Hancock Whitney Corporation (NASDAQ:HWC) Q3 2020 Results Earnings Conference Call October 20, 2020 5:00 PM ET

Company Participants

Trisha Carlson - EVP, Investor Relations Manager
John Hairston - President, Chief Executive Officer
Mike Achary - Chief Financial Officer
Chris Ziluca - Chief Credit Officer

Conference Call Participants

Michael Rose - Raymond James
Brett Rabatin - Hovde Group
Kevin Fitzsimmons - D.A. Davidson
Catherine Mealor - KBW
Brad Milsaps - Piper Sandler
Ebrahim Poonawala - Bank of America Securities
Matt Olney - Stephens
Jennifer Demba - Truist Securities

Operator

Good day, ladies and gentlemen and welcome to Hancock Whitney Corporation's third quarter 2020 earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. As a reminder, this call may be recorded.

I would now like to introduce your host for today's conference, Trisha Carlson, Investor Relations Manager. You may begin.

Trisha Carlson

Thank you and good afternoon. During today's call, we may make forward-looking statements. We would like to remind everyone to carefully review the Safe Harbor language that was published with the earnings release and presentation and in the company's most recent 10-K and 10-Q, including the risk and uncertainties identified therein. You should keep in mind that any forward-looking statements made by Hancock Whitney speak only as of the date on which they were made.

As everyone understands, the current economic environment is rapidly evolving and changing. Hancock Whitney's ability to accurately project results or predict the effects of future plans or strategies or predict market or economic development is inherently limited. We believe that the expectations reflected or implied by any forward-looking statements are based on reasonable assumptions, but are not guarantees of performance or results and our actual results and performance could differ materially from those set forth in our forward-looking statements. Hancock Whitney undertakes no obligation to update or revise any forward-looking statements and you are cautioned not to place undue reliance on such forward-looking statements.

In addition, some of the remarks this afternoon contain non-GAAP financial measures. You can find reconciliations to the most comparable GAAP measures in our earnings release and financial tables. The presentation slides included in our 8-K are also posted with the conference call webcast link on the Investor Relations website. We will reference some of these slides in today's call.

Participating in today's call are John Hairston, President and CEO, Mike Achary, CFO and Chris Ziluca, Chief Credit Officer.

I will now turn the call over to John Hairston.

John Hairston

Thank you Trisha and good afternoon everyone. We are very pleased to report results today that reflect the execution of the derisking strategy we implemented in the first half of 2020. Earlier this year, we absorbed the impact of building a strong pandemic-related reserve, issued additional subordinated debt and downsized future risk by divesting approximately $500 million in energy credits. With those actions taken, we have returned to profitability this quarter. We expect to return to profitability and derisking strategy should lead to improved returns for our shareholders.

Net income of $79 million or $0.90 per share reflects performance in line with our third quarter expectations for operating in today's pandemic environment. Pre-provision net revenue was up 7% linked quarter and our provision for credit losses returned to a more normalized level. NIM was flat quarter-to-quarter. Fees improved across all business lines and we kept expenses under control.

Today, our reserve for loan losses is a solid 2.16% or excluding PPP loans 2.4%. We believe, at this point, we are adequately reserved for potential losses in our loan portfolio, including the impacts COVID-19 could have on our clients. Loans declined almost $400 million, with approximately half the reductions from refinancing mortgage balances in home equity lines into the secondary markets and a continued drawdown of the indirect portfolio. Our expectation for the near-term is that clients will continue to stay on the sidelines until the election has been decided and until a widely distributed vaccine is available and accepted as reliable.

So while our expectations for loan growth are a bit temporary in the short-term, core deposits on the other hand remains resilient despite a continued narrowing of risk. The reliability and continued growth of core deposits allowed a continued drawdown of wholesale and time deposit funding which in turn helps to support our NIM. Despite the ongoing challenges for businesses operating in the pandemic environment, several credit metrics showed signs of improvement this quarter. We reported a significantly lower level of provision expense, a lower level of net charge-offs and a 7% decrease in nonperforming loans.

Deferrals remained at manageable levels with less than $300 million in active deferrals and falling compared to $3.6 billion number at the peak in May. As expected, criticized loans exhibited pressure of $64 million or 18% this quarter. A little less than 60% of the increase is related to the hospitality sector directly impacted by COVID-19. We expect more credits will move to criticized over time due to COVID but feel we have adequately reserved, thanks to our posturing in the first half of the year.

Today, we can confidently report that our balance sheet reflects less risk with a strong reserve, resilient core deposits and solid capital metrics. We have began rebuilding the capital spent in the first half of the year with a tangible common equity ratio of 20 basis points to 7.53% or 8.12% excluding PPP loans. I expect TCE will approximate 8% by year-end 2020. We will continue to consult with examiners on the quarterly dividend and our intent remains to continue paying dividends at current levels with Board [confirms] [ph].

Before I turn the call over to Mike, I want to mention the impact from this year's hurricane season. Three storms hit our markets this year with two storms taking virtually the same path over Southwest Louisiana and one storm hitting the beach towns of Gulf Shores and Orange Beach in Alabama and Pensacola MSA in Florida. We know it has been a difficult summer for many of our clients and colleagues in these markets.

I specifically want to thank the hundreds of our team members who volunteered to operate locations while fellow bankers secured their homes and most locations reopened under generator power the day after the storms hit. Our volunteers cooked over 55,000 meals for citizens and businesses in the impacted areas once again beginning typically 24 hours after storm winds subside. We will continue to support our clients, communities and our colleagues in these areas. Despite thee hurricane in six weeks, we expect no material provision expense related to these three storms.

I will now turn the call over to Mike for additional comments.

Mike Achary

Thanks John. Good afternoon everyone. So as John noted, earnings for the third quarter totaled $79.4 million or $0.90 per share, obviously a vast improvement over the second quarter and a nice return to profitability for the company. As a reminder, the second quarter's loss of $117 million included a large provision of nearly $307 million, $160 million of which was related to the energy loan sale and an additional $147 million that was mainly COVID-19 related.

Our PPNR came in at $126.3 million, so up a healthy $7.8 million or 7% from last quarter. Consistent with our prior guidance, our provision returned to a more normalized level at $25 million. The provision covered our net charge-offs of $24 million with the remainder building reserves slightly. For the fourth quarter, we expect the provision to again cover our net charge-offs. So at this point, we do not expect to significantly build or release reserves.

Our balance sheet was stable at $33 billion. Loans were down $388 million with deposits also down to just under $292 million. The decrease in loans was reflected across all markets, as well as in mortgage, indirect and energy. There were no PPP loans forgiven in the quarter. We currently expect that PPP loans will remain relatively stable through the end of the year and then begin to significantly decline in first quarter of 2021 as a forgiveness process ramps up.

The primary driver of the $292 million drop in the EOP deposits was related to our balance sheet strategy to reduce some of our excess liquidity. So while our EOP deposits were down $292 million, $392 million was related to a reduction in more costly brokered CDs. Our mix of deposits was favorable this quarter as well with increases in DDA and other less costly deposit categories and then decreases in more expensive retail and brokered CDs. As a result, we were able to reduce our cost of deposits nine basis points from last quarter.

We also moved about $600 million of cash held at the Fed to the securities portfolio, picking up about 107 basis points of yield. This proactive approach to balance sheet management led to a stable NIM for the quarter of 3.23%. Looking forward, we expect the NIM to continue to remain relatively stable in the fourth quarter.

Slide 24 is the greenest slide in the deck. All areas within fee income improved linked quarter. While not at pre-pandemic levels, increased activity in service charges and card fees led to increases in fee income. Mortgage banking fees were up again and were a significant contributor to the quarter's overall fee income growth as with specialty income, specifically BOLI. At this point, we do not expect similar levels of mortgage fees or specialty income in the fourth quarter.

We maintained our focus on expense control and reported a lower level of expense this quarter with incentive pay and payroll taxes both down. During the third quarter, we also saw an overall decline in headcount of 138. Initiatives we implemented during the quarter, such as the closure of our trust offices in New York and New Jersey and a focus on staffing led to higher vacancy and attrition levels. We also announced the consolidation of 12 branch locations in Mississippi and Louisiana in late October. As these expense reduction efforts continue, we expect expenses to be down in the fourth quarter as well.

As John noted, we began rebuilding capital this quarter. Our CET1 ratio was 10.29%, up 51 basis points from June and total risk based capital came in just under 13% at quarter-end.

With that, I will turn the call back over to John.

John Hairston

Thank you Mike. Now, operator, let's open the call for questions.

Question-and-Answer Session

Operator

[Operator Instructions]. Our first question comes from Michael Rose with Raymond James. Your line is now open.

Michael Rose

Hi. Good afternoon guys.

John Hairston

Hi Michael.

Michael Rose

Hi. How are you? I wanted to start with the increase in criticized commercial loans this quarter. I assume some of it is just migration from some of the at-risk exposures. So if we can get some color there? And then if you could give some color on some of the healthcare credits that were charged off this quarter, that would be great? Thanks.

John Hairston

Okay. Sure. Chris, do you want to talk to that?

Chris Ziluca

Sure. Yes. As I indicated in some prior discussions, we really didn't anticipate a lot of migration during the first couple of quarters because we kind of got our arms around some of the specific account level issues. We knew that there was going to be some migration starting to show in Q3. So you are right. A reasonable portion of the migration this quarter was our ability to better assess the facts and circumstances of some of the credits in the sectors under focus as well as more broadly. And so we did see some migration due to COVID.

John Hairston

Yes. And Michael, this is John on the healthcare question. The healthcare charge was almost all one credit that while not specifically healthcare credit, it was a very large percentage of now all of its income from healthcare offices. And while they were shutdown, it was also somewhat egregiously affected. So we opted while it was still operation to charge that credit down.

Michael Rose

So more of a real estate credit then?

John Hairston

No. Services credit.

Michael Rose

Service. Okay. Got it. And then maybe just a follow-up for Mike. If you can give us the dollar amounts that you would expect would come out of the run rate for fees and expenses for some of the elevated items this quarter, that would be appreciated, just from a run rate perspective? Thanks.

Mike Achary

Mike, I am not sure I heard the last part of the question.

Michael Rose

Just what comes out of the run rate for the elevated expenses this quarter? Or what will come out for the severance cost and stuff like that for the closing of the offices? Thanks.

Mike Achary

Sure. Yes. So for the third quarter, in terms of any one-time cost, they really did offset one another. So the severance that we had as well as some of the cost related to the closure of some of the facilities we called out was really offset by the reduction in incentive comp and a few other items that were really kind of left over from the MSL acquisition. So all of those items actually did offset one another such that the run rate for the third quarter going forward really was the number that we reported.

Now, in the fourth quarter, we do expect to continue to execute on the same kinds of cost initiatives, cost-saving initiatives that we did in the third quarter. So we do expect, all things equal, for expenses to be down in the third quarter, probably at least $2 million or so.

Michael Rose

You mean in the fourth quarter? Correct?

Mike Achary

Fourth quarter, I am sorry. 4Q over 3Q.

Michael Rose

Yes. Okay. And then what was the BOLI amount this quarter?

Mike Achary

It was right at about $3 million. And again a lot of that was mortality gains that we don't expect to repeat in the fourth quarter.

Michael Rose

Perfect. Thanks for taking my call and questions.

John Hairston

You bet, Michael. Good to hear from you.

Operator

Thank you. Our next question comes from Brett Rabatin with Hovde Group. Your line is now open.

Brett Rabatin

Hi. Good afternoon everyone.

John Hairston

Hi Brett.

Brett Rabatin

I wanted to ask about the growth outlook. And I know that things are a bit uncertain and you have obviously been through a challenging year in terms of the energy book and maybe the focus has been more on making sure credit is good. I guess I am just trying to figure out what the path for growth might be from here? And what loan categories you want to grow and what kind of the loan pipeline looks at this point?

John Hairston

Okay. This is John. I will start and Chris or Mike may want to add color. But let's talk first about the decline from the second quarter to third quarter. It is unusually somewhat evenly split between consumer purpose credit and business credit. Usually, it's not quite that even when we see growth or decline. But the mortgage refinancing activity continued to outperform in 3Q. And In fact, we had record applications after we thought, surely, it would subside a bit from the record pace in second and first quarter but it didn't and actually went up.

And so the impact of that refinance activity, to some degree, took out balances that were already in our mortgage portfolio as well as home equity lines that were over on the consumer side. So about half of the overall reduction that you see categories in the investor deck actually [sourced] [ph] that the mortgage refinance and the continued wind down of the indirect portfolio. And looking at business credits, it was really somewhat across the board and with very few deferrals left. And that fell pretty precipitously through the third quarter.

The amortization rate has essentially been outpacing production which is roughly, for third quarter, 50% of what it would have been the previous year's third quarter. So a significantly lower level of production. I would say, that causes about or at about 80% demand and about 20% tie-in to credit risk appetite while there is still a little bit of uncertainty. So when you look at growth categories in the future, I think those things that will be somewhat obvious. The sectors that are under focused while there is may be a little more demand there. It's not something that we are excited about growing, not right now.

And that, despite the fact that the hospitality book, through most of our footprint, has actually been somewhat resurgent as we went through the third quarter and is performing better than perhaps we would have expected a quarter ago which was better than a quarter before that. But at this point, we just don't think that the crystal ball is clear enough to step on the gas too far in the hospitality rated sector.

So I think there's life in particular sectors of commercial real estate in certain markets. There's life in the consumer book that is related to real estate secured credit as valuations begin to respond to tightness in the market. And then in various categories of C&I outside those sectors under focus. So I don't want to give the idea that we are not interested in production. We are keenly interested in production.

But at this point in time, we are focused on making sure it's sturdy from a credit risk perspective and in markets that we feel like are going to resurge a little bit faster than some of the ones where we may have a larger concentration today.

Anything to add to that, Chris or Mike?

Chris Ziluca

The only thing I would add, John, is that certainly the areas that we are not interested in growing continue to be the ones that we kind of called out in the past. So indirect, mortgages you just mentioned and then certainly energy.

Brett Rabatin

Would it be fair to assume that you are expecting originations to more than offset payoffs from here?

John Hairston

It's a little hard to tell. This is John again. 4Q, seasonally, can be daunting in terms of production offsets. And this particular fourth quarter, with the election uncertainty, has created what appears to be more consternation than one would have expected. A lot of that is because people don't know how to model taxes next year. So while it may be priced into the market from an investor point of view, it's still a degree of uncertainty for those people considering retooling and expanding.

The only exception to that is, I think just because money is so cheap we are seeing a fair amount of increase in real estate related expansions. But they are not big enough at this point in time to offset paydowns. Now that being said, there is a fairly significant debate internally over where the trough actually happens. I don't want to get too much into it because we haven't really reached a consensus. And I don't think we will until after the election. But certainly the pace of paydowns versus production is slowing and I think perhaps the peak of that offset might have been in 3Q. But it's way too early to call out when the inflection point really occurs.

Brett Rabatin

Okay. Great, Thanks for the color.

John Hairston

Of course. Thank you.

Operator

Thank you. Our next question comes from [indiscernible] D.A. Davidson. Your line is now open.

Kevin Fitzsimmons

Hi. Good evening everybody.

John Hairston

Hi Kevin.

Kevin Fitzsimmons

I guess, if we can look a little further out on the margin and I don't know if that's tough to do. There's so many moving parts. But beyond fourth quarter, as we look into next year and let's for now, put PPP to the side, but I would think, if you think you start growing the loan portfolio over time, some of the excess liquidity continues to fall off. Do you envision being able to keep the margin stable over the next several quarters? Or is that just too tall an order here, if we are in a lower for longer rate environment? Thanks.

Mike Achary

Yes. Kevin, this is Mike. So certainly the guidance that we have given kind of go forward really just goes for the fourth quarter. And we feel pretty certain around our ability to maintain the NIM somewhere around where it is right now, so 3.23%. Going into 21, at this point, the visibility and the clarity is pretty murky for the reasons you just mentioned, as well as a whole bunch of other things out there, including when meaningful loan growth might resume, things like a full opening of all of our regional economies. Certainly that's very dependent upon a vaccine that's available and effective as well as the rate environment. And certainly, if we assume the rate environment stays where it is right now, growing the margin in that environment certainly is going to be a challenge. But it really is too soon, I think, for us to step out there with guidance right now beyond the fourth quarter. So we will talk a bit more about 2021 guidance after our fourth quarter release.

Kevin Fitzsimmons

Okay. Thanks Mike. And you had mentioned before about PPP forgiveness process ramping up and how we should look at the loans staying roughly stable in fourth quarter but then falling off relatively quickly in first quarter. So is it fair to assume the bulk of the remaining origination fee, we should expect to flow through to the margin, mostly in first quarter of 2021?

Mike Achary

Yes. They will certainly, under the scenario we have outlined related to the forgiveness process and how it plays out, if it does play out that way, then certainly we will have some fee recognition a little bit on the outside basis in the first quarter of next year. Now, to the extent that we do have any forgiveness in the fourth quarter, then there will be some fees that will be pulled forward to the fourth quarter from the first quarter of next year. But as of right now, we wouldn't assume that to be a material amount.

John Hairston

And Kevin, if it's helpful, there were no PPP loans repaid in 3Q. And thus far, as of this morning, in fourth quarter only about $1 million have been paid down from SBA. But there's $105 million that have already been submitted and we are waiting for resolution. So it's definitely picking up. How quickly all those get resolved and repaid is kind of tough to forecast, but it does appear that SBA is beginning to expedite that process. So I don't think any of us have clarity as that what that spike is at the beginning.

Mike Achary

And that could spike throughout. So who knows?

Kevin Fitzsimmons

Let me just ask one quick question on the statement on the dividend. I just want to be clear. Are you guys just really kind of including that in there? What does it signal? Because on one hand, I thought you said pretty clearly, you intend to pay it. I think last quarter on this call, it came across that it might be at risk. And then you guys came out pretty definitively and said, you intend to pay it now. Capital is increasing, you are back to profitability. So is that more just out of an abundance of caution, you are always having that conversation in consultation with regulators on how we look at that?

Mike Achary

Yes. Absolutely, Kevin. So it goes without saying that our number one capital priority at this point in time, if earnings support, to the common dividend. That was the case last quarter and that will be the case, really on a go forward basis. Because of the losses that we had in the first half of the year, we go through a consultation process with the Federal Reserve and that will continue at least for another couple of quarters. But as we said in the earlier comments and we reiterated right now, we are very confident in our ability to continue the common dividend at the current levels.

Kevin Fitzsimmons

Great. Thanks Mike. I appreciate it.

Operator

Thank you. Our next question comes from Catherine Mealor with KBW. Your line is now open.

Catherine Mealor

Thanks. Good evening.

John Hairston

Good evening Catherine.

Catherine Mealor

One follow-up on the margin. I am just thinking about loan yield. So if I back out accretable yield and PPP, I am getting a loan yield of around $388 million. So how should we think about where new and renewed loan yields are going to revert this flow, but just as you are kind of thinking where the portfolio is churning, are we close to the bottom on new loan yields? And how much kind of more downside do you think we have from that $388 million?

John Hairston

Not sure how much downside we have, but certainly your math is correct in kind of backing down to about to $388 million yield or so. And that also happens to be the yield that in the third quarter we put new loans on the books. So our production levels were about $900 million or so and those loans came on at about $387 million or so. So there should be good support to maintain that loan yield, more or less going forward. Now, of course, our NIM for the quarter was flat at 3.23%, but if we back out our purchase account accretion, the core NIM was actually up a basis point. So obviously, that's something that's variable.

Catherine Mealor

Got it. That's helpful. And then, your effective rate is 19%. How do you think about what your tax rate could look like if the corporate tax rate went up to 28%?

John Hairston

Well, that's something we are still working through, Catherine. So you are correct again. I mean the third quarter effective rate came in at 19%. We do expect that rate to be a bit lower in the fourth quarter as we are kind of focused on different tax strategies in terms of evaluating and implementing them, but we are not ready right now to come out with what the fourth quarter effective tax rate might be. And as we move into next year, if it does go up to 28%, we do have a deferred tax liability at the end of the third quarter that stands at about $47 million. So certainly under that scenario, that will have to be evaluated. But no guidance on that just yet.

Catherine Mealor

Okay. Great. Thank you.

John Hairston

Okay.

Operator

Thank you. Our next question comes from Brad Milsaps with Piper Sandler. Your line is now open.

Brad Milsaps

Hi. Good evening guys.

John Hairston

Hi Brad.

Brad Milsaps

Mike, I appreciate all the details around the branch consolidation and some of your headcount reduction. Just kind of by curious, it's in the bigger picture, is this sort of the tip of the iceberg on what you guys could potentially have in the works in terms of maybe additional branch consolidation? I know you are not give me guidance for next year yet, but just kind of thinking about how you are looking at sort of your expense structure from a bigger picture standpoint? Is this sort of the beginning of something larger? Or is this kind of the end of a plan that you guys have been working on for a while?

Mike Achary

No, absolutely not the end. So we continue to focus on these kind of things, Brad. And what you saw us do in the third quarter, I think that you will see us do similar kinds of things in the fourth quarter. But there's nothing, obviously, we are ready to announce right now. And then on kind of a go forward basis, we continue to evaluate other options. And you know that could be in the form of some larger efficiency kind of exercise. But again, those are things we are evaluating right now and certainly not in a position to announce.

Brad Milsaps

Okay. And then wanted to follow up on some of your comments around the bond purchase. It looks like a lot of that occurred maybe late in the quarter, if I am looking at the averages correct. Can you give you me a sense of kind of where the average yields were of the bonds that you are putting on kind of relative to the current yield of the book?

Mike Achary

Sure, I will be glad to. So the bond portfolio finished the quarter right at about $6.8 billion. So it was up just a little bit under $700 million quarter-over-quarter. We like to keep the bond portfolio somewhere between 20% to 25% of average earning assets. So kind of it's right smack in the middle of that range, if you will.

The yield was down 16 basis points, of course. Nine of that was related to higher premium amortization in the quarter and then the other seven was basically lower reinvestment yields. So the total amount of money that we reinvested back into the bond portfolio was just north of about $1 billion.

About $400 million of that was really just reinvested cash flows from prepayments and those were up pretty significantly, as you can imagine, in the third quarter compared to the second. And then the other $600 million that I called out earlier was money really that we really removed from the Fed earning 10 basis points to the bond portfolio. We picked up about 107 basis points, I mentioned earlier.

So the kinds of things that we invested back into in the bond portfolio really is characteristic of the portfolio itself. Probably about two-thirds of that money got reinvested back in mortgage backed securities. The yield there was about 119 basis points. And then there was another quarter or so that we reinvested in commercial mortgage-backed. The yield there was about 105 basis points.

Brad Milsaps

Great. Thank you guys. I appreciate it.

Mike Achary

Sure.

Operator

Thank you. Our next question comes from Ebrahim Poonawala with Bank of America Securities. Your line in now open.

Ebrahim Poonawala

Good afternoon guys. I just had a couple of follow-up questions, one on expenses. Did I hear you correctly, Mike, that you expect, the decline that you expect in the fourth quarter is about $2 million sequentially in terms of the expense on that?

Mike Achary

Yes. That's correct, Ebrahim.

Ebrahim Poonawala

And should it not be more than that, given all the actions you have taken? Or was some of that already baked into third quarter numbers, which is why we don't see a greater impact from the expense savings on the branch and the headcount reductions?

Mike Achary

Yes. There is certainly some of that. But a lot of it is timing. And for example, the 12 branches that we announced, the consolidation, those won't be closed until really the middle of the fourth quarter. So you won't see a full impact, a full quarter's impact of that really until you get to the first quarter of 2021. And really the same goes for some of the attrition levels that we were able to achieve as well as the vacancy rates. So I think most of that you will see kind of a full quarter and a full year's impact in 2021. So again, once we close the fourth quarter on the fourth quarter call, I would expect that we will give a little bit more granular guidance around expenses as well as other items.

Ebrahim Poonawala

Got it. I guess I would assume there is some pick up on the expense savings if mortgage banking is slower in the fourth quarter and 1Q. So you should get some benefit there as well.

Mike Achary

Right. That's correct.

Ebrahim Poonawala

And I guess just moving to margin, I guess your response to Catherine's question around the core loan yield. So when we look at sort of balance sheet and the pressure from the lower interest rate backdrop, is it fair to say that it's essentially tied to the investment securities book, given that loan yields are close to a bottom and funding cost probably has a little bit more room lower. But beyond all of this, the incremental pressure point is essentially the securities book?

Mike Achary

Yes. I think so, but if we look at the fourth quarter and again our ability to keep our NIM flat quarter-over-quarter, kind of the tailwinds that we think about the things that we will be able to continue to execute on that, will offset things like the lower yield in the bond portfolio. Deposit costs, for one. I mean we had, I think, a pretty good run this year being able to proactively reduce our deposit cost.

We got it down nine basis points, third quarter over second quarter. The previous quarter was down 30. So at the level we are at now, certainly we are beginning to run out of runway at 20 basis points. But we do believe that there's additional room to reduce the cost of our deposits. And I think you will see that in the fourth quarter. We kind of called out a forecast of 17 basis points by December and that's the number that we are kind of hanging our head on. But certainly there's some ability or capability to outperform that number a little bit. So that continues to be one of the linchpins, if you will, of how we are able to keep our NIM basically stable at 3.23%.

In terms of shedding liquidity, the vast majority of that, I think, has really kind of played out to some extent. But there's still some opportunity to run off some liquidity, which is certainly going to be helpful to the NIM. And then we have great support from our PPP loans. And I think as I mentioned earlier, if there's any PPP loans forgiveness that happens in the fourth quarter, that will be helpful for the NIM because that will certainly pull forward some fees from first quarter of 2021.

So those are things we are thinking about in kind of how we think about our ability to keep the NIM stable in the fourth quarter.

Ebrahim Poonawala

Got it. That was helpful. And yet another bank this morning talked about 80% of PPP loans sitting in deposits. What would that number be for you? And should we expect a good amount of deposit run off when PPP loans are forgiven?

Mike Achary

Well, certainly, I think as the PPP loans are forgiven, we will see money certainly move from the loan portfolio to other areas in terms of average earning assets. How much of that flows out to the deposit base, certainly you would think that some would, maybe a material amount. But until it plays out, it really is hard to tell.

John Hairston

Ebrahim, this is John. We tend to look at it more as when spending picks up as opposed to when PPP forgiveness actually happens. And so far, the book has been a lot stickier than we actually anticipated, which has been somewhat of an impediment to deposit service charge, right. Because they didn't set those fees and recurring monthly charges and our fees have been less because the average balance has been higher. So there are puts and takes to when that flow actually begins to occur. But at this point in time, it's been quite resilient, which has in turn helped us to pay down some of the more expensive funding that Mike mentioned earlier.

Ebrahim Poonawala

Got it. Thanks for taking my questions.

John Hairston

Yes. Thank you so much.

Operator

Thank you. Our next question comes from Matt Olney with Stephens. Your line is now open.

Matt Olney

Hi. Thanks guys. I want to circle back on credit. And John, you mentioned that criticized loans increased around 18% this quarter. And it sounds like you expect additional migration in the near term. I am curious what the expectations are from here? Are we talking another 18%? And then just to level off, I am trying to figure out how far along you are in the evaluation of credits that could potentially be downgraded?

Chris Ziluca

Yes. So this is Chris Ziluca. I think we are being cautious in many respects in how we are addressing it because there is always unknown things that can kind of surface that depending on whether or not they roll back any sort of closures of businesses and things like that. But we have gone through our full portfolio and done a pretty thorough analysis of all the credits in our portfolio. We feel pretty good about how we have risk weighted the loans thus far.

So although as you can imagine, given both the COVID and the economic cycle we are in, there will be some impact to customers and that it will be somewhat uneven. We really don't see, at this stage and there is plenty of days in the quarter, so any sort of significant migration downward. There will be some and then there will also be opportunities to upgrade some credits. Some of our credits have actually done pretty well during the cycle.

But as we work through the deferral process and the structured solutions that we put in place, we have used that opportunity in addition to our normal portfolio management process to really be certain about our risk rating. So it's a little bit of a roundabout answer. But the reality is that I think the bigger migration, at this point, we saw in Q3 and all those things can surface, I don't think we are going to see quite the level of migration at this juncture.

Matt Olney

Okay. That's helpful.

John Hairston

Yes. And Matt, this is John. Part of the reason for what Chris shared and it's obviously based on what we know today, is that about 60% of that migration is specific to this hospitality and a lot of that migration was hotel which is understandable given the situation that we are in. And if you look out over the footprint, occupancy levels tend to be 50%, 60% or better projected for next year, which is obviously tremendously better than we saw in the middle parts of 2020.

So that migration that happened this year will probably be led by hotels and as we get into next year, it's likely to be things like attractions, event management organizations, people that really are driven by festivals and convention and tradeshows more narrowly. And so there will be several bumps depending on what sector that it is. But I think I would agree with Chris.

Obviously, as a company who is looking to improve its image and asset quality given our energy experience over the last five years, the review has been in depth and the expectation and candor and the way we deal with credits is very high. And so I think the 18% migration very accurately reflects what we actually have this quarter. There is no reaching deeper for a fact that will push anything or kicking the can down the street. So I think it is exactly what we stated.

Matt Olney

Okay. All very fair points. And then going back to the healthcare credit that was charged-off this quarter. I think in the past you have divided healthcare into different segments. Which segment was this from? And was this out of the Nashville office? Thanks.

John Hairston

It was not. And obviously I don't want to get too much into one credit. That will be a little inappropriate. But I can tell you it's not as a national group. It was a regional credit. And it was an organization that while not in the healthcare business, derived their income from a multitude of offices that are in the healthcare business. And so with as much closure as we had across our footprint, a lot of physicians and dental offices were basically closed for the better part of four or five months. And so with that revenue curtailment, we felt the P&L was in a position of where we were better off going ahead and taking the treatment for the account now.

Matt Olney

Okay. That's helpful. Just one more for me. On slide 15, you gave us a nice graph there of the deferrals and those are obviously coming down and have like about $222 million of structured solutions. Do you still anticipate that amount to grow as we get towards the year-end? Or you think that $222 million will be relatively stable between now and year-end?

Mike Achary

Yes. I will respond to that specifically. For the most part, I think we have addressed the structured solutions necessary for a lot of our customers. I think we will continue to look at that as customers that are still in deferrals, going at the deferrals there of $284 million and if structured solutions is really the right answer for them, then we will entertain it. But I don't really anticipate that number increasing substantially between now and the end of the year. It might go up certainly as we try to put things in the right place and really do the right thing for the customer and for ourselves. But in reality, I think we spent a vast majority of our time in Q3 trying to put the building box in place for being able to deal with 2021.

John Hairston

And that was part of the process as we try to evaluate which of the structured solutions when you have a criticized credit and which did not. So that's what we are doing.

Matt Olney

Okay. Great.

John Hairston

Did that help you, Matt?

Matt Olney

Yes. That's great guys. Thanks a lot. I appreciate it.

John Hairston

Yes, sir. Thanks for the questions.

Operator

Thank you. Our next question comes from Jennifer Demba with Truist Securities. Your line is now open.

Jennifer Demba

Thank you. Good evening.

John Hairston

Hi Jennifer.

Jennifer Demba

Just curious as to what kind of a trend you think you will see in the fourth quarter in service charges and card income and mortgage fees? Are you going to continue to see more improvement in those core banking fees? And do you think seasonality is going to hurt the mortgage income line?

John Hairston

Well, that's a terrific question. And this is John. When we look at fee income, obviously third quarter was much better than second quarter. And even as we take out the outperformance once again in secondary mortgage and in the other income categories, there were a number of them, BOLI, we talked about because it tends to be more lumpy. And so Mike wanted to call that one out. But when you get at other categories, they were all up.

I mean service charges were up 16%. Card fees up 7%. Annuities and investments up 10%. But when you compare that same run rate to the first quarter of last year, service charges were down 19%. And so that would indicate that there's still a fair amount of upside in those fee income categories with the exception of secondary mortgage as that production begins to wind. So I would look for a little bit of improvement over time in those categories that I mentioned because I think there is still upside there as average balances and accounts come down and as we have more foot traffic into the locations meeting with various investment team members that generate both annuities and investment accounts.

So we just need more traffic to get that particular number up. So I think as deposits migrate out or gets spent, we will see stronger service charge income. As more people get into the seasonal season for shopping, we will see card fees go up. And then investment annuities will go up when we can see more traffic. And that's been the toughest one to predict.

In terms of secondary, you asked that question last quarter and it was a great question then and I think I said, every time we say we think it will go down, it goes up again. So I am almost hesitant to say it will go down other than the basis that the secondary mortgage income typically seasonally drops off as we get into the holiday season. So I think for that reason, if no other reason alone, we should see it mediate down or moderate down a little bit more than it did last year same time.

Did I answer your question?

Jennifer Demba

Yes. Thank you John. I appreciate it.

John Hairston

Okay. You bet. Thank you for the questions.

Operator

Thank you. I am not showing any further questions at this time. I would now like to turn the call back over to John Hairston for closing remarks.

John Hairston

Okay. Thank you Joelle for running the call. And thanks to everyone for your interest. Be safe and we look forward to seeing you live sometime in the future. Take care.

Operator

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.