

Operator

Thank you. [Operator Instructions] Your first question comes from Jeff Rulis with DA Davidson. Your line is open.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Good morning, Jeff.

Jeff Rulis -- DA Davidson -- Analyst

Good morning, Tim and Aldis.

Aldis Birkans -- Chief Financial Officer and Treasurer

Good morning.

Jeff Rulis -- DA Davidson -- Analyst

Following up on the credit side, sounds like an identified credit obviously from the Peoples one that you discussed. I guess, I'm just trying to get to the -- kind of the approach here and maybe some body language suggests, is there more sort of processing of these type loans like you're going to get more aggressive to try to churn through that non-accrual book? Or is this a true one-off and we should see more stability in the non-accrual level and charge-offs?

Richard U. Newfield -- Chief Risk Officer

Sure. Jeff, good morning. This is Rick. Let me answer your question. So yes, this is a loan that came over with the Peoples acquisition and I will share the loan exposures related to a subcontractor and this is a sector in which our bank has maintained minimal exposure. In fact, loans to any type of contractor or subcontractor are just over 1% of our total loan portfolio. I'll also point out as Aldis said, we've had success in working through other problem loans acquired through Peoples and with better results than our initial credit marks.

And finally, really to put perspective on the overall portfolio, I don't see any systemic issues or negative trends in our loan book. In fact, non-accrual loans, classified loans and criticized loans, all decreased during the third quarter and we've been steadily decreasing our non-performing assets over the last 18 months.

Aldis Birkans -- Chief Financial Officer and Treasurer

And Jeff, I'll jump in. This is Aldis. Again, on the purchase mark that we had -- we have the $9.8 million mark on that portfolio and to Tim's -- sorry, to Rick's point is that while as disappointing this one credit one-off thing is, the rest of the portfolio we've performed much better and accreting that mark in our earnings.

Jeff Rulis -- DA Davidson -- Analyst

Got you. That remaining $25 million non-accrual -- are there some lumpier credits in there? Or is that pretty granular from here, this is one of the kind of movement through the snake [Phonetic] the $25 million left, what's anything more chunkier sizable?

Richard U. Newfield -- Chief Risk Officer

Jeff, no. This is Rick again. Actually, it's very granular at this point to us. So, no, there is nothing of size in a nice sort of distribution across different loan types, again, no particular concentration.

Jeff Rulis -- DA Davidson -- Analyst

Got you. Thanks. And then the -- I guess, any thoughts on expectations. It sounds like you exceeded expectations on the gain on OREO outstripping problem asset workout. How about kind of rolling out for the 2020 or Q4 thoughts on the expectations for the net of those two items?

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Right. Great, great question. We're not at a point where we're ready to provide 2020 guidance, but I think if you look at our track record on recoveries managing OREO, it's nothing less than strong and we expect that content that trend to continue in terms of working through anything we acquire and delivering a strong and economic return as we can.

Jeff Rulis -- DA Davidson -- Analyst

Got you. And Tim, you closed with kind of the capital levels pretty robust. Any way you could kind of gauge on deployment of that and alternatives there as well as, Aldis, I don't know if you've got any initial CECL related guidance or thoughts ahead of next year?

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Aldis, do you want to take the CECL first?

Aldis Birkans -- Chief Financial Officer and Treasurer

Yes. I'll take the CECL first. We haven't disclosed any CECL impact. I am looking to do that with the fourth quarter's earnings call along with the rest of the 2020 outlook. We've been working feverishly behind the scenes on it. It's fair to assume that we do still, as of September 30, had approximately just shy of $400 million of acquired loans that were accounted under purchase accounting that will require some allowance set aside for that, that could be $3 million to $4 million. But other than that, nothing specific.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Is it -- Aldis may kick me here, Jeff, but we're not seeing anything that would represent a surprise...

Jeff Rulis -- DA Davidson -- Analyst

No, I think [Speech Overlap].

G. Timothy Laney -- Chairman, President and Chief Executive Officer

I know you want to wait until fourth quarter, but I think...

Aldis Birkans -- Chief Financial Officer and Treasurer

Yes, our models are coming out very, very consistent to what you'd start seeing some other banks, the bigger banks reporting in terms of -- if you look by asset classes, C&I loans are having a little less maybe allowance needed and I think consumer or mortgage that has a longer life to it is a bit more. So, we're not seeing anything surprising.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Yes. I think we'd benefit here from having a robust, strong short-term C&I loan book.

Aldis Birkans -- Chief Financial Officer and Treasurer

Yes.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

And then to your earlier question on capital, I typically give a bit of a robust answer around the focus on continued increase in our dividend on a semi-annual basis. The importance of optionality as it relates to M&A and again, the belief that having a strong capital base does create that optionality for us. So, I'm going to leave it at that right now, Jeff.

Jeff Rulis -- DA Davidson -- Analyst

And buybacks, is that part of your optionality, not a tool, but that's aggressive, it has been used, but any thoughts on that specifically?

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Yes, I mean, of course, we had the history early on of buying back so many of our shares opportunistically at very low prices with a very short earn back that right now, we actually would not target that unless there was some radical change in the markets as an immediate opportunity.

Jeff Rulis -- DA Davidson -- Analyst

Great. That's it from me. Thanks.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Hey. Thank you, Jeff.

Richard U. Newfield -- Chief Risk Officer

Thanks, Jeff.

Operator

Your next question comes from Gordon McGuire with Stephens, Inc. Your line is open.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Hi. Good morning.

Richard U. Newfield -- Chief Risk Officer

Good morning.

Gordon McGuire -- Stephens, Inc. -- Analyst

Good morning. Maybe just start on the expenses. Aldis, can you clarify whether that $45 million to $46 million was a total expense level for 4Q or was it core?

Aldis Birkans -- Chief Financial Officer and Treasurer

It's total. At this point, we're not expecting any -- the two OREO property sales that would be realized in third quarter have been -- we've been talking about those. For why we're not related by the way, it just happened to hit in one quarter for us. So, at this point. I'm just giving a total expense guidance.

Gordon McGuire -- Stephens, Inc. -- Analyst

Got it. And then, you guys mentioned efficiency opportunities next year. I saw the four branch closures in the release, but is there any way you can size up what the opportunity is? Or what's kind of top of mind when you talk about efficiency opportunities?

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Look, we continue to monitor the activity of our clients, the way they're using our banking centers, the use of digital alternatives, finding that right balance, striking that right balance between appropriate levels of brick and mortar and options is important to us. We've had a track record of consolidating banking centers where it's made sense. In fact, selling some in other situations where it's made sense and that activity should be expected to continue at some levels. We're also moving away in many cases from the typical kind of consume-oriented banking center, identifying targeted locations to serve either small business with our business bankers and we think that's very powerful in the markets where we do business. We've been doing some testing around this and it's yielded really nice results for us. So, we're very big on that move. It does create -- excuse me, efficiencies in and of itself as we make some of those moves and then targeting other centers for serving more affluent clients that do more business with us as well.

So, there is a mix of consolidation activity transitioning to digital, leveraging some centers more as business centers and then others for clients that have -- consumer clients that have, I'll call, what, much more robust relationships with us than something that might be considered transactional.

So, we're pretty optimistic, Gordon, about where we can go in terms of continuing to both drive revenue, while taking expense down to do it as we look to 2020.

Gordon McGuire -- Stephens, Inc. -- Analyst

Okay. So this would provide the opportunity to potentially lower the expense base? Or is this just stemming the growth?

Aldis Birkans -- Chief Financial Officer and Treasurer

Yes, we're not ready yet to provide 2020 guidance, but I think the speed and efficiency of which we execute on this will drive some of that, but -- and directionally, you're right.

Gordon McGuire -- Stephens, Inc. -- Analyst

Got it. And then, just any update on the Utah expansion? How that's going? Whether they're contributing meaning -- pretty meaningfully and what kind of inning you feel like you're at there, as far as the build-out?

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Did you say what kind of inning?

Gordon McGuire -- Stephens, Inc. -- Analyst

Inning.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Yes, I would say, look, clearly, we're just getting started, right, but we continue to really like what we see. It's a very strong team there and it's only going to get stronger. The focus again is middle-market and small business as well as residential banking. It's a thriving market. I just -- I don't want to talk it up too much because I don't want to attract other competitors, but it's a -- my goodness, it is an attractive market.

Aldis Birkans -- Chief Financial Officer and Treasurer

And to answer your question, it is starting to contribute already to the performance. We're still investing, we're still in expansion mode. So, the expense is still larger so to say than the contribution, but the contribution on the loan originations deposit growth, the fee income is already there coming from that market.

Gordon McGuire -- Stephens, Inc. -- Analyst

All right, thank you. I'll step aside.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Thank you, Gordon.

Operator

Your next question comes from Nathan Race with Piper Jaffray. Your line is open.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Good morning, Nathan.

Bob Shone -- Piper Jaffray -- Analyst

Hey. It's Bob Shone on for Nate. How are you guys doing?

G. Timothy Laney -- Chairman, President and Chief Executive Officer

All right. Good morning.

Bob Shone -- Piper Jaffray -- Analyst

Good morning. I wanted to turn to loan growth and maybe can you talk about which markets are doing the best for you right now? And if you're maybe seeing or projecting strength in specific markets over others in fourth quarter in 2020?

G. Timothy Laney -- Chairman, President and Chief Executive Officer

All right. So, we benefit both on a loan growth and deposit growth standpoint from the fact that virtually every one of our core markets are operating better than the national averages on virtually every metric. So, I would say, that's a tide that continues to lift all boats in those markets and our teams work very hard to capture our fair share.

Clearly, when you think about a market like the front range of Colorado, it's a stand out, but I should also even call out some of our specialty groups that operate within our geography, within our markets that are doing quite well while doing a great job of managing risk, managing the risk related to the businesses.

So, I would tell you we're actually seeing solid contribution at this point across all of our markets and remain pretty optimistic, as Aldis said at the front of the call.

Bob Shone -- Piper Jaffray -- Analyst

All right.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

What would you add, Rick? Anything you would add?

Richard U. Newfield -- Chief Risk Officer

Tim, I think you hit it. I mean, we continue to see very diversified in terms of industry type and maintaining low exposures on commercial real estate overall and contributing across what you've described again is very strong markets.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

While our commercial real estate balances still remain at or just below 100% of Tier 1 capital, I will add that with the low rate market and Aldis alluded to this, we have seen the natural refinancing into longer-term debt structure or a fair amount of our commercial real estate debt and we're perfectly fine with that. We feel like as trusted advisors to our clients, helping them find those opportunities to refinance into longer-term, low rates makes all the sense in the world.

At the same time, I think you know we conduct semi-annual stress testing on the total loan portfolio and each year that drives a certain amount of what we describe as pruning activity that I think Aldis also touched on that is just about looking at the exposure of certain relationships that we're not comfortable with based on the latest stress testing and moving to proactively move it out of the bank. So, that's a natural ebb and flow that's been occurring now. We're into our third year and, Rick, you may want to take just a moment and talk about some of the latest results of the stress testing.

Richard U. Newfield -- Chief Risk Officer

Sure, Tim. I'll touch on it briefly. I think I've shared this a couple of times before on these calls, but while we're not required to do stress testing in our asset size, we conduct twice a year of testing, one with our internal teammates and one using a third party that we find to be very conservative and really takes a hard look and we do this bottoms-up.

So, we're looking at hundreds of individual loan files. We're not doing just sort of a -- some kind of quantitative methodology. So, Tim, to your point, it gives us insight into specific opportunities to exit loans that are performing just fine. But as we look at stress scenarios ranging from current sort of base, all the way to a very severe that would be on top of what we experienced or worse than the great recession, we're able to take those actions and to your point, Tim, year-over-year, we've actually seen improvement in loss rates in the overall stress under any of those economic scenarios which is quite encouraging.

So, to answer your question in terms of production, look, we feel good about the contribution of all of our markets. We're obviously somewhat cautious with more and more talk of economic downturn. We're fortunate and that our markets are all performing better than the national averages on virtually every metric and at least our internal testing on our loan portfolio as well as the third-party testing continues to support a strong book.

Bob Shone -- Piper Jaffray -- Analyst

That's awesome color. And if I could just follow up with one more, you talked about the pruning of certain relationships. Would you say, a majority of the paydowns came from that review and taking the opportunity to evaluate the loan portfolio? Or was it more payouts due to radar structure [Phonetic] from competition?

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Yes. On the radar structure from competition, I don't even think of the longer-term perm financers is competition to us. I mean, that's not our -- for us long-term financing is five years. And so, I don't think of it as competition.

I would say in the commercial real estate space, that certainly had its impact in terms of that natural transition. Rick, what would you add?

Richard U. Newfield -- Chief Risk Officer

No, I think to your point, Tim, it's balanced and some of that is natural and doesn't necessarily reflect issues or view of those clients, but certainly, within real estate, we're taking advantage of a very aggressive market, where we see there could be opportunity to prune. We're also doing that on more cyclically vulnerable and that tends to be client by client because our portfolio is so diversified, it's not like a single sector, maybe, that we're focused on.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Right, I mean an example you may want to speak to which most of this activity has been conducted over the last two or three years, but talk about as an example where we're at on our ag exposure.

Richard U. Newfield -- Chief Risk Officer

Yes, that's a great example, Tim, and not one that to your point is reasonable recent phenomena. We started probably over three years ago with not only a specialized team with the right portfolio management and underwriting approach, but also with a view that we've got this long-term pressure on row crop, livestock and other ag producers, and we need to diversify and work our way out of that segment and more downstream into more diversified and better capitalized ag clients which has resulted in really no issues within that ag portfolio.

In fact, over the last year plus, I think, less than $20,000 in total charge-offs, but that would be one example, certainly in real estate, we've remained selective for some time and I think that's just prudent as you pointed out is an ongoing process.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

So, maybe the short answer to your question would be, it's been a real balance between what we would view as natural payoffs or refinancing, and then the kind of pruning activity that Rick has described.

Bob Shone -- Piper Jaffray -- Analyst

Awesome. That's great color, guys. Thanks.

Richard U. Newfield -- Chief Risk Officer

Hey, thank you.

Operator

Your next question comes from Chris McGratty with KBW. Your line is open.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Good morning, Chris.

Kelly Motta -- KBW -- Analyst

Hi, this is actually Kelly Motta on for Chris today. Good morning.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Thank you, Kelly.

Kelly Motta -- KBW -- Analyst

Thanks for taking my question. Maybe just staying on credit for one second, I was hoping you could provide an update on the size of the energy book as well as the reserve level on that?

Richard U. Newfield -- Chief Risk Officer

Sure, Kelly. This is Rick. So, a couple of comments there. I mean, we ended the quarter at roughly $46 million in energy loans. To be clear, we haven't originated a new energy loan at over four years. We've been working that portfolio down over time. In fact, year-to-date, it's down nearly 10% from 12/31/2018.

In terms of the performance, it's very stable. I mean, we've managed that exposure down significantly over the last several years and the clients that we have within that book are performing well. Expect us to continue since we're not originating new to see that trend down further over the next number of quarters.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Any specific reserve commentary on that or?

Richard U. Newfield -- Chief Risk Officer

No, not really, Tim.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

[Speech Overlap] ratings are all, I mean, there's nothing unusual there?

Richard U. Newfield -- Chief Risk Officer

No. All stable. We do have one very small non-accrual loan that we've had for some time. We expect to finally workout, but that's really not any news and the rest of the portfolio is quite stable.

Kelly Motta -- KBW -- Analyst

Great. And then, maybe a question on deposits, I believe, Aldis, in your prepared remarks, you mentioned that you expect the pulp transaction deposit cost to continue to trend lower given just how your deposit base outperformed on the way up. I was hoping you guys could help us figure out a way to think about how deposit beta should perform now that the Fed is cutting?

Aldis Birkans -- Chief Financial Officer and Treasurer

Yes, I don't know if it's going to be symmetrical on the way down, but it was way up, but I can tell you that we have taken a very hard look through starting in June with the first rate cut or July, I should say, and in September, we've been proactive. We've been in touch to the extent that there being exception pricings with the clients. We've been in touch with every single client as they understand the rate environment is changing and I can tell you that if we reported on average basis, 39 basis point transaction deposit cost for the quarter, on a spot basis at the end of September, it was 36 basis points.

So we're already seeing another 3 basis point pickup in run rate heading into this fourth quarter and that's before, if the Fed continues to cutting again, we'll take further actions.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

The thing is that, Kelly, 39 basis point at the end of the quarter on the spot, today 36 basis point. We feel good about the trends, particularly as we continue to grow core operating accounts, non-interest bearing accounts with our small business and mid-sized business clients. That's just a huge, huge success story for us.

Aldis Birkans -- Chief Financial Officer and Treasurer

And I'll add one more thing on just to -- for the time deposits. That's a book obviously that's been locked in and has its time to run off and that cost for time deposits went up 10 basis points if you looked on linked quarter basis. It will continue drifting slightly higher nowhere near to the extent of 10 basis points that we saw in the third quarter, but just the way -- the nature of that book is repricing. It's still expected to drift a little bit higher this quarter and then normalize and start coming down in 2020.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

And again, to be clear there, not -- I mean, we were already -- we had already aggressively priced down our CD rates. This is just a lag of that period where rates have gone up while the lower previous rates were burning off. So, we view that as temporary and it's -- so, we're watching it work through the pipeline as one would expect.

Kelly Motta -- KBW -- Analyst

That's great color. Thank you, guys.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Thank you.

Operator

Your next question comes from Tim O'Brien with Sandler O'Neill and Partners. Your line is open.

Tim O'Brien -- Sandler O'Neill and Partners -- Analyst

Good morning, guys.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Hi, Tim.

Richard U. Newfield -- Chief Risk Officer

Morning.

Tim O'Brien -- Sandler O'Neill and Partners -- Analyst

Couple of odds and ends questions. First, on the -- on NII, were there any interest reversals either tied to the charge-off or perhaps prepay benefit and any one-time items that affected NII this quarter?

Aldis Birkans -- Chief Financial Officer and Treasurer

Nothing material, Tim.

Tim O'Brien -- Sandler O'Neill and Partners -- Analyst

Okay, great. And then, you talked a little bit about the subcontractor. Those loans -- that segment or portfolio being just over 1% of total loans. Is most of that book-of-business -- did most of it come from Peoples?

Richard U. Newfield -- Chief Risk Officer

Tim, hi. Good morning, this is Rick. No, it's -- Peoples certainly had a handful and we only have a handful total at National.

Tim O'Brien -- Sandler O'Neill and Partners -- Analyst

So it's a combination?

Richard U. Newfield -- Chief Risk Officer

Right.

Tim O'Brien -- Sandler O'Neill and Partners -- Analyst

Okay. And then, with regard to the energy book and this is just to follow on Kelly's question, there was a little upturn sequentially in quarterly balances $43 million to $46 million. Is that tied to like an operating line that was being utilized or something because you obviously haven't -- you didn't originate any new loans in the quarter? Is that what that is?

Richard U. Newfield -- Chief Risk Officer

Tim, that's exactly right. We had some drawdowns this quarter. We actually had paydowns on some of those same lines in the previous quarter. So, again some ups and downs, but overall trending down.

Tim O'Brien -- Sandler O'Neill and Partners -- Analyst

And then, one last question with regard to commercial real estate lending and how that fits into your overall strategy and Tim has been -- all of you guys have been pretty clear about that through the years, but with regard to like owner-occupied commercial real estate, when you're chasing a relationship that -- how do you view the market conditions and conduits trying to get -- put on 10-year sub 4% fixed rate loans and stuff for commercial real estate?

How do you balance that with bringing -- serving your clients, I guess, these commercial relationship clients, Tim. What's -- do you want to make those loans? Is there value in making a loan like that and giving on term and -- or extending term a little bit on that? Just to keep the whole relationship or how do you balance that? What's your philosophy, your thoughts there?

G. Timothy Laney -- Chairman, President and Chief Executive Officer

We balance it with a long-term view of saying we're going to be the best trusted advisors we can for our clients and if there is an opportunity in the cycle in the market for our client to access longer term low cost financing, then we're going to work to move within that direction and support them as they make that move.

We, in many respects, define the heart of the relationship as having those core operating accounts, the depository business and then, again, earning that trusted advisor status. So, you're not going to find that we're inclined to stretch out of our policy limits on term or price to make that happen, but we'll work with our clients to help them achieve their goals if that's what's important. And I would turn to Rick to ask, Rick, if you've got any other thoughts on that.

Richard U. Newfield -- Chief Risk Officer

No, I think that's exactly right and I've kind of reacted to the word chase. And again, Tim, as you said, it's earning a relationship based on trust and what's best for the client and ultimately, maintaining a win-win or quality for the bank. And if the best answer is financing elsewhere, then we're going to certainly support that with that long-term view of the client. And Tim, I know we've talked about this in the past and you know this, but a powerful tool we use at our banker level is every banker is looking at the returns they're creating from every client relationship.

And frankly, if you start down that rabbit hole of chasing term and price, they quickly see their direct contribution or their proxy for profitability is actually going to be negatively impacted. So, it's reinforced at the banker level all the way up through the organization and I think that's pretty clear.

Tim O'Brien -- Sandler O'Neill and Partners -- Analyst

Thanks for answering my questions, guys.

Richard U. Newfield -- Chief Risk Officer

You bet, you bet.

Aldis Birkans -- Chief Financial Officer and Treasurer

Thanks, Tim.

Operator

Thank you. And I am showing we have no further questions at this time. I will now turn the call back to Mr. Laney for his closing remarks.

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Thank you, Mariama. I'll simply say -- I know everyone on the line's busy. I'll say thank you for joining and we'll certainly take any follow-up calls should they come later. Have a great day.

Operator

And this concludes today's conference call. If you would like to listen to the telephone replay of this call, it will be available beginning at approximately two hours and will run through November 5th, 2019 by dialing 855-859-2056 or 404-537-3406 and referencing the conference ID of 6784839. The earnings release and an online replay of this call will also be available on the company's website on the Investor Relations page. Thank you very much and have a great day. You may now disconnect.

Duration: 41 minutes

Call participants:

G. Timothy Laney -- Chairman, President and Chief Executive Officer

Aldis Birkans -- Chief Financial Officer and Treasurer

Richard U. Newfield -- Chief Risk Officer

Jeff Rulis -- DA Davidson -- Analyst

Gordon McGuire -- Stephens, Inc. -- Analyst

Bob Shone -- Piper Jaffray -- Analyst

Kelly Motta -- KBW -- Analyst

Tim O'Brien -- Sandler O'Neill and Partners -- Analyst

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