KeyCorp (NYSE: KEY) Q3 2021 earnings call dated Oct. 21, 2021
Corporate Participants:
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Analysts:
Steven Alexopoulos — J.P. Morgan — Analyst
Ebrahim Poonawala — Bank of America — Analyst
Scott Siefers — Piper Sandler — Analyst
Bill Carcache — Wolfe Research — Analyst
Ken Usdin — Jefferies — Analyst
Matt O’Connor — Deutsche Bank — Analyst
Peter Winter — Wedbush Securities — Analyst
Eric Chan — Wells Fargo Securities — Analyst
Gerard Cassidy — RBC Capital Markets — Analyst
John Pancari — Evercore ISI — Analyst
Presentation:
Christopher M. Gorman — Chairman, Chief Executive Officer and President
[Starts abruptly]
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’m now moving to Slide 3. This morning, we reported another strong quarter with net income of $616 million or $0.65 a share. We delivered positive operating leverage and expect to generate positive operating leverage for the full year. We delivered record third quarter revenue, which was up 8% from the year-ago period. Our results were driven by growth in both net interest income and non-interest income. Non-interest income reached a record third quarter level, up 17% from the same period last year. The increase was driven by broad-based growth across our fee-based businesses, including investment banking, which was up 61%.
I am especially proud of the way our teammates continue to serve our communities and clients. And in doing so, creating new and deeper relationships across our franchise. In our consumer business, we experienced record growth in net new households in the first nine months of the year. Our Western franchise is growing at a rate of over 2 times the rest of our footprint and younger clients continue to be our fastest growing segment. Additionally, our consumer business generated a record $4.2 billion in loan originations for the quarter, which reflects growth from our consumer mortgage business and Laurel Road. Through the first nine months of the year, our consumer mortgage originations have exceeded 2020s full-year record level of $8.3 billion.
Laurel Road had another strong quarter as we continue to add and expand high quality relationships through our National Digital Bank. Importantly, what really sets Laurel Road apart is our targeted client approach, which results in high value digital relationships nationally. Currently, 75% of our volume is coming from outside our footprint. Laurel Road is part of a broader healthcare initiative across our company that has established HEY as one of the leading healthcare banks.
Moving onto our commercial businesses. We had another strong quarter. Our investment banking business generated fees of $235 million, a record third quarter level and the second highest quarterly level in our history. We experienced growth across the entire platform. Our broad and comprehensive platform has enabled this business to grow consistently over the past decade. Our investment banking business has grown at an 11% compound annual growth rate over the last 10 years. We are on pace to generate double-digit growth again in 2021.
Expenses this quarter reflect higher production related incentives and the investments we continue to make in our franchise, in digital, in analytics and in our teammates. Year-to-date, we consolidated 73 branches or approximately 7% of our branch network. These consolidations will drive future cost savings and support ongoing investments. We will continue to look for opportunities to right-size our footprint.
Shifting to credit quality. Our trends remained very strong this quarter. Nonperforming loans and criticized loans were all down from the prior quarter and net charge-offs to average loans were 11 basis points. We continue to support our clients, while maintaining our moderate-risk profile, which has and will continue to position the company to perform well through all business cycles. Finally, we have maintained our strong capital position, while continuing to return capital to our shareholders. Our common equity Tier 1 ratio ended the quarter at 9.6%, above our targeted range of 9% to 9.5%.
In the third quarter, we entered into an accelerated share repurchase program facilitated by the capital relief from the sale of our indirect auto portfolio. The accelerated share repurchase program is part of our previously disclosed $1.5 billion share authorization. In total, we repurchased $593 million of common stock in the third quarter. Dividends also remain a priority. Our dividend yield remains above 3%. Our Board of Directors will consider a dividend increase at our meeting next month. I will close by restating that it was another strong quarter. We generated positive operating leverage by growing our top line and managing expenses, while continuing to make investments for our future. As always, we remain committed to our disciplined approach to risk management and returning capital to shareholders through both dividends and share repurchases.
I will now turn the call over to Don, who will provide more details on the results of the quarter. Don?
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Thanks, Chris. I’m now on Slide 5. For the third quarter, net income from continuing operations was $0.65 per common share. Our results reflected a net benefit from our provision for credit losses, which was largely driven by our strong credit metrics and positive economic outlook. Importantly, we delivered positive operating leverage this quarter and as Chris said, we expect to deliver positive operating leverage for the year. Total revenues were up 8% compared to the same period last year. We had the year-over-year growth in both net interest income and non-interest income. Our return on tangible common equity for the quarter was 18.6%. I’ll cover the other items on this slide later in my presentation.
Turning to Slide 6. There were two major items that impacted loan growth this quarter. PPP loans and the sale of our indirect auto portfolio. Average PPP loans declined $3.3 billion this quarter as we helped clients take advantage of loan forgiveness. We also sold our indirect auto portfolio last month. The sale impacted our third quarter average results by approximately $800 million and $3.3 billion on an ending basis. Average loans were down from the year-ago period, reflecting the reduction in PPP balances and lower commercial line utilization. Compared to the prior quarter, average loans were down 0.7%. Adjusting for the sale of the indirect auto portfolio, our loans were up approximately $100 million on average and up over $1 billion on an ending basis. Adding to the comments on our core loan growth, adjusting for both the indirect auto loan sale and PPP loans are linked quarter total loan growth would have been 4.3%. We continue to see strong consumer loan growth driven by Laurel Road and consumer mortgage. On the commercial side, we were pleased to see a slight uptick in utilization.
Continuing on to slide 7, average deposits totaled $147 billion for the third quarter of 2021, up $12 billion or 9% compared to the year-ago period, and up 2% from the prior quarter. The linked quarter and year-ago comparisons reflect growth in both commercial and consumer balances. The growth was partially offset by continued and expected decline in time deposits. So interest-bearing deposit costs came down 1 basis point from the second quarter, following a 2 basis point decline last quarter. We continue to have a strong, stable core deposit base with consumer deposits accounting for approximately 60% of our total deposit mix.
Turning to Slide 8. Taxable equivalent net interest income was $1.025 billion for the third quarter of 2021, compared to $1.006 billion a year-ago, and $1.023 billion from the prior quarter. Our net interest margin was 2.47% for the third quarter of 2021 compared to 2.62% for the same period last year and 2.52% for the prior quarter. Both net interest income and net interest margin were meaningfully impacted by the significant growth in our balance sheet compared to a year-ago period. The larger balance sheet benefited net interest income, but reduced net interest margin due to the significant increase in liquidity, driven by strong deposit inflows. Compared to the prior quarter, net interest income increased $2 million and the margin declined 5 basis points. Lower interest bearing deposit cost and the benefit of the day count were partially offset by lower earning asset yields and continued elevated liquidity levels. For the quarter, total loan fees from PPP loans were $45 million compared to $50 million last quarter. We’ve also included in the appendix additional detail on our investment portfolio and our asset liability positioning. In the third quarter, our sensitivity to rising rates moved higher and we ended the period with over $25 billion in cash and short-term investments.
Moving on to Slide 9. We continue to see strong growth in our fee-based businesses, which have benefited from our ongoing investments. Noninterest income was $797 million for the third quarter of 2021 compared to $681 million for the year-ago period and $750 million in the second quarter. Compared to the year-ago period, noninterest income increased 17%. We had a record third quarter for investment banking and debt placement fees, which reached $235 million, driven by broad-based growth across the platform, including strong M&A fees. Additionally, corporate services income increased $18 million and commercial mortgage servicing fees increased $16 million. Offsetting this growth was lower consumer mortgage fees due to a lower gain on sale margin. Compared to the second quarter, non-interest income increased by $47 million. The largest driver of this quarterly increase was the record third quarter investment banking and debt placement fees.
I’m now on Slide 10. Total non-interest expense for the quarter was $1.112 billion compared to $1.037 billion last year and $1.076 billion in the prior quarter. Our expense levels reflect higher production related incentives and the investments we have made to drive future growth. The increase from the year-ago period primarily reflects higher incentive and stock-based compensation attributed to our higher fee production in KEY’s increased stock price. The quarter-over-quarter increase in expenses was primarily driven by two areas. The first, personnel expense related to one additional day of salary expense in the quarter and slightly higher employee benefits. The second was an increase in other expense of $18 million, largely related to a pension settlement charge and higher charitable contributions.
Now moving to Slide 11. Overall credit quality continues to outperform expectations. For the third quarter, net charge-offs were $29 million or 11 basis points of average loans. Net charge-offs in the current quarter included $22 million related to the sale of the indirect auto loan portfolio. Our provision for credit losses was a net benefit of $107 million. This was determined based on our continued strong credit metrics as well as our outlook for the overall economy and loan production. Nonperforming loans were $554 million this quarter or 56 basis points of period end loans, a decline of $140 million or 20% from the prior quarter.
Now on to Slide 12. We ended the third quarter with a common equity Tier 1 ratio of 9.6%, which places us above our targeted range of 9% to 9.5%. This provides us with a sufficient capacity to continue to support our customers and their borrowing needs and return capital to our shareholders. Importantly, we continue to return capital to our shareholders in accordance with our capital priorities. We repurchased $593 million of common shares during the quarter and our Board of Directors approved a third quarter dividend of $18.5 per common share. Of the $593 million in common share repurchases, $468 million were related to the initial settlement of our accelerated share repurchase program, representing 80% of the $585 million authorization. The remaining $125 million were purchased in the open market. The remaining 20% of the ASR will be settled in the fourth quarter.
On Slide 13, similar to prior years, we’ve provided guidance for the fourth quarter relative to our third quarter results. Guidance ranges are listed at the bottom of slide. Importantly, using midpoint of this outlook would imply our PPNR is at or above our full year 2021 outlook provided last quarter. We have adjusted our guidance to reflect our strong third quarter performance, especially in our fee-based businesses as well as the continued strength in our credit quality. Average loans will be up low-single digits, excluding the impact of the sale of our indirect auto portfolio. We expect continued growth in both our core commercial and consumer balances.
Average deposits should remain relatively stable in the fourth quarter. Net interest income is expected to be down low-single digits, reflecting lower PPP forgiveness in the fourth quarter and the impact of the auto loan sale. Non-interest income should be relatively stable of our record third quarter performance with momentum in most of our fee-based businesses through year-end. We will also benefit from what we expect to be another record year for our investment banking business. We expect non-interest expense to be down low-single digits in the fourth quarter.
Moving on to credit quality. We expect our net charge-offs to be below 20 basis points for the fourth quarter. Credit trends were strong in the third quarter and we expect a strong finish to the year. And our guidance for our GAAP tax rate has remained unchanged at 20%. Excuse me. Finally, shown at the bottom of the slide, our long-term targets, which remain unchanged. We expect to continue to make progress on these targets by maintaining our moderate-risk profile and improving our productivity and efficiency, which will drive returns. Overall, it was another strong quarter and we remain confident in our ability to deliver on our commitments to all of our stakeholders.
With that, I will now turn the call back to the operator for instructions for the Q&A portion of the call, operator?
Questions and Answers:
Operator
Thank you. [Operator Instructions] And first with line of Steven Alexopoulos with J.P. Morgan. Please go ahead.
Steven Alexopoulos — J.P. Morgan — Analyst
Hey, good morning, everyone.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Good morning.
Steven Alexopoulos — J.P. Morgan — Analyst
I wanted to start — so on the IB and debt placement fees, right, this has moved from, I think you were $160 million per quarter pre-pandemic, now you’re running consistently over $200 million per quarter. And we know this is an unusual year for debt issuance. How should we think about this line over the intermediate term? And do eventually just go back to $160 million.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
So, good morning, Steve, it’s Chris. As we look at this line, we always look at it kind of on a trailing 12 basis. I don’t think we’re going back to $160 million. Over the last decade, we’ve grown this as I mentioned at a compound annual growth rate of 11%. We continue to add bankers. We continue to further penetrate these niches that we’re in. It’s a unique business, seven industry verticals, serving the middle market. It is the deal business. But having said that, we feel really good about the long-term trajectory of the business. I’ll give you one statistic you might find interesting. This year, we added 5% in terms of incremental bankers and the call activity is up 20%. So I think we’re in the right sectors. I think we continue to invest in the business and I think it’s a unique business. I don’t think it’s going back to $160 million. I do think over time it will continue to be a double-digit grower.
Steven Alexopoulos — J.P. Morgan — Analyst
Okay. So we should consider this current run rate as a baseline, Chris, is that right?
Christopher M. Gorman — Chairman, Chief Executive Officer and President
I don’t know if I would consider it as a baseline. I mean, we always look at it on a trailing 12 basis, but I do think we can continue to grow it, Steve. As you know, you guys were in the deal business, s you can’t sort of annualize one quarter. But I do think you can look at long-term trends and will continue to grow it.
Steven Alexopoulos — J.P. Morgan — Analyst
Yeah, got you. Okay. And on the PPP, could you guys give out what the fees recognized in the quarter were? And maybe, Don, do you have the balance — end of period balances on PPP?
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Sure, can, that the total loan fees realized this quarter were $45 million, that was down from $50 million last quarter. The average balance for PPP loans was $4.2 billion and the ending was at $3.1 billion.
Steven Alexopoulos — J.P. Morgan — Analyst
Okay. That’s helpful. If I can squeeze one more in for you, Chris. There’s has been quite a bit of activity in M&A this year. It’s actually a record year. Have you been active at all and exploring M&A opportunities, either bank or non-bank? Thanks.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Steve, we’re always out there talking to people, particularly in the non-bank space. We have a pretty good track record of buying entrepreneurial businesses and integrating them. Obviously, this year we bought AQN, which is a analytics firm. We have a long history of investing in and partnering with FinTech companies. So we’ll continue to be very, very active around sort of niche businesses, whether it’s investment banking boutiques. And then, we’re always out there. Our job is to always be out there in the marketplace and see what there is out there that could create a lot of value and so we’re out there, but particularly focused on these niche businesses.
Steven Alexopoulos — J.P. Morgan — Analyst
Got you, great. Thanks for taking my questions.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Sure. Thank you.
Operator
And next we’ll go to Ebrahim Poonawala with Bank of America. Please go ahead.
Ebrahim Poonawala — Bank of America — Analyst
Hey, good morning.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Good morning.
Ebrahim Poonawala — Bank of America — Analyst
I guess so if you could just follow-up a little bit on the outlook, you’ve talked about positive operating leverage this year. As we look beyond 2021, you mentioned an opportunity to right-size the branch footprint. Give us some perspective on how big that is? And we look forward, some of the PPP revenues tail off. How do you think about maintaining that positive operating leverage? You’ve heard other banks talk about inflationary pressures impacting expenses, so would love your perspective on that?
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Sure. Well, thank you for the question. First of all, operating leverage is very important to us. We’re really proud of the fact that we have operating — positive operating leverage on a year-to-date basis. We will have positive operating leverage for the year 2021. We have not yet pulled together our plans for 2022. We will share that guidance with everybody in our January call. But I can tell you positive operating leverage is a very important part of how we run the business. It’s a huge area of focus. When we have all of our business leaders and we’re investing heavily in these businesses, but we have to be able to get the growth for the investment. And to date, obviously, we’re getting that. But we’ll continue to focus on positive operating leverage. You mentioned inflationary pressures. I don’t think there’s any question that there is inflationary pressures in the financial services industry and within our customer base, we clearly are seeing those and those will be a challenge I think for everyone in the economy.
Ebrahim Poonawala — Bank of America — Analyst
[Technical Issues] And I guess one for you. So looking at your ALM slide disclosure at the end, just talk to us how you’re managing the balance sheet as we think about cash deployment given the steepening in the curve we’ve seen? And where do you want the bank set up 12 months from now in terms of NII sensitivity to 100 basis points higher intercept?
Don Kimble — Chief Financial Officer and Chief Administrative Officer
It’s a great question and that’s something we challenge all the time that you might see from the materials that this quarter we had some activity in our bond portfolio with purchases of traditional core investments from about $3.7 billion compared to run-off of $2.1 billion that we saw from the cash flows off the existing portfolio. In addition to that, we bought some short term treasuries of about $4 billion and also the auto securitization transaction ended up increasing our overall bond portfolio by $2.8 billion as well. And so we ended the quarter at about $49 billion of total investments, which is up from the average of $43 billion.
What I would say is that we’ve seen a nice tick up in rates that the purchases we made in the third quarter at an average yield of 135 [Phonetic]. Those same types of investments at the start of the fourth in 150 to 160 [Phonetic] range. And so, that will probably give us some opportunity to lean a little heavier into portfolio purchases in the fourth quarter and beyond and we’ll continue to assess that. We’re sitting right now on $25 billion of excess liquidity compared — with cash positions and short term treasuries and we do plan to put that to work over time and probably see a clip of something in that $4 billion to $5 billion range near term, instead of the $3.7 billion that we purchased in the third quarter and maybe moving that up as we get more and more comfortable with where rates are positioned for the long-term.
Ebrahim Poonawala — Bank of America — Analyst
That’s helpful. And any changes, Don, on Slide 19 I think you lay out $36 billion in portfolio hedges. Is that what’s rolling off? Is that number expected to stay steady state over the next year?
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Yeah, of those hedges, $22 billion really are true asset liability hedges, the remainder are both debt hedges and also some very specific security hedges. For the maturities for the next 12 months for all 2022, that’s a $4.6 billion number as far as the majority of those swaps, and so — and just to put that perspective, the average received fixed rate for those $22 billion in swaps is 1.2%, and the current go to rate for us would be about 1.1%. So we’re seeing market start to — rate start to pick up and close that gap that we have as far as that rollover risk.
Ebrahim Poonawala — Bank of America — Analyst
Got it. Thanks for taking my questions.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Thank you.
Operator
And next we’ll go to Scott Siefers with Piper Sandler. Please go ahead.
Scott Siefers — Piper Sandler — Analyst
Good morning, guys. Thanks for taking my questions.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Good morning, Scott.
Scott Siefers — Piper Sandler — Analyst
I was hoping if you can talk about loan growth just second, we’re certainly starting to see more recovery. I’d say the magnitude of year is once you sort of wade through all the noise, maybe been a little bigger than some others out there. To a degree, things like Laurel Road and mortgage which you guys have talked about quite a bit offers you some flexibility. But I was hoping you could speak to the commercial side and sort of what’s differentiating you guys there? And maybe some comments about what you’re seeing in terms of pricing structure and those kinds of things, please.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Sure, let me — let me start and then Don, I’m sure you’ll have some comments on this as well. We are pleased with the trajectory of our loan growth, Scott. You mentioned on the consumer side are two growth engines. Those will both continue. So we feel good about those. As it relates specifically to the commercial side, we’ve seen a lot of activity around — around energy, around affordable housing, we’re significant players in healthcare and technology. All of those sectors have been active and the pipelines look strong.
As it relates to pricing and structure, we are not giving on structure at all, and I would say there has been sort of a continued erosion of pricing. Think about sort of from pre-pandemic to current sort of a triple B credit and erosion of maybe 25 basis points, that would be kind of a good benchmark.
Don Kimble — Chief Financial Officer and Chief Administrative Officer
I would agree, Chris. And as far as the commercial loans, linked quarter, absent PPP, we’re seeing those balances up over $1.5 billion. I would say, of that, about $0.5 billion is coming from increased utilization rates that we saw it go up about 50 basis points. We saw a little bit of growth in our commercial real estate portfolio and that really is aided by our focus on affordable housing and some other areas that have been paying dividends for us. Then the core commercial portfolio itself grew by about $0.5 billion. And I’d say that a good chunk of that is coming from customer growth and we’re seeing the benefit of the additional calling efforts as Chris mentioned, and the addition of more bankers on the street to help us drive that growth.
Scott Siefers — Piper Sandler — Analyst
Okay, perfect. Thank you very much. And then maybe, Don, just a question on the indirect portfolio sale. Did that have any bearing on what you think about sort of the steady state reserve level? I can’t imagine it will be huge just given the starting size of that portfolio, butt just would be curious to hear any of your thoughts.
Don Kimble — Chief Financial Officer and Chief Administrative Officer
It really doesn’t have a huge impact on it at all, that if you look at the reserve levels we had there, they’re a little bit less than the average for the overall loan book, but generally in line, so not much of a change there that — the one thing we continue to watch is that our credit metrics continue to improve and exceed our expectations as far as the relative performance there. And so that’s been the main driver as far as some of the adjustments we’ve seen down as far as our overall reserve levels.
Scott Siefers — Piper Sandler — Analyst
Yeah, perfect. All right, thank you guys for taking the questions.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Thanks, Scott.
Operator
Next we’ll go to Bill Carcache with Wolfe Research. Please go ahead.
Bill Carcache — Wolfe Research — Analyst
Thank you. Good morning, Chris and Don.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Good morning.
Bill Carcache — Wolfe Research — Analyst
I wanted to follow-up on the operating leverage dynamics implicit, specifically in the investment banking fee income line item. Clearly there is a relationship between that fee income and how you compensate your producers. But how does the rate of growth and revenues in that line item compared to the corresponding expenses over time, how accretive is it to your consolidated operating leverage?
Don Kimble — Chief Financial Officer and Chief Administrative Officer
I would say that historically we’ve seen that operating margin holding fairly well for that business, even though we’ve been investing in it. As we see variances from quarter to quarter, we typically see an increase in incentive compensation to about 30% of the change in revenues. And while it’s not a strict formula, it tends to work out to be about that range. And I would say as far as the efficiency ratio for this business, it’s a little higher than what the core would be overall, but isn’t too dilutive to the entire company.
Bill Carcache — Wolfe Research — Analyst
Got it. That’s helpful. And then separately, can you give a little bit of color on how you’d expect Laurel roads mortgage volumes and mix to evolve in a — in a higher mortgage rate environment?
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Yeah, so Bill, thanks for your question. So, just as you step back and you look at our mortgage business broadly, right now about 20% of our volume is to doctors, so it’s not an inconsequential piece across all of HEY. Additionally, our purchase volume right now is about 50%, were up 60% year-over-year. I think the NBA would say those are relatively flat. So I would expect that we’ll continue to grow fairly aggressively on the purchase side as it relates to Laurel Road, and obviously as interest rates go up, the refinance piece of it will obviously be impacted by that.
Don Kimble — Chief Financial Officer and Chief Administrative Officer
And also keep in mind our target customer for this Laurel Road business, it really is those doctors that are coming off the residency and locating to their permanent assignment. And so, step one typically is to consolidate their student loans and step two would be to buy a house and establish more of a permanent residents. And so even though rates are going up, we would expect to see some strong purchase volume coming from that targeted customer base as well.
Bill Carcache — Wolfe Research — Analyst
Got it. If I may squeeze in one last one. Was is it a strategic rationale behind the exiting of indirect — the indirect auto lending business simply a result of your desire to focus on direct relationships with your customers? And with that sale, have you now fully exited indirect consumer lending?
Christopher M. Gorman — Chairman, Chief Executive Officer and President
So, Bill, there is no question. You’re correct there. I mean, we are a relationship bank and specifically we believe in targeted scale. And if you think about that being really focused on who you do business with and being a relationship bank, clearly the indirect auto business just is not a relationship business, and so we made the decision to exit the business and then the transaction that we completed just recently with the accelerated share repurchase just made a whole lot of sense for us because it freed up capital, had a great IRR, and frankly enabled us to eliminate the tail risk at a time when the value of used automobiles was quite high. So that was kind of the strategic logic between exiting the business and executing the transaction we did recently.
Bill Carcache — Wolfe Research — Analyst
Understood, that makes a lot of sense. Thank you for taking my questions.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Sure, Bill.
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Thank you.
Operator
Our next question is from Ken Usdin with Jefferies. Please go ahead.
Ken Usdin — Jefferies — Analyst
Hey, thanks. Hood morning. Don, just a follow-up on the swap comment, you gave that $4.6 million number and talked about it. But I just wanted to understand the broader strategy with the swap book, the $22 million now and that $4.6 million, just wondering just how you’re thinking about either replacing some of those? And if you could remind us what the benefit was from hedge income and swap income in this quarter and how you’d expect that to traject? Thank you.
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Sounds good, that the whole thought as to the size of the swap book is really to get the end target as far as our asset sensitivity that we have been biasing our position to be much more asset sensitive than we typically would. We’re now in our — we talk about a 6% asset sensitive position in our slide deck and that’s higher where it would be traditionally. But also available to us going forward into next year is the redeployment of liquidity. So some of that will be taking out the cash position, which is a variable rate asset, low earnings variable rate asset, but still variable rate and replacing it with long-dated investment securities, and we did play of about a four-year average life for those securities. And so we’ll have to take that in consideration as to whether not we just do more of that or we do additional replacements for the swaps. Right now, we’ve not been replacing any of the swap maturities and we’ll continue to reassess that going forward. So that’s just generally how we would manage the overall asset sensitivity position of the company.
As far as the benefit from the swaps in the third quarter, we had about $76 million of net interest income coming from the swaps. We could see that come down slightly over the next couple of quarters. And then the question will be going forward is what happens with rates and as the short-term rates move up, you would see that number come down, but we would have seen an offsetting the impact from the rates on the commercial loans going up benefiting from those higher rates. And so that’s again just a summary of where we’re positioned today and what impacts there might be going forward.
Ken Usdin — Jefferies — Analyst
Yeah. And as a follow-up. So if you were to just — let’s say all of that, the $4.6 million goal and not replace, do you have an idea of where that 6% additive sensitivity would turn into?
Don Kimble — Chief Financial Officer and Chief Administrative Officer
I would say that would probably take us up far as asset sensitivity, but I don’t have the exact rate there. And one of the things we be monitoring is just what our outlook would be for rates overall and what’s the other changes in the balance sheet. So, since those swaps are fairly short in duration, it wouldn’t have a huge impact in overall asset sensitivity, but just something prospectively that we’d have to evaluate.
Ken Usdin — Jefferies — Analyst
Understood. And if I could just ask the last clarifying one, Don, can you just give us what the total PPP income was this quarter versus last?
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Okay, the total which include the interest on the individual loans was $56 million including the $45 million in fees. Last quarter, that was $69 million including $50 million of fees, and so that’s just the relative change from quarter to quarter.
Ken Usdin — Jefferies — Analyst
Perfect. Thank you, Don.
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Thank you.
Operator
Next we’ll go to Matt O’Connor with Deutsche Bank. Please go ahead.
Matt O’Connor — Deutsche Bank — Analyst
Hi, good morning.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Good morning, Matt.
Matt O’Connor — Deutsche Bank — Analyst
So a follow-ups on from individual fee categories. Service charges for you guys and others are bouncing back nicely. Do you think that’s obviously from seasonality and just kind of inherent recovery? But do you think it might also be a bit of a leading indicator that some consumers are spending down their excess liquidity and can start borrowing more? Or what do you think is driving that?
Don Kimble — Chief Financial Officer and Chief Administrative Officer
One, if we look at the individual balances of our retail customers, we’re seeing balances maintained if not growing across the board even with the smallest customers as far as average deposit balances and so we’re not seeing a lot of change there that I would say that to your point, some seasonality, some activity level — we’re seeing activity levels pick up and that’s driving service charges up. And more importantly for us is we’re seeing household and customer growth and we’ve had record growth for the first nine months of this year that exceeds what we had previously originated as far as net new households in a full year. And so we’re seeing strong growth there, which also does translate to increase the activity for us as well.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Yeah, Matt, just to give you some numbers from the — from the first quarter of 2020 our merchant business is up 49%, purchase cards up 39%, retail payments and general up 28%. So to Don’s point, there’s a lot of velocity.
Matt O’Connor — Deutsche Bank — Analyst
Okay. And then separately, the trust fees were down a little bit and flat linked quarter and flat year-over-year, obviously a good backdrop in markets. Just what’s going on there? And remind us how much money market waivers are embedded in those results as well for when rates rise and you recover that?. Thank you.
Don Kimble — Chief Financial Officer and Chief Administrative Officer
As far as the trust fee income, that the biggest driver there are really with commercial brokerage activity and that was down linked quarter and year-over-year. If you look at the core private banking revenues, those were up for each of those periods and retail investment sales are down slightly linked quarter because of seasonality and, but up year-over-year. And so those are the main drivers there. And then, I’m sorry Matt, as far as your last question, I forgot what that was, I apologize.
Matt O’Connor — Deutsche Bank — Analyst
Any money market waivers that are embedded in that line that when rates rise you’ll recover?
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Really don’t have any money market waivers there at all. We don’t — we don’t manage any money market funds and so that really doesn’t trip our revenues there.
Matt O’Connor — Deutsche Bank — Analyst
Okay, that’s helpful. Thanks for reminding.
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Thank you.
Operator
Next question is from Peter Winter with Wedbush Securities. Please go ahead.
Peter Winter — Wedbush Securities — Analyst
Good morning.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Good morning, Peter.
Peter Winter — Wedbush Securities — Analyst
Chris, I wanted — I wanted to ask on the capital. I’m just wondering with the improved credit risk profile. The outlook for the economy is getting better. Would you consider moving the capital target maybe to the low end of 9% to 9.5% or even take it below the low end?
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Peter, we still believe that 9% to 9.5% is the right number as we think about our business, there’s obviously a lot of variables. Could we be in the lower portion of 9% to 9.5% depending on the scenario we could, but we do not intend to lower the target of 9% to 9.5% of CET1.
Peter Winter — Wedbush Securities — Analyst
Okay. And then, Don, if I can ask just in terms of the fourth quarter outlook, could you talk about the average loan growth from that net interest income excluding PPP, and then also with the net interest income excluding the impact of the sale of the indirect auto?
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Sure. That as far as the average loan growth that we’ve talked about up low-single digits, up 1% to 3% excluding the impact of the indirect auto, if we added on the impact of the PPP forgiveness and loan balance expectations there that would add another $1.8 billion to the overall loan growth, so almost 2%. So that would take it from a low single-digit to a mid-single digit kind of growth expectation on a linked quarter basis, and so something similar to what we reported essentially this quarter.
As far as the NII outlook, I would say that there is two things that are impacting NII outlook for the fourth quarter. You hit on one, which is PPP and we would expect probably in the neighborhood of $10 million or so type of decline in PPP revenues. The other is the indirect auto loan sale that as a result of the sale, our net interest income will be down, but our fee income will be up. We essentially received 75 basis points for servicing those loans and so you will see a decline in NII of about $10 million and an increase of fee income in the range of $5 million to help offset that. And those are kind of the moving parts and pieces. Great. Thanks for taking my questions.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Thank you.
Operator
Next we’ll go to Eric Chan with Wells Fargo Securities. Please go ahead.
Eric Chan — Wells Fargo Securities — Analyst
Hi, guys. I have a question that relates to tech. So as you guys have retooled [Phonetic] the bank, I was just wondering if you could speak a little bit about how the role of FinTech partnerships have changed for HEY? And if possible, perhaps you could give us a number of FinTech partners that you guys currently work with?
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Sure, Eric. Thanks for your question. So our relationship with FinTech partners has really been both important and helpful for us. As a bank, we were in early and I think it’s really helped us successfully execute our targeted scale strategy, frankly it’s helped us kind of with our client service strategy, our sales strategy. It’s also clearly contributed to our thinking as we developed our technology roadmap. We are clearly tied into the entire FinTech ecosystem and our unique strategy is both known and understood by the FinTech community, which is helpful.
Going to your question of how many relationships we have. I would say today we have probably 10 client-facing relationships. We literally have dozens of infrastructure relationships with FinTechs because we’re sort of known in the whole ecosystem, we see a lot, maybe 15 or 20 opportunities every single month that we kind of sort through. Kind of if you step back and take a look and think about kind of from a strategic perspective, our targeted scale strategy just makes us a great partner because we have such distinct client groups. And obviously as you’re developing software, that’s really helpful. What we have done at KEY is — in Laurel Road is we’ve built this National Digital Affinity Bank, which is a relationship approach to digital banking, with FinTechs really our best that is really solving one pain point and doing it extremely well. So it’s been — it’s been a good relationship, probably for — I can certainly say for us. And I’m sure it’s been a good relationship for the FinTechs as well.
Eric Chan — Wells Fargo Securities — Analyst
Yeah that’s helpful. And then just — just kind of a follow-on to that. So how do you guys determine which strategy to follow when it comes to actually building in-house or partnering a FinTech? So to say. Just kind of a look on a high level, what are your thoughts there?
Christopher M. Gorman — Chairman, Chief Executive Officer and President
It starts with the client out. We are relationship driven bank and so we have these distinct client groups that we’re pursuing and to the extent we can partner, invest with a FinTech that can make us more impactful in the market serving that specific client set, we will enter into some partnership, we’ll invest in them to the extent it doesn’t help us compete and win in the marketplace and solve a specific pain point for our targeted customers, we take a pass. Now as I mentioned, that’s on that’s on the client facing stuff. In the infrastructure space we have dozens and dozens and obviously the criteria there is it cheaper and faster to buy it versus build it.
Eric Chan — Wells Fargo Securities — Analyst
Great, thanks so much.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Thank you.
Operator
Next question is from Gerard Cassidy with RBC. Please go ahead.
Gerard Cassidy — RBC Capital Markets — Analyst
Hi, Chris. Hi, Don.
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Good morning.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Good morning, Gerard.
Gerard Cassidy — RBC Capital Markets — Analyst
Can you guys give us some color, credit obviously has been great for you and your peers. You’ve already given us guidance for the second quarter net charge-off number, which is lower than your long-term numbers that you have for 40 basis points to 60 basis points through the cycle. When do you think we start creeping up for a normalcy? And I’m not talking about a recession, but do you — can you think you stay at this lower level for another quarter or two and then we start creeping up later in ’22 or into ’23?
Christopher M. Gorman — Chairman, Chief Executive Officer and President
So let me, let me take a pass at that Gerard. I — the answer is we don’t know. We’ve got really good clarity, obviously, as we look into the fourth quarter, we gave guidance of 20 basis points. Interestingly enough, our results this quarter while we report 11 basis points, its really closer to 2 when you take out the $22 million that relates to indirect auto. I think we are in, I can speak for KEY. I think the de-risking that we’ve gone about for the last 10 years is going to serve us extremely well. We won’t stay at a level this low, but I actually think as we look into 2022, you’re still going to see us below our targeted range of 40 basis to 60 basis points.
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Gerard, I would agree with Chris’ comments. There are a couple of things to think about. One is as far as our overall credit quality position. For many of the metrics today, we’re actually better than what we were pre-pandemic. So if you look at nonperforming loans and nonperforming assets, the delinquency stats for consumer and commercial loans are all better than where they were pre-pandemic. Our criticized and classified are a little higher than what they were before the pandemic, but coming down dramatically. And we’ve seen incremental improvements this quarter that are outpacing what we’ve seen before that. And so that would suggest that things are going to be good for some time, but at the same time I would think that you’re probably going to see the consumer start to turn a little sooner. They’ve been the beneficiary of so much stimulus and if that starts to slow and go away like we would expect it to, you would start to see some of that start to return to more normal levels over time as well. And then the commercial customer while it’s still flush with liquidity, but we just aren’t seeing the early signs of there is going to be some challenges down the road. And so I think that we’re going to be in a period for some time where we’re going to see charge-offs below the low end of guidance ranges across the industry.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
I think, Gerard, one of the first things you’ll see is in the small business sector, the inability to pass through what are some pretty significant price and wage increases and I think that will be the beginning of a bit of a pressure on the commercial side, particularly with smaller customers that have less pricing power.
Gerard Cassidy — RBC Capital Markets — Analyst
Very good. And then as a follow-up, Chris, two things. One, when you look at your investment banking numbers, which of course we’re very strong record levels $235 million, can you give us a flavor for how does that break out M&A advisory versus DCM, etc., and compare that the first quarter last year? But then second, in your prepared bullets, it looked like you pointed out that you retain 20% of the business on the loans and I thought that seemed high because normally I thought you saw 90% of it or more off? But ending those two questions. Thank you.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Sure. So, Gerard, we’ve never broken out each of the different components, our investment banking fees. I can tell you that our M&A business was extremely strong and you can imagine the equity business was very strong given that we have a focus on technology. So, those were a couple, just bright spots broadly. As it relates to our mix of what’s distributed and what we put on our balance sheet, it’s actually been very consistent over a long period of time. We’ve always basically held of the credits that we take on. We’ve always held about 20% on our balance sheet. So we really have it dialed that up at all. We’ve been just maintaining our moderate-risk profile and taking advantage of what are some pretty attractive markets out there.
Gerard Cassidy — RBC Capital Markets — Analyst
Great, thank you so much.
Operator
And next we’ll go to John Pancari with Evercore ISI. Please go ahead.
John Pancari — Evercore ISI — Analyst
Good morning.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Good morning.
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Oh, John.
John Pancari — Evercore ISI — Analyst
I appreciate the color you’ve given around the loan growth activity that you’re seeing. I’m curious how you’re thinking that interprets into 2022 in terms of the type of on-balance sheet loan growth that you could see? I was just wondering if you can give us a bit of color on how you’re thinking about that and curious how that — how that could play into the full year? Thanks.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
John, thanks for your question. We will be addressing our view on 2022 in January. But what’s interesting about our model is there’s a lot of variables and depending on what the market conditions are, you could see us going back to the previous question. You could see us maybe putting more on our balance sheet if some of the markets went in — they’re right now functioning very, very well, went into dislocation. But we’ll have a — we’ll have a specific view for you when we — when we report January.
John Pancari — Evercore ISI — Analyst
Got it. All right, Chris. Thanks. And then separately on the expense side and you’ve talked about wage inflation and how are you thinking about what it could add to expense levels as you look at — as you look at full year expectations? I know you’re not giving ’22 guidance, but around the wage inflation topic specifically, just curious about annual — annualized expense impact, how you think about that?
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Yeah, so the biggest — the biggest impact to date for us has obviously been those variable structures principally in investment banking and in our mortgage business that are driven by business flows and the fact that those businesses have grown. Your question is a good one and that we have had to particularly at the low end of the entry level throughout KEY and also in kind of the junior banker area we have in fact had to increase wages there. And Don, can you give us some specifics on what the impact of that is on an annualized basis.
Don Kimble — Chief Financial Officer and Chief Administrative Officer
Well, our total salary expense each year is about $1.3, and I would say that those two components probably have cost us somewhere in the range of about $15 million to $20 million a year. So it’s a little over 1% cost as far as the impact there overall, but it’s something we’ll continue to evaluate. And as Chris highlighted that we’re seeing that in the entry-level type of positions and we’re also starting to see some of that in other more specialty areas as well and so we’ll have to assess as we go in the next year, what kind of targets we’ll have as far as salary expense overall.
John Pancari — Evercore ISI — Analyst
Got it. But that $15 million to $20 million per year, that’s mainly on the lower end wages in the junior banker areas?
Don Kimble — Chief Financial Officer and Chief Administrative Officer
You got it. Yes.
John Pancari — Evercore ISI — Analyst
Got it. Okay, all right. And then lastly just one question around your tech side of the shop, just curious in terms of — if you can update us on your — the size of your tech budget and how that’s been growing annually and then perhaps how much is split between growing the bank versus running the bank? Thanks.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Sure. So broadly our spend is about $800 million a year, of that about $200 million is spent on development. Of the $200 million, about half of it is client facing, the other half is core. One of the great things is we’ve been updating our core technology over a long period of time and we actually have to spend a little less in that category, which frees up more dollars for some of the development on the front end. The other thing that we also have been doing is we’ve been buying a lot of niche businesses that have actually brought a lot of technology to us. Obviously, Laurel Road would be an example of that, AQN would be an example of that. And that’s — that’s really tech investment that is outside of what we would think about in terms of our tech budget.
John Pancari — Evercore ISI — Analyst
Got it. Very helpful, Thanks, Chris.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
Sure.
Operator
And with no further questions, I’ll turn the call over to you, Mr. Gorman, for any closing comments.
Christopher M. Gorman — Chairman, Chief Executive Officer and President
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, and we appreciate everybody’s time. Thank you. Goodbye.