Good morning and welcome to KeyCorp’s Second Quarter 2022 Earnings Conference Call. As a reminder, this conference is being recorded. I would now like to turn the conference over to the Chairman and CEO, Chris Gorman. Please go ahead.

Thank you for joining us for KeyCorp’s second quarter 2022 earnings conference call. Joining me on the call today are Don Kimble, our Chief Financial Officer; Clark Khayat, our Chief Strategy Officer; and Mark Midkiff, our Chief Risk Officer. On Slide 2, you will find our statement on forward-looking disclosure and non-GAAP financial measures. It covers our presentation materials and comments as well as the question-and-answer segment of our call. I am now moving to Slide 3. This morning, we reported earnings of $504 million or $0.54 per share. We delivered positive operating leverage compared to the prior quarter and the year ago period. Our results reflect the resiliency of both our business model and our teammates as we continue to successfully navigate a rapidly changing environment. Pre-provision net revenue was up 14% from the first quarter, with a 6% increase in revenue and relatively stable expenses. Revenue was driven by growth in net interest income, which benefited from higher interest rates and strong loan growth. Importantly, we will continue to benefit from higher interest rates over the next several years as our hedges and short-term investments continue to reprice. Our balance sheet also benefits from our strong stable deposit base. Approximately, 60% of our deposits are in stable retail and escrow balances. In our commercial business, approximately 85% of our deposits are from core operating accounts. As I mentioned, loan growth continues to be strong. Average loans were up 5% from the last quarter and 8% from the year ago period. Adjusting for the planned runoff of PPP and the sale of our indirect auto business, average loans grew by 21% year-over-year. Our growth was driven by both our consumer and our commercial businesses. We continue to add clients and support our existing relationships. In our consumer business, we…

Thanks, Chris. I am now on Slide 5. For the second quarter, net income from continuing operations was $0.54 per common share, down $0.18 from last year and up $0.09 from the prior quarter. Our results in the current quarter reflect strong core operating performance and the resiliency of our business model as we continue to navigate through the current market conditions. Importantly, we generated positive operating leverage compared to both the prior quarter and the prior year and remain confident in our ability to do so for the full year. As Chris mentioned, pre-provision net revenues was up 14% from the first quarter, with a 6% increase in revenue and relatively stable expenses. Higher net interest income was driven by strong loan growth and the way we have positioned our balance sheet to benefit from higher interest rates. Our results also reflect our focus on strong expense management and our strong risk profile. Turning to Slide 6, average loans for the quarter were $109 billion, up 8% from the year ago period and up 5% from the prior quarter. We continue to add and deepen client relationships across our franchise, which drove strong loan growth in both our commercial and consumer businesses. Commercial loans increased 4% from last quarter, reflecting broad-based growth across our industry verticals. Line utilization rates improved this quarter, increasing 100 basis points from last quarter. Our consumer businesses continued its strong performance as we saw residential real estate originations of $3.2 billion, resulting in an increase in balances of 13% from last quarter. Consistent with our focus on the healthcare segment, approximately one-third of our consumer mortgage originations were to health care professionals. Laurel Road originated $445 million of loans this quarter despite the ongoing federal student loan payment holiday. PPP loan balances were $658…

Thank you. [Operator Instructions] Our first question comes from the line of Ebrahim Poonawala, Bank of America. Please go ahead.

Hi, good morning.

Good morning, Ebrahim.

Good morning.

I guess maybe first question, Don, I just wanted to go back to your comments around interest rate risk management and the securities book, looking at the slide in the Appendix 17. Just talk to us when you talk about the $700 million upside from repricing; one, what part of the core is that sensitive to; and second, if interest rates run well over in the next 3 to 6 months, is there a way to capture that NII upside?

That’s a great question. As far as the impact, I’m talking about $9.5 billion of our investment portfolio, which is in our short-term treasuries. And that’s just repricing those securities at basically a 2-year yield on the assets. So it’s picking up over 200 basis points on that $9.5 billion. The other piece would be to reprice our swap book, which is a little over $27 billion, and that has an average life of 2.5 years. And just repricing that, combined with the short-term treasuries, would yield over $700 million in run-rate benefit. As far as capturing that earlier, we will always take a look to see how we can, and we’ve done some things such as forward starting swaps and other things to position the portfolio to start to benefit from that in earlier quarters. But we feel good about how we’re positioned and with the opportunity to realize that over the next couple of years.

Got it. and I guess just a separate question on the outlook for loan growth. Obviously, seems like you’re not seeing any real signs of slowdown. Just talk to us in terms of how you’re balancing customer demand, capital market stuff on the balance sheet versus the risk of a downturn and maybe we enter the recession over the next 6 to 12 months, and how you’re thinking about credit quality and just tightening the underwriting book?

Sure, Ebrahim. Obviously, the time to prepare for any kind of a downturn is long before the downturn. And so if you go back, over the last 10 years, we have been de-risking Key. And if you look in areas like, for example, housing and gateway cities, we’ve been dialing that back for some period of time. The actions that we’ve taken more recently, of course, is we exited indirect auto last year. We had a $3.3 billion book that we exited. And then we are constantly looking at our portfolio, any place that there is leverage we focus intently on. And we focus on certain places where we think there is been a run-up in asset values. So for example, we’ve been dialing back loan-to-value percentages in places like the West. That kind of gives you an idea. The notion of what goes on our balance sheet and what we distribute we do what’s best for our clients. And when you get into markets such as we have right now where there is dislocation, that’s obviously an opportunity, and we went from about 18% typically on our balance sheet up to 22%. And obviously, 4% of $36 billion is a lot.

Got it. Thanks for taking my questions.

Sure.

Our next question comes from the line of Ken Usdin, Jefferies. Please go ahead.

Yes. Hey, guys. Good morning. I just wanted to follow-up on the capital market side. So obviously, a tough market environment to execute, obviously, you’re talking still about strong pipeline. So can you just talk about just how do you get a sense of what the revenue outlook looks like from here? And you obviously did some adjustments on the cost side as a result as well. How much flexibility do you see on that side as well? Thank you.

Sure, Ken. Good morning. Well, one of the things we really like about the business is it is a variable cost business, and you saw that reflected in our expense numbers. In terms of the trajectory of the business, the pipelines with the exception of equity, as you can well imagine, remains stronger this year than they did at this time last year. Having said that, the real challenge is going to be what is the actual yield. And as you think about, for example, the M&A market, there is a disequilibrium right now between publicly-traded companies and where these private companies are being priced, and there is a bit of price discovery. I think it’s going to take a while for that to shake out. But in my experience, it does shake out. And so I think the back half, given – if we can get some cooperation from the markets, I think the back half will generate some momentum. The other thing I will share with you about this business and you’ve been following us for a long time, this is a business that we believe in and we will continue to invest in. And it’s been challenging, frankly, to be out in the hiring market in this ride up in the last couple of years. And so you’ll see us invest in this business and hiring more people in sort of a flat or down market than we have in the past. Thanks for your question.

Got it. And one follow-up, if I may the starting point here you had – interest-bearing deposit cost was really excellent. Can you just talk about how you’re expecting that to traject as obviously, we get into the media part of the magnitude of rate raises? Thanks.

Sure, Ken, that you’re right that the starting point here that we haven’t seen a lot of pressure on deposit rates. And so we’ve got a very low beta for the quarter as a 2-basis-point increase in and average interest-bearing deposit costs compared to about a 60-basis-point increase in the LIBOR would suggest about a 3.5% to 4% deposit beta. We think the incremental betas will increase from here going forward. And by the end of the year, as we talked about in the last call, we do expect that incremental beta in the – towards the end of the year to be closer to that 30% range that – so that’s really our expectations. We will start to see more customer changes and more competition for deposit rates going forward.

Got it. Thank you, Don.

Thank you.

And our next question is from the line of Steven Alexopoulos, JPMorgan. Please go ahead.

Good morning, Steve.

Hi, good morning, everyone. So looking at the updated guidance and specifically I’m looking at the 9% to 11% loan growth and 1% to 3% decline in deposits, which is a pretty wide mismatch, how do you plan to fund loan growth beyond 2022? And at what loan-to-deposit ratio do you need to start fully funding loan growth one for one with deposits?

Steve, this is Don. And as far as the loan growth, you’re right, the updated guidance is 9% to 11%. Deposits are expected to be up 1% to 3% year-over-year. That implies relatively stable deposits through the rest of the year. We do have some investment security maturities. We also will tap the wholesale market as far as funding that one of the benefits of originating residential real estate loans adds to our capacity as far as borrowing at the home loan and we can do that in a cost-effective way. Loan-to-deposit ratios were currently below 80% on our balance sheet. Typically, we would target between 90% and 95% loan-to-deposit ratio. So we’ve got plenty of room to work through that. I would say that we will continue to monitor this. But as Chris has highlighted a couple of times, we want to support our customers. And in these markets, we are going to see more customer demand for loans than we are probably going to see for capital markets opportunities. And so we will continue to see that. We could see that reverse at some point in time. And help alleviate some of the pressure on loan growth overall.

Okay. That’s helpful. Don, how do we think about this? So at some point, you’ll reach a loan-to-deposit ratio where you need to be more competitive on deposits. And I heard your response to Ken’s question you think you’ll be at 30% or so loan deposit bay by end of this year. But if we keep moving it forward, what do you think is the through-the-cycle deposit beta? And Chris, just given your commentary that you feel good that NIM higher rates are going to benefit you long term, do you think your loan beta can stay consistently above the incremental deposit beta as we move forward beyond 2022?

I think it can. And the reason I said I think, as we go into an inevitable downturn and clearly, the economy is slowing. I think you are going to see sort of a re-pricing of risk, and I think we will be in a good position with the relationships that we have to garner that. And so I think the answer to your question is, I think it will.

And then on the deposit side as well, historically, we would have had a deposit beta of around 40% to 45%. And I would say that our deposit mix is much different today than what it was during the last rate increase cycle. Then on the consumer side, we are very focused on core primacy accounts or operating accounts for the consumer as opposed to historically we might have been more focused on promotional money market type of products and programs. And so we should see less interest rate sensitivity there. On the commercial side, we are seeing now 85% of our deposits are in core operating accounts, and that’s probably up 5 points to 10 points from what it was just 3 years ago. So, that mix should be helpful for us to continue to manage that beta down longer term compared to what the historic levels were for us. And so we will probably drift above that 30% level, but I think we will be well below that 40% to 45% level that we were historically.

Okay. And Don if I could squeeze one more in. So, the 85% of commercial deposits that are operating accounts, is the implication from that, that we shouldn’t expect much of a mix shift out of non-interest bearing? Is that the read-through from that?

Well, we will see some shift there just because of the impact of the higher rates and earnings crediting rate that we provide to help manage fees. And so as rates go up, you might see less of a need to keep some of the funds there and they might look to put some of those in other interest-bearing categories, but it still does imply that we will see less shift than what we would have historically just because of the higher level of operating account balances.

Got it. Okay. Thanks for all the color.

Thank you.

Our next question comes from the line of Erika Najarian, UBS. Please go ahead.

Hi. Good morning.

Good morning.

My first question is on credit quality, which is clearly pristine currently. Chris, you said to Ebrahim that the time to prepare for a downturn is well before the downturn hits. And maybe help us understand how we should think about how Key’s ACL would look like in a recession. So, you ended the quarter at 113 and clearly, your book has changed, but you also have more consumer loans, which even if the credit is good, my understanding is from a CECL standpoint, they have longer lives, right. So, I guess the question here is, if we do have a mild recession next year or sooner than that, where would this ACL ratio trend?

So, obviously – first of all, good morning Erika. Obviously, we are really comfortable with where our reserves are today. A few things to keep in mind, both on our commercial and our consumer side. And I will start with the consumer. That book of business at funding is about – FICO scores of about 780. So, it’s a little bit of a unique customer base as it relates to our consumers. So, that’s one thing to keep in mind. The other thing on the commercial side is, as I have mentioned earlier, we have been consistently de-risking all of Key. And we also have been consistently laying off about 72% of the risk that kind of flows through Key. And there were a lot of deals that we are able to place that don’t meet our moderate risk profile. So, I am very comfortable with where our reserves are now. As you can imagine, we are modeling continually just a whole lot of different scenarios. But at the moment, we are very comfortable with where our reserve is. You will recall, last quarter, we actually increased our qualitative reserve just on the premise that, under CECL, our macro view had changed and clearly there were some more challenges out there.

Erika, this is Don. I can probably add a little bit more color to that as well. And that if you look at our allowance, it is very quantitative in the approach. I would say that under CECL, what you do is take a look at the foreseeable period as far as forecasted losses. And so for us, that’s a 2-year type of period. And so even in a recession, you would see those 2 years of losses go up from where they are at today. And then we will start to migrate back to the norm. And so you might think that with the longer life loans as far as the residential real estate or even our student loans to Laurel Road, that you would see that for the entire life. And you really would. You would see it spike in that first 2-year period. And so it might imply somewhere between a 40-basis-point or 50-basis-point kind of increase to the allowance, but it wouldn’t be a doubling, it would be our best guess at this point in time.

Got it. And Chris, maybe a follow-up question for you. As you take a step back, you and your colleagues have built Key into this powerhouse, super regional commercial and corporate bank. And I think a lot of investors are thinking that a lot of the issues in credit and corporate from higher rates and lower EBITDA, perhaps, may come outside of the banking system. And given your comments about de-risking, is there any room at KeyCorp for perhaps some market share gains if you do see some blowups in the private credit markets, or are those deals just deals that you wouldn’t be comfortable with any way?

Well, I think there is no question that depending on how people are funded, I think banks, in general, will be able to gain share. And the nice thing about a downturn, Erika, is you can have things structured the way you want to structure them to put them on your balance sheet. I think there is no question that, in this location, it will be an opportunity for us to gain market share given our relationships, and given that we can have things structured the way we would like them to structure because the market is obviously adjusting as we speak.

Got it. Thank you.

Thanks Erika.

[Operator Instructions] And our next question comes from the line of Matt O’Connor, Deutsche Bank. Please go ahead. Matt O’Connor: Good morning.

Good morning. Matt O’Connor: Your capital is kind of right in the middle of your range at 9.2% versus 9% to 9.5%. Can you just update us on thoughts on both your buybacks? And then also where you want to be within that capital range at this point of cycle and maybe longer term?

Sure, Matt. So, we are obviously very comfortable at 9.2%. Frankly, I would be comfortable at even a range that’s a little broader than that. 9% to 9.5% was just an internal range that we had put in place. As it relates to capital actions, first and foremost, as Don mentioned in his remarks, we preserve our capital to help our clients grow. So, that’s the first thing. The second thing is obviously our dividend, which is very important. And then our third tertiary priority is the repurchase of shares. And so I feel very good about where we are from a capital perspective. Matt O’Connor: Alright. And then somewhat related, as you mentioned earlier about investing even more so within the investment banking capital markets broadly speaking. Is that all kind of organic, or are there maybe some niche acquisition opportunities within those businesses?

Well, as you know, in the past, we have bought businesses, and I am really proud of our ability to integrate these entrepreneurial businesses. But what I was really focused on in my comments is sort of organic individual hires that we think would be a good cultural fit to plug into our platform. Matt O’Connor: Okay. Thank you.

Thank you, Matt.

And we have last question here from the line of Mike Mayo, Wells Fargo. Please go ahead.

Hi. So, it is not a new statement from you, but if you can’t catch the ball with your left hand with investment banking than you catch it with your right hand with traditional lending or the re-intermediation to bank balance sheets and capital markets. So, I know you have described this in the past, Chris, and this is your old area, as we all know. But can you be more specific like what are we talking about? We say capital market transactions don’t get completed, so therefore, they go to Key’s balance sheet. Just a little bit more detail would be great.

Sure. So, let me give you an example. Say someone is trying to privately raise debt and there is all these debt funds and there is all these unitranche offerings, and all of a sudden, those markets frees up. But whoever is the sponsor behind the deal has significant capital. We can then go back to the parties involved that we have a relationship with and we would say, we won’t structure it the way – we are trying to structure it to place it out in the market, but we would be pleased to put a very conservative amount of debt on our balance sheet, and you, sponsor, will need to come up with more equity. That would be an example. Another example would be, a company that we were going to take public that we could continue to fund in a variety of ways until they go public. A third example would be, a large – let’s say it’s a large, affordable project that wanted ultimately to place the paper with one of the agencies. But because of dislocation, you couldn’t do that. That’s a deal that we could bridge over a period of time with a known takeout. That would be a few examples.

Okay. And your investment banking fees were down less than the biggest players, down one-third versus the one-half. I guess that’s partly just due to your mix, upper middle market. But the decline was not as much first quarter to second quarter. You said you expect things to improve. Now I mean maybe your guess is as good as anyone else’s, or perhaps you have some extra insight or maybe you hear what your clients are saying, but – and with that backdrop, how are you allocating resources? You said you are going to be investing more than you have in the past. Does that reflect your optimism?

There is no question I am optimistic about the business long-term. Mike, as you know, how these markets play out over the next six months is, in fact, anybody’s guess. But we are playing the long game. We are investing in the business. The pipelines are there. I don’t see anything happening in the equity market, for example, in the next three months or six months. I do think this price discovery that I discussed earlier in the M&A market, I do think that buyers and sellers will start to come together on that.

Okay. Great. Thank you.

Sure. Thank you, Mike.

And at this time, there are no other questions in queue.

Again, we thank you for participating in our call today. If you have any follow-up questions, you can direct them to our Investor Relations team 216-689-4221. This concludes our remarks. Thank you.

And ladies and gentlemen, that concludes our conference for today. Thank you for your participation and for using AT&T conferencing service. You may now disconnect.