Hilltop Holdings Inc. (HTH) Q2 2018 Earnings Report, Transcript and Summary

Good day and welcome to the Hilltop Holdings' Second Quarter 2018 Conference Call and Webcast. All participants will be in listen-only mode. [Operator Instructions]. After today's presentation, there will be an opportunity to ask questions. [Operator Instructions]. Please note this event is being recorded. I would now like to turn the conference over to Ms. Isabell Novakov. Please go ahead.

Good morning. Joining me on the call are Jeremy Ford, President and co-CEO; Alan White, Vice Chairman and co-CEO; and Will Furr, CFO. Before we get started, please note that certain statements during today's presentation that are not statements of historical facts, including statements concerning such items as our business strategy, acquisitions, future plans and financial condition, are forward-looking statements. These statements are based on management's current expectations concerning future events that, by their nature, are subject to risks and uncertainties. Our actual results, capital and financial conditions may differ materially from these statements due to a variety of factors, including the precautionary statements referenced in our discussion today and those included in our most recent annual report and quarterly report filed with the SEC. Except to the extent required by law, we expressly disclaim any obligation to update earlier statements as a result of new information. Additionally, this presentation includes certain non-GAAP measures, including taxable equivalent net interest margin, pre-purchase accounting taxable equivalent net interest margin, tangible common equity and tangible book value per share. The reconciliation of these measures to the nearest GAAP measure may be found in the appendix to this presentation, which is posted on our website at ir.hilltop-holdings.com. And now, I would like to hand the presentation over to Jeremy Ford.

Thank you, Isabell and good morning. For the second quarter 2018, we reported net income of $33.1 million or $0.35 per diluted share. While our mortgage and broker-dealer businesses continued to experience market pressures, our cornerstone banking franchise delivered consistent growth and strong earnings for the organization. During the quarter, core held-for-investment loans grew by 3% and noninterest-bearing deposits grew by 10% over the same prior -- period prior year. Mortgage origination volume was up 1% compared to prior year and picked up 4 basis points of market share, as the industry continues to move to a purchase environment with lower refinancing. Our Retail, Clearing and Securities Lending businesses continued to benefit from short-term rate increases with year-over-year revenue growth of 5%. Non-interest expense decreased $28 million or 8% versus Q2 2017, driven by seasonally lower losses in the insurance business and reduction and reduced compensation expense from lower revenues in the securities business. Additionally, PlainsCapital Bank was a victim of a wire fraud, which adversely impacted quarterly earnings by $4.3 million. We continue to look for opportunities to optimize capital for our shareholders. And through the first six months of the year, we have returned $52 million in dividends and share repurchases to our stockholders. Our Board of Directors approved an additional $50 million of share repurchases through January of 2019, and also declared a quarterly cash dividend of $0.07 per common share payable on August 31, 2018. Regarding M&A, our Bank of River Oaks acquisition remains on track to close this quarter after receiving shareholder and regulatory approval. Meanwhile, our tangible book value per share has grown by 4% from the prior year. We view risk management as fundamental for the organization and are extremely proud of our asset quality and credit management operations. Year-to-date, net charge-offs are only $198,000. The insurance business recorded a loss and LAE ratio of 71.6% for the second quarter down from 92% during the prior year. Moving to slide 4, overall, pretax income for the second quarter declined by $43.2 million compared to prior year; however, two significant non-recurring items in 2017 drove the majority of the decline, which were: an insurance receivable of $15 million reported at the bank; and the favorable resolution of the SWS appraisal rights proceedings of $11.6 million reported at corporate. Purchase accounting also contributed significantly to the year-over-year decline, which Will is going to address when he covers the financials. Our core banking business continues to generate organic growth in a very competitive market. Real estate lending supported 2% linked-quarter non-covered loan growth and non-performing non-covered loans dipped to 50 basis points of total non-covered loans as credit quality remains down. As noted earlier, we continue to increase market share in the mortgage business in spite of increased competition and lower overall industry volume. Our loan originations and servicing fees have increased, while our operating expenses have decreased compared to prior year, which has served to partially offset the pressure in secondary market spreads. HilltopSecurities' pretax income declined $7.6 million compared to the prior year, largely from lower revenue and its structured finance, public finance and capital markets businesses, offset by growth in its businesses that benefited from higher short-term rates. Due to mild weather in the State of Texas during the second quarter, the loss and LAE ratio of National Lloyds was significantly below the historical four year average. Note, the third quarter can be an active weather period for National Lloyds program, which may create volatility. So overall, I feel very positive about the strength and long-term prospects of Hilltop, and the ability of our quality professionals to address current market challenges and continue to grow the organization. We will continue to exercise prudent capital management to support the organic growth of our businesses, return capital to our shareholders and make opportunistic transactions, as evidenced by the impending close of the desirable Bank of River Oaks transaction. I will now turn the presentation over to Will to talk through the financials.

Thank you, Jeremy. I'll start on Page 5. Hilltop's net income for the second quarter equated to $33.1 million, a decrease from the second quarter of 2017 of $29.4 million. The second quarter of 2018 results include $4.3 million of pretax expenses related to a wire fraud incidence. Currently, we expect we will recover a significant portion of this loss from insurance proceeds during the second half of this year. Net interest income in the second quarter equated to $105 million and includes $8.3 million of purchased loan accretion, which declined by approximately $15 million versus the second quarter of 2017. As Jeremy noted, the second quarter of 2017 included approximately $27 million of significant non-recurring items, both of which were recorded in noninterest income. Provision expense for the quarter was approximately $300,000. Provision expense in the quarter reflects ongoing improvement across the portfolio, but in particular clients in the oil and gas business are experiencing improving operating results resulting from higher oil prices. During the second quarter of 2018, the net impact of purchase accounting items contributed $4.3 million. While the contribution has declined as expected versus prior year results, we do expect that purchase accounting benefits will range between $4 million and $6 million per quarter for the remainder of 2018. This outlook and any additional guidance excludes the impacts of The Bank of River Oaks acquisition. Hilltop's capital position remain strong with a period-end Common Equity Tier 1 ratio of 17.61% and a Tier 1 leverage ratio of 12.9%. Of note, during the second quarter, we repurchased approximately 1.6 million shares for $37 million through our open market repurchasing program. We do expect to continue to repurchase shares during the third quarter, notwithstanding any significant market shifts. Moving to Page 6, net interest margin equated to 3.46% in the second quarter of 2018, including 29 basis points of purchase accounting accretion. The pre-purchase accounting taxable equivalent net interest margin equated to 3.18%. Net interest margin remained relatively stable during the second quarter as non-covered HFI loan yields improved by 3 basis points, somewhat offset by higher deposit cost. While we remain extremely focused on managing deposit costs, we have seen deposit betas continue to move higher as expected as we've gotten incremental rate movements from the Federal Reserve. Further, the flattening yield curve has increased pressure on NIM and net interest income as short-term borrowing cost rise and longer-term asset yields remain relatively stable. Related to deposit cost from December of 2015, our total deposit beta is approximately 26%, while over the last 12 months, our total deposit beta is approximately 34%. These continue to compare favorably to our through-the-cycle model beta levels of 50% to 60%. The market continues to get more competitive as rates move higher, and we expect the total deposit betas will increase towards our through-the-cycle levels over time. Further, as absolute rates in the market have risen and cash rates have moved up above 2%, we have seen more activity from clients pursuing both CD products and higher-yielding money market accounts, resulting in some mix shift across the portfolio. While this shift in deposit mix is expected as the market moves higher through this cycle, we remain focused on growing core deposits and managing our overall funding cost aggressively. Given the factors noted previously, we are maintaining our current pre-purchase accounting, taxable equivalent net interest margin outlook at 3.2% plus or minus 3 basis points. We will continue to revisit our assumptions based on the outcome of the future Federal Reserve rate movements and their impacts on our portfolios. Over the past year, earnings assets -- average earning assets have increased by approximately $400 million, driven by non-covered HFI bank loan growth of $266 million and growth in Hilltop's low-risk, high-liquid securities portfolios of $225 million, principally related to growth in mortgage-backed securities at both PlainsCapital Bank and HilltopSecurities. Moving to Page 7, total non-interest income for the second quarter of 2018 equated to $279 million. Second quarter mortgage-related income and fees declined by $18 million versus the second quarter of 2017. While mortgage origination volumes remained stable versus the second quarter of 2017 levels, revenues declined as a result of a 45 basis point decline in secondary spreads versus the prior year, driven by tighter market pricing and ongoing competitive pressures. We view the current economic backdrop as relatively strong and relatively strong purchase market as constructive for volumes in the short and intermediate terms. However, aggressive price competition coupled with tight housing inventories did result in additional pressure on gain on sale margins throughout the second quarter. Given the current market conditions, we expect the gain on sale margins could remain pressured throughout the remainder of 2018. Securities-related fees decreased versus the prior year by $3 million, primarily driven by lower public finance offering volumes. Other income declined by $42.4 million, driven by two significant one-time items, including the final settlement of the SWS appraisal rights matter and the recognition of a $15 million insurance related -- receivable related to a 2016 fraud. Further, other non-interest incomes did decline on lower production volumes and tighter market spreads in the structured finance business as volumes declined versus 2017 by 26% during the quarter. Turning to Page 8, non-interest expenses improved from the second quarter of 2017 by $28 million or approximately 8% to $338 million. $9 million of the improvement came from lower loss and LAE expenses in the insurance business as storm frequency and severity were seasonally low during the second quarter. Compensation expenses were lower by $14 million during the period related to lower production revenues driving the lower commissions and discretionary incentives. Of note, mortgage origination-related variable compensation expenses are generally in line with the production volumes and therefore, they have remained elevated, given the stability in overall origination volume. Further, this quarter included approximately $2.7 million in costs related to ongoing core system replacements and enhancements, $2 million related to FDIC indemnification and clawback-related expenses, and $4.3 million related to the aforementioned wire fraud incident. Turning to Page 9, total loans including margin loans of HilltopSecurities and covered loans held within the bank, grew by approximately $220 million or 3.5% versus the second quarter of 2017. Throughout 2018, we've experienced a high level of pay downs as our clients finalized projects or refinanced them to term. However, we did see strong loan closings late in the second quarter, which provided improved linked-quarter loan growth. As a result of the strong close to the quarter and the strong pipeline, we are maintaining a full year outlook of 6% to 8% total loan growth. Moving to Page 10, total deposits are approximately $7.8 billion and have increased by $239 million or 3.2% versus the second quarter of 2017. Further, non-interest bearing deposits have increased by $216 million or approximately 10% versus the prior year. The decline in deposits on a linked-quarter basis reflects normal seasonal trends that includes tax-related payments and declining balances in municipalities. Non-interest bearing deposits represent 32% of total deposits which has improved over time, reflecting our continued focus on growing and expanding customer relationships across our banking franchise. Since the second quarter of 2017, we have allowed to mature or return approximately $270 million of brokered CDs and brokered money market deposits. These reductions reflect our ongoing focus on growing high-value client deposits and improving our funding mix over time. Deposit costs have continued to increase modestly with short-term interest rates, and we remain active in the market testing rates and terms to ensure we remain competitive while being very intentional in not leading the market in terms of higher rates. I'll now turn it to Alan to provide more insights on the businesses' performance.

Okay. Thank you, Will. Let me start out with the bank. We had a very solid performance from the bank in the second quarter and earned about 77% of the income, which is a strong number. The bank continues to maintain an outstanding credit quality and that's primarily due to our underwriting standards and our patience in not chasing loans and making bad decisions. Our growth was about 3% for the quarter. We do, as Will says, still anticipate a 6% to 8% growth level for the year. In the main place, we're able to attract these loans and get these loans are through relationships that we've had. We've added several in the second quarter. They are real estate loans, and it will take a while to fund these up, but they have substantial value to us and will add certainly to that growth level, but they are with people that we have done business and known for quite a while. So we're very pleased with that, and we will continue to stay steadfast in our underwriting guidelines and doing what we're doing. About 80% of our loans today that we fund or look at are real estate loans, which is a little awkward and uneasy because at some point when it stops, those are the ones you're concerned about. But we remain in a very vibrant market in the Texas region; Dallas-Fort Worth, obviously, being our strongest market for loans; Austin coming in behind it -- at level behind it, and we're excited about The Bank of River Oaks closing on August 1. It will add an additional $350 million in loans to our portfolio, but it will also provide us the opportunity to be able to attract new business and new opportunities in the Houston market, which should help certainly with our loan growth. And it will soon become probably the third best market that we have once we get up and going here very shortly. Our deposit growth remains strong, as I mentioned, and we've been able to manage our deposit costs and keep it in line with what we need to do. Our net interest margin actually for the quarter increased 5 basis points from 3.65% in the first quarter to 3.70%, so we're pleased with that as we continue to watch the Fed and as they make their moves going forward. We unfortunately did have a fraud issue with a wire fraud in the second quarter. Total was about $4.3 million, $300,000 of that was probably expense dealing with it, but we do anticipate receiving a recovery -- an insurance recovery on that in the third quarter that will help mitigate most of that loss. We will have to pay about $250,000 deductible, but it will help mitigate that. We're operating 63 branches today, and on August 1 we'll have 66 branches, and that gives us 5 in Houston right in the prime area of where we want to be, and I think that's going to add certainly to other opportunities in growth as we go forward. So the bank is performing well. The loan portfolio is strong. We haven't had to reserve anything for the last 6 quarters and that's pretty remarkable and pretty good. And I credit our loan team and our underwriting standards to that. And I feel like we're positioned very well as we head into the future, whatever it might hold. Switching to PrimeLending, which is our mortgage operation. It struggles like the mortgage business is struggling in the United States. Our income before tax was off from 2017 to $13.4 million. The strange thing about this is our origination volume is actually more than it was year-over-year. So we continue to originate a strong volume, and you got to understand the originations are mostly purchase money loans. There is very little refinancing and we're running 88% on purchase loans, and actually in June, it was 90%. So we're getting our share of the market. Actually, our market share has increased to 0.92% of the overall market. We're 1% over we were a year ago. And actually the NBA has come out and said that the market's down 6%. So you can see, we're outperforming the market, and in our volumes, we're driving the volumes. The problem, no surprise, is that the competition is very difficult out there as everybody tries to survive. There's a lot of consolidation going on and lot of cutting of costs -- I mean, cutting of pricing and struggling to try to get these loans. So it has really cut into our gain on sale, which is about half of what we were hoping that we would have and that has affected our income somewhat. We are diligently looking at ways to try to improve that. We're looking at cost measures. We're looking at ways to increase fees and do the things that you'd be doing prudently in a time like this. We have a very talented team, a very experienced and knowledgeable team. And I will assure you that we're working hard at this every day and coming up with new ways to try to improve, improve that gain on sale. As Will says, I don't know if we can expect a significant improvement before year-end, but we certainly are working on it. From a posse standpoint in the mortgage company, we have hired 41 new loan officers, and we've opened up 16 new branches. Now that's an opportunistic situation because we are able to take this consolidation that's going on in the industry and being able to cherry-pick the ones that we want, and the loan officers we want in the regions we want and to be able to enhance our franchise, especially in the purchase business. To me, it's interesting that one of our stronger market today is in the Northeast, and there's a lot going on there for us, and we continue to gain our market share in that part of the country. So we continue to recruit hard. We continue to be able to attract outstanding people to our organization and that's just going to pay dividends to us. I think this company is positioned well, doing all the right things, and I am proud of the people and the professionalism that we have in this company and how they're reacting to the downturn, I guess, as far as gain on sale, we're doing great on production. We go to HilltopSecurities. We did not have a good quarter. Couple of reasons is, one, our public finance volume is off 22%. Now the industry is down 11%, but we're off 22%, but one of the reasons is we lost a big chunk of our people in Houston. They went out on their own. The utility financed people, they went out on their own, so that's one of the reason we are down as much as we are and it hurt our revenue in the public finance area. We're recruiting, cutting costs and doing the things that we necessarily need to do in that area to be able to gain that back or to reduce our cost in that area. And the structured finance area, which, again, is tied back to the real estate business is soft and it is soft the same reason the mortgage business is. The gain on sales have been down and volumes have been down, but we're seeing that come back. It's a little different type of business in the mortgage business, but we're seeing that come back, and hopefully, we're going to see some improvement there. Other areas like clearing, securities lending, retail, they're all doing okay. We just need everybody to do a little bit better. So we're hoping that over a period of time here that we can get this thing back and get a better pretax margin on it. I will say that HilltopSecurities with their sweep accounts is providing a $1.3 billion in funds to the bank. Those are core deposits to the bank. So that is really a significant contribution to the bank and to the liquidity of the organization and that's certainly a real plus for us in our 3-legged stool. As far as National Lloyds is concerned, thank God for Mother Nature, we had a good quarter with no weather. If you look at it a year ago, it rained and it rained and Harvey was here, and we took a substantial loss from Harvey. We had nothing like that in the second quarter. We did show a small loss, but we were relieved. As Jeremy says, you never know what weather might provide, and we never know what third quarter will provide, but we'll keep our fingers crossed here, but we had a substantially better quarter than we anticipated and we hope that, that will continue. So that is my report and I don't know, who else I have to turn it over to. Isabell Novakov.

This concludes our prepared remarks. We will now take questions.

Thank you. [Operator Instructions]. Our first question today will come from Michael Young of SunTrust. Please go ahead.

Hey, good morning. Wanted to start with the broker-dealer, I appreciate all the color you've provided there, Alan, but just I think still the biggest delta is the securities trading business or that public finance piece. Could you just walk through -- I mean, were there any interest rate-driven impacts there this quarter? And then what's kind of going to be the driver of future volume there? Is it picking up additional clients, is it market-driven forces? Any additional outlook you could provide there would be helpful?

Sure. Michael, so you mentioned the structured finance and then, I think, you dovetailed a little bit on the public finance. But for the structured finance business, we had a decline of 26% in volume and that hurt us. And I think that what we saw in the quarter was a decline in volume from $1.8 billion down to $1.3 billion. And we're also seeing competition that's having an effect on fees that we can charge and the rising rate environment is affecting our pay-ups and the margin that we're getting -- the spreads that we're getting in carrying it.

And so I mean, do you see anything changing there? Or do you think this is kind of a better run rate moving forward?

I would have to say that it rebounded somewhat from the first quarter. I think given the environment, I think it's going to probably improve modestly from what it did this past quarter. And I would just say for the broker-dealer, as a whole, I think that we've got pressure in the public finance business and the structured finance business, particularly offset by kind of steady improvement in our rate -- short-term rate-driven businesses. So I think that my view is that the net revenue for the year is probably coming in about $350 million, and we'll have kind of a high single-digit pretax margin.

High single-digit, okay. So not enough cost reduction opportunity to kind of offset the revenue?

No. I mean a lot of that's variable and a lot of the cost reduction we've had there is a variable related to compensation.

Okay. And then just really quickly on the other side on gain on sale. I think you kind of covered it pretty well, but is that -- there's normally a little bit of a bell curve throughout the year sort of in gain on sale margin. Is it more just assuming kind of flat from here, or is there additional compression you think to come just based on what you're seeing thus far?

Well, traditionally, when you've seen this happen and it was kind of a kick for 90 days and everybody disappear and maybe come back, but it hadn't come back, and we still see people out there fighting and -- for business and it kept those margins down. I don't know if they're going to come back or when they're going to come back or when the cycle is going to get through. I don't know if we're going to see it continue to be down. We're going to continue to see pressure on it. And I clearly can't tell you if it's going to be up, but I know we're working on all different aspects of what we're trying to do. And I think, eventually, there's some good is going to happen, but for right now, I think we're kind of looking at what we got and trying to manage our cost and trying to manage our -- the way we do things. You got to look at profitability in these branches, and we're doing that. You got to look at profitability, loan officers, you know, you can have a loan officer out there that's doing a lot of volume but you're not making any money off of them. And you got to evaluate all these things, and we're doing all that. And those kind of things will affect the gain on sale. But the question that we have is, how long is the -- these people are going to stay alive? And the last time what happened, Michael, was people just went out of business. I mean, they just went out -- now what they're doing is they're consolidating. And so they're being able to stay in business longer, but they couldn't be making much money. We have a -- we really have a good company, whether any of you all will believe this or not, we really have a great company. It has been a great company for a long time and it is well run, and we're making money. We're just not making the money we want to. And I don't know how a company out there that doesn't have the expertise how they're even able to stay alive with the way the environment is today.

Okay, thanks. I will step back for now.

Our next question will come from Brady Gailey of KBW. Please go ahead.

Hey, good morning guys. So Will, you talked about the guidance for accretable yield being in that $4 million to $6 million per quarter range. I mean, that's a decent step down from what we've seen in the first half of the year at closer to $9 million a quarter. I mean, I know your accretion will naturally fall off for you all from here, but I don't know it seems like a pretty aggressive step down. I was just wondering what was driving that lower level of accretable yield?

Yes, I think I would maybe clean that up then. The guidance of $4 million to $6 million is the pretax contribution, which would -- which includes certain costs related to indemnification, FDIC indemnification and clawback. The actual accretable yield just on the accretion side, we would say is $6 million to $8 million per quarter on a scheduled basis. So the $4 million to $6 million, though, was a pretax contribution, which we try to call it in the presentation over the last couple of quarters.

Okay, got it. Then The Bank of River Oaks, you will close out, I guess, here next week. Maybe just talk about how that deal has been going? Has any of your assumptions changed from when you first announced it? And then talk about the opportunity that -- I mean now that you have this platform in Houston, will you look to be pretty aggressive on the hiring front, hiring some Houston-based lenders?

Yes, I'll have -- Alan can talk to the hiring. But first just on kind of -- from the transaction, we're excited to close it and everything has been going really well between signing and now and -- as far as working together and the integration plans and whatnot. And also the bank, the bank has performed well for the first 6 months. It's exceeded our expectations. It's made $3.3 million of net income with about 1.5% ROA. And they've really had a test where quality deposits, they've really had virtually very little deposit beta. So I guess when we went back and announced, it's still going to be 3% tangible book value dilutive. Overall, I would keep to the same assumptions that we listed when we announced, but I would say that it's traveling modestly higher. So there's opportunity hopefully there. Alan, on the hiring?

Yes, Brady. This bank is right in a kind of core where we want to be, and that's right in the River Oaks Tanglewood area, the [indiscernible] area, so the three banks that we're getting to are right there. They're perfect for where we are set up to be. These guys come with about 30 years of experience each. They know the market. They know the people. They know the bankers, and as you know as well as I do, there's a lot of transition going on in Houston with the bankers. And there's lots of opportunity there to possibly hire some bankers. There's opportunity there to open some new branches, and there's certainly an opportunity there to create business with the existing bank. With our loan limit and stuff, we're going to be able to expand their customers and their relationships immediately because we're going to offer a lot more to their customers. And because of their experience and knowledge of the market and being in the market is going to give us an opportunity to go after businesses that we're not as familiar with as they are. And because their knowledge of the market, they're going to be able to go after lenders and people that we do not have a contact. So we're excited, they're excited. We're glad to get this going. And I am expecting good things out of it. And I think that we'll be very pleased. So it's a quality organization, a quality franchise with a quality portfolio and it fits us just right.

Alright, then my final question. It was great to see you guys more active on the buyback front this quarter. And it's good to see the additional $50 million, which I'm guessing with the stock trading at 1.3x tangible could be cleaned up here in fairly short order. Maybe just talk about your appetite to buy the stock back beyond just what's left in the buyback?

Well, I think that first, we make note that we bought about $40 million year-to-date, and then we had a pretty active second quarter, which came close to deflating our authorization. So we've got an additional authorization. We're going to be prudent about it, but I think that we'll look to use that authorization in open market. And I think if we see a pullback, and we kind of know our company and what we think the intrinsic value is, we'll stand ready to consider something bigger or more opportunistic.

Right, great, thanks guys.

The next question will come from Matt Olney of Stephens. Please go ahead.

Thanks and good morning.

Good morning Matt.

I want to stick with capital discussion. And Jeremy, when I look at this -- the new authorization, and if I assume current dividend levels hold, I think it implies about 75% give or take if your income will be returned to shareholders through daily repurchase. Is that 75% the right way to think about this in the near-term?

Yes, I think in the near-term -- I would say in the near-term that's kind of probably right. I mean, I think longer-term kind of our capital strategy is to, one, use of our earnings generation and excess capital for organic growth and that will largely be dictated by our loan growth. And then we want to have shareholder return of some 30% to 40% and the balance to be retained for M&A. And the way we're seeing the environment today, I think more of that would tilt to the share repurchases.

And to clarify that statement Jeremy is there a scenario where the total cap return could be over 100%.

Well, of the earnings? Not in perpetuity. No. And I think what we have right now is over $500 million of excess capital. We're going to deploy about $100 million of that with The Bank of River Oaks transaction. And we want to maintain somewhere around $500 million excess capital over the long term to be able to be opportunistic. Given any period, but evaluating the market, as we do on a daily basis, we may be more active in shareholder return in a certain period than another. Does that make sense?

Yes, yes, I think so. And then going back to mortgage, Alan, you gave us some good data points on the gain on sale margin. But just setting that aside and looking at volumes, Prime has a national presence. Are there any good data points you can share with us by geography? It sounds like the Northeast is going very well, anything offsetting this in your footprint?

Well, you know, surprisingly -- of course Texas has always been our foothold. And then as we expand in California became pretty strong. Texas continues to be 20% of our market, California is probably #2. But the Northeast is doing well. Inventory is a problem. One of the things that we do, we do renovation loans, and where that really comes into play is when there isn't enough inventory out there and somebody wants to buy a house, can't get it, instead what they do is they renovate their existing house. So we got large volume of that business going on, a large volume of that business going on is in the Northeast because of the lack of inventory. Now take that aside, Texas, Dallas, has always been the #1 branch in the company. Kansas City, now, is the #1 branch in the company. We're just really doing a great job in that Kansas City market. California in the Northwest is strong. So we've got it spread pretty good here. And it looks -- the buy-ins look pretty strong. I don't know if they're going to stay up to where they have been. It's going to depend on the market. Interest rates to me really have not affected anything. It's been more of the competition side of this thing and anything that's really affected that gain on sale of people staying alive. And I said earlier to somebody, the difference between now and a couple of years ago, those people were just getting out of the business. Today, there's consolidation going on and people who are acquiring these companies are staying alive. And staying alive, that means that the competition on the rate for the loan or the -- is staying alive. So they're not going away as fast as we think. But again, I just can't -- I just know how well run our company is and how hard they work at this. And they're making money, but I just don't know how all these other places are making money and staying alive. If I were -- and we are in the warehouse business in the bank. We do it, but, boy, I'd sure be looking at some of these mortgage companies because we do. We look at really close on this, as warehouse lending, we do. And we've asked a couple of them to leave because they're not doing any good. And I'd be concerned about a lot of these mortgage companies and these warehouse lines that they've got. I would just be cautious and that's kind of my take, Matt, but that's more….

No. Those are interesting data points, I appreciate that. And going back to the gain on sale margins, Alan, when you look at, call it the June month or July so far, are you seeing any indication of stabilization of those margins? Or are you seeing the margins consolidate [ph]?

I would tell you this. Between May and June, June -- I mean, May dropped down, but it bounced back in June. It bounced back up in June. I mean, it didn't bounce back up to where we wanted to be, but it bounced back up. And I think it's stable right now. But I would not anticipate any big push or anyway, I think it wouldn't stay pretty flat. We have got to get through this year and weather through these things. I think if we get anything that's going to come in, we're going to have to create it. We're going to have to figure out how to do the loan more efficiently. We're going to have got to figure out how to manage our costs and cut our costs in certain areas and not giving it away as much. And we're putting in a new operating system that's going to help us significantly in managing and controlling these things. And so we're doing all the right things. We're pushing all the right buttons. Trust me, the people out are -- we've got 8 regions, those people out there are all over it. I've been to a couple of meetings with Todd and Steve Thompson. And I mean, they're just thinking way ahead of what I was thinking, and I'm very impressed, and looking at fees. They're looking at ways they can drive more revenue to bottom line. And these are people that run a big sales organization. So to me, that's the way it is. I'm impressed.

Okay, that's all for me. Thank you guys.

Our next question comes from Brett Rabatin of Piper Jaffray. Please go ahead.

Hey, good morning. I wanted to maybe go a little further on the on the mortgage side and you talked a lot about the gain on sale margins and you also talk about cutting some cost and doing some other things to try and aid the profitability of that segment, can you give us maybe just some color on 2Q is typically your strongest mortgage quarter. If we're just thinking about the back half of the year and the gain on sale margins let's just say we are flat…?

I would go back a little bit. We've answered the gain on sale margin twice now. And I wouldn't expect anything. I mean, if we can keep it flat, we'll be happy. So I'm not going to look at gain on sale. As far as cutting cost and stuff, yes, we are looking at things. We're looking at branches that are not as profitable. We got some satellite branches that we probably can eliminate. We've got some consolidation of branches that we can probably make. We got some marketing expense that we probably can control better. We got some fees that we can charge and do a better job of collecting. We've got loan officers that we got to look at. The profitability. So there's a lots of different aspects that you can look at that we are looking at on an ongoing basis as we speak. So those are all things that could help our bottom line from the standpoint of better profitability. And those are the things we're trying to do, in the same token, try to keep our volume up. I don't think the volume levels are going to stay where they are. MBA came out and said that the purchase loan is going to be down $6 billion. Well, that affects everybody. I know there's a 4% GDP today, that's good news. So there is lot of things playing in here. But we're working a lot of different angles and it's a big business, and we have a big company, but we're all over it and we're on top of the game. So I feel like we're positioned well.

Okay, that is what I was trying to get to Alan, just thinking about some of those things, I mean can the profitability of that segment is just the potential magnitude of profitability improvement in that and that…?

One basis point, I think, amounts to like $14 million. If you could change things 1 basis point. Now that is -- that sounds hard to believe, but it's hard to change it 1 basis point. So we're working on a lot of different things in a lot of different ways. And there's a lot of different angles to this. And we've got 1,300 loan officers, and so you're having to communicate, educate and do all those things. And you got loan officers that produce big volume, but maybe the profitability isn't very good either. So in the end, you've got to look at that. So we're doing all the things we need to be doing.

Okay and it was good to see the loan growth this quarter and you talked about doing real estate, I want to make sure I understood, is that more on the construction side or are you doing more commercial real estate income?

Well, most of it's construction that I'm talking about, the larger projects, the customer relationships that we have that are doing things. Those kind of deals, it takes a while to fund them up, but these are pretty big size deals that we feel very comfortable with and we have done business with before. And they amount to couple hundred million dollars. So you add those with the existing ones that are going to be funded up and that's why we think we can probably get to that 6% to 8% loan growth number for the year. We are not going to change our underwriting standards. However, we're seeing people chase things. We're seeing people give on structure and rate and things like that, which we will not do. But we're making good solid loans to good solid relationships we've had and people that we've done business with for a long time. And to me, that's the nature of the game. You pick up a new 1 or 2 every time and you keep adding that to your portfolio and you're going to be fine. We don't have any soft spots in our loan portfolio. I mean, we were worried when we had Hurricane Harvey and really nothing came of that. Everything worked out on that. So I think we're on top of it. We haven't had any kind of a major loss other than the fraud deal we had about 2 years ago, and we got part of that back and still working on it. So I feel real good about our people. I feel real good about the discipline in what we're doing and the patience. I know some people think that we don't have any loan growth, and we're not doing it in a vibrant economy, but I also see people that are doing things I wouldn't do, too.

Yeah, okay and then maybe just one last one, I want to make sure I understood the margin guidance is the same 3.20 plus or minus I think three basis points but you also mentioned some increased pressure on funding costs and maybe some higher betas on the deposit side, is the margin being stable maybe you can just kind of walk through like the margins being stable but it sounds like you are having some higher pressure on your funding base?

Yes, so this is Will. I think on the NIM, as we look at it, we have seen, obviously, the flatter yield curve, it's -- it gotten flatter sooner than we would have otherwise expected it to. That -- whether it'd be short-term borrowings, certainly deposit costs that has put pressure there. So those rates have risen certainly faster than our asset yields have. And so we are kind of now projecting that, that flatter yield curve persist into the future based on kind of the current environment and as such that's what's yielding the pressure on. On the deposit side, again, I'd say -- as we've stated a number of quarters, we are judicious and really thoughtful and, to some extent, defensive about how we kind of move rates. In terms of deposit rates and pricing, we do have a few kind of introductory specials in the market on the deposit side. But in most cases, it's our objective, given our overall strong liquidity profile that we are again defending strong relationships with pricing actions versus being aggressive and being on the front end. The mix shift that I mentioned in my comments, you do have clients that are seeing kind of 2% cash rate and they're calling and asking, can they move from one product to another product, and that's just -- that's normal as we go through the cycle and we expected a lot of that. So the real difference, if you will, is the flatter yield curve and our expectation that it's flat or longer.

Okay, great, appreciate all the color.

Our next question will come from Michael Rose of Raymond James. Please go ahead.

Hey, good morning guys, how are you?

Hi, Michael how are you?

I'm doing great, thanks for asking. Most of my questions have been answered but maybe for Jeremy, just wanted to get an updated thoughts on the insurance business. I know you had made some changes about two years ago or so, a new President and some pricing changes and where do you stand there and how you think about it in the context of the broader organization? Thanks.

Sure. Well, what we've done, I guess, where we're at on that is, we have relocated the company to Dallas from Waco, which is a couple hours away. So it's good that we're all here. And the company is operating. We did hire a CEO in 2004 and he departed, and it was announced in the first quarter of this year, I think. And we have a lot of capable department heads. And we have Darren Parmenter, who before served as the interim CEO -- he is serving as the interim CEO right now. And things are just kind of on track as we've kind of moved the company up here and trying to focus on getting the revenues. The top line has been soft. It's been competitive. We're being -- trying to be very selective with our exposures. And we've had a favorable weather so far this year. So it's kind of where the company is. Strategically, I think it's just that. We continue to -- now that it's here in Dallas and part of the other Hilltop companies, we're trying to just improve upon it. And we are in the process of taking a $46 million dividend out of it that we are seeking approval to do so.

That's very helpful. And maybe just one for Alan. Can you talk about the commercial loan pipeline and kind of where that stands? And if you're seeing any sort of improvement there based on the optimism from customers that we're hearing about, you mentioned a 4% GDP growth today. Just any sense for kind of where the pipeline stands? And if you expect utilization rates to essentially go up? And then maybe if you can address what the paydowns would look like more recently? Thanks.

Yes, we had some pretty good pay downs first of the year. The real estate loans matured, and people moved them into permanents. We replaced a lot of that and those are some of those big relationships that I'm talking about. We've got a construction pipeline out there, about $800 million that we'll fund up over a period of time. But you know as well as I do, they got to put their money down first before we're going to fund it. So that takes a little bit of time. Our unfunded commitment is still around $2 billion, that doesn't change, give or take much. It's -- the game is all real estate. We do have one pretty good size C&I loan that we're going to be making this month, that will be nice to have. But you continue to get out there and chip and hammer on these things. It's really competitive because, I mean, these guys -- they want some -- they'll change their loan standards, they'll change whatever to get it. And we're just not going to do that. We're going to have to work really hard to get 6% to 8% this year. That's just the way it is. But we've been able to do it with relationships and so we'll just keep working on those. And these are people that do things and have done things and are successful. And it's one at a time. It's not like going out and running an ad and hoping you're going to get something. It's going out one at a time and knocking on door and bring it in. And it's -- we try to stay in Texas. And obviously, Dallas is a pretty strong market, Fort Worth is a good market. Lubbock, for what Lubbock is and where we've come from, has always been a pretty good market for us. And Austin has been a good one. But this Houston market, I'm going to be intrigued by it because of where we are and because of the people we're getting and the opportunity, I'm thinking there's going to be some good opportunity down there. $70 oil, certainly isn't going to hurt anything. It took a while to get there. You all kind of kind of miss that deal. I was betting a bunch of money because you said it's going to go up to $70 2 years ago. So it didn't get there, but it's there now, and that's helping that economy down there. And that's a big old place. And so I think there's going to be some good opportunity there for us there. So I'm optimistic about that. So we're working hard every day. We got like 156 loan officers, and we're out there calling on people and knocking on doors, and unfortunately, most of it's real estate, which has got to concern you at some point. It just can't keep going, but it has so far.

That's great color. Thanks for taking my question guys.

Our next question will come from Chris Gamaitoni of Compass Point. Please go ahead.

Good morning, most of my questions have been answered. Probably just one, is there any specific deposit strategies you have moving forward that you could tell us more about? Deposit strategies to be clear.

Yes, so again, we're -- what we're focused on is targeting existing clients and then new prospects and servicing their banking needs. I mean, I don't -- we don't have any aggressive, what I'd call, deposit product strategies that are going to kind of cause rates to move or aggressive pricing strategies in that regime. It's really kind of day-to-day execution of our relationship strategy and approach to continue to take share and grow our deposit base. And again, I'd highlight the 32% noninterest-bearing and that double-digit growth or approximately 10% growth year-on-year as a testament to the work the team does every day serving clients.

Perfect, thank you.

And ladies and gentleman at this time we will conclude our question-and-answer session and this will also conclude the Hilltop Holdings second quarter 2018 conference call and webcast. We thank you for attending today's presentation. You may now disconnect your lines.