Bank net interest margins took a big hit during the coronavirus pandemic. Net interest margin, or NIM, essentially shows the difference between what banks make on interest-earning assets such as loans and what they pay out on interest-bearing liabilities such as deposits. When the Federal Reserve lowered its benchmark federal funds rate to near zero, that decreased the amount of interest banks made on their loans. There was also very little loan growth in general. Both of these factors have resulted in shrinking NIMs for roughly the last year.
But with the economy reopening and rates having been near zero for a while now, most banks are hoping that NIMs have hit a floor and are preparing to rise. However, it's not a given that it will happen this year, as many banks are still waiting on loan growth in the second half of the year.
One bank that is seeing progress in its NIM, which is a good indicator of profitability, is Citizens Financial Group (CFG 0.70%). The large regional bank, which is based in Rhode Island and has $187 billion in assets, has been on a great run this year, with its stock up roughly 24% at Friday's prices. Now the bank sees its NIM beating prior guidance in 2021.
Deposit costs trending lower
A bank's NIM is really an outcome of what happens with loan yields and deposit costs. If a bank can push the interest cost of its deposits down and increase loan volume or the average yield of its loan book, the NIM expands -- and this is what Citizens expects to see in 2021.
While most banks have already reaped the rewards of lower interest rates on their deposits, Citizens believes it can keep pushing down deposit costs throughout the year. At a recent conference, Citizens CFO John Woods said that interest-bearing deposits are down to roughly 0.20%. But due to the bank's success at bringing in non-interest-bearing deposits, which the bank doesn't pay any interest on, the bank plans to keep paying down higher-cost deposits like certificate of deposits. Woods said that when second-quarter earnings results are released, the bank should have its cost of deposits down in the mid teens, and by the end of the year he thinks the bank can get deposit costs into the low teens or maybe even better.
Another boost to deposits could come from Citizens' recently announced acquisition of 80 branches from HSBC, a deal expected to close in early 2022. From this acquisition, Citizens is getting $9 billion of deposits with an average interest cost of just 0.09%. Woods said the deposits from HSBC will boost the bank's NIM.
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Solid loan growth and improving NIM
On the loan front, Citizens is also sticking to its guidance from earlier this year that it can grow loans in the mid- to high-single-digit percentage range by the end of the year, which is very good compared to guidance from most regional banks I've seen. One main reason for this is that Citizens has built a unique consumer portfolio that includes student loan refinancing, auto and mortgage loans, and a growing point-of-sale business, where borrowers essentially take loans out when they buy products from a store. Additionally, Woods said that for the first time in a number of years, the bank is also seeing increasing balances in its home equity lines of credit (HELOC) business.
Interestingly, Woods also expressed optimism for the bank's commercial lending outlook, which has been muted for the year. Many other lenders are wondering if they will even see commercial loan growth this year. Woods said pipelines are building, while utilization of lines of credit has stabilized and commercial clients are actively talking about spending on inventories and capital expenditures. While I am not sure commercial loan growth at Citizens will actually pan out this year -- it might -- I haven't heard too many bank executives speaking with this kind of confidence.
Ultimately, Citizens has been guiding for a NIM between 2.70% and 2.80% this year, and management told investors and analysts at the very beginning of the year to prepare for a high-single-digit percentage decrease in the full-year NIM. Citizens' NIM sat at 2.75% in the end of the first quarter of the year, and Woods recently said that NIM going forward is expected to surpass 2.80%.
What you want to see
An increase of five or 10 basis points in the NIM may not sound like a lot, but it's exactly what you want to see in an environment where loan growth is not guaranteed and interest rates in general are still quite low. I am particularly excited to see how Citizens can continue to build its consumer portfolio long-term, and even the way Woods spoke about the commercial pipelines is encouraging. All of this bodes well for a bank that has already had a great first half of the year.
