Community Bank System, Inc. (NYSE:CBU)
Q3 2022 Earnings Conference Call
October 24, 2022 11:00 AM ET
Company Participants
Mark Tryniski – President and CEO
Joseph Sutaris – EVP and CFO
Dimitar Karaivanov – EVP of Financial Services and Corporate Development
Conference Call Participants
Alex Twerdahl – Piper Sandler
Eric Zwick – Hovde Group
Chris O’Connell – KBW
Matthew Breese – Stephens, Inc.
Manuel Navas – D.A. Davidson
Presentation
Operator
Welcome to the Community Bank System Third Quarter 2022 Earnings Conference Call. Please note that this presentation contains forward-looking statements within the provisions of the Private Securities Litigation Reform Act of 1995 that are based on current expectations, estimates and projections about the industry, markets and economic environment in which the company operates. Such statements involve risk and uncertainties that could cause actual results to differ materially from the results discussed in these statements. These risks are detailed in the company’s Annual Report and Form 10-K filed with the Securities and Exchange Commission.
Today’s call presenters are Mark Tryniski, President and Chief Executive Officer; and Joseph Sutaris, Executive Vice President and Chief Financial Officer. They will be joined by Dimitar Karaivanov, Executive Vice President of Financial Services and Corporate Development for the question-and-answer session. Gentlemen, you may begin. Please go ahead.
Mark Tryniski
Thank you, [Marlese] (ph) Good morning, everyone. Hope all is well, and thank you all for joining our third quarter conference call. You can see from the release, this was one of the best operating quarters we’ve ever reported. In fact, I believe it is the best quarter we’ve ever reported, absent last year’s post COVID reserve releases and PPE revenues in Q1. Earnings for the quarter were driven by improvement across-the-board, including solid loan growth, a growing margin, higher noninterest revenues in our Banking and Insurance segments, an improved efficiency ratio, and solid credit quality.
Loan growth was across all of our portfolios, and that momentum continues. 5% growth in the quarter follows 4% growth in Q2, so continues to be a performance highlight delivered by our credit generation teams. The larger loan loss provision was driven almost entirely by loan growth, and deteriorating qualitative factors in the CECL model. Deposit costs remain contained and average balances were flat for the quarter with public fund outflows of about $300 million, offset by growth in consumer and business balances of $300 million.
Overall, GAAP EPS is up 8% over last year and PPNR is up 20%. Both numbers would be even greater ex-PPP revenues in last year’s quarter. So we could not be more pleased with this quarter’s results and believe we are well-positioned heading into Q4 as well in terms of our pipelines and margin expectations. Looking-forward, we expect our current operating momentum to continue. Obviously, this is an unpredictable and volatile environment. But given our stable core funding base, a higher rate environment will continue to be additive to our results. Joe?
Joseph Sutaris
Thank you, Mark, and good morning, everyone. As Mark noted, the third quarter earnings results were solid with fully diluted GAAP and operating earnings per share of $0.90. These results were up $0.07 or 8.4% over the third quarter 2021 results of $0.83 per share. The improvement in operating results was largely driven by a significant improvement in the company’s net interest income, an increase in noninterest revenues and a decrease in weighted-average shares outstanding between the periods, offset in part by increases in operating expenses, the provision for credit losses and income taxes.
Adjusted pre-tax, pre-provision net revenue or adjusted PPNR per share, which excludes the provision for credit losses, acquisition-related expenses, other non-operating revenues and expenses and income taxes was $1.25 in the third quarter, up $0.21 or 20.2% over the prior year’s third quarter. Adjusted PPNR per share was also up $0.12 or 10.6% over the linked second quarter result of $1.13.
The company recorded total revenues of $175.6 million in the third quarter of 2022, this was up $18.7 million or 11.9% over the prior year’s third quarter and established a new quarterly record for the company.
Net interest income, the primary driver of the company’s revenue growth was up 17.8% or 19.2% over the prior year’s third quarter due to market interest rate related tailwinds, strong loan growth, and investment securities purchases between the periods. The company’s average interest-earning assets increased $1.08 billion or 8%, while the tax equivalent net interest margin increased 29 basis points from 2.74% in the third quarter of 2021 to 3.03% in the third quarter of 2022. Net interest income was also up $7.2 million or 7% over linked second quarter results, while the tax equivalent net interest margin expanded 14 basis points. Although interest expense was up $2.4 million over the prior year’s third quarter, the company’s average cost of funds was up just 6 basis points from 10 basis points in the third quarter of 2021 to 16 basis points in the third quarter of 2022. The company’s average cost of deposits remained low at 11 basis points for the quarter.
Noninterest revenues increased $0.9 million over the prior year’s third quarter, led by a $1.6 million or 9.7% increase in banking related revenues and a $1.3 million or 7.6% increase in wealth management, insurance services revenues. Banking noninterest revenues increased from $16.9 million in the third quarter 2021 to $18.5 million in the third quarter of 2022, driven by an increase in deposit service and other banking fees. The increase in wealth management and insurance services revenues was driven primarily by organic and acquired growth in the insurance services business, offset in part by a decrease in wealth management services revenues due to a challenging investment market conditions.
Employee benefit services revenues were down $2 million or 6.8% as compared to the prior year’s third quarter due to a decrease in asset-based employee benefit trust and custodial fees. Although asset quality remains very strong, the company recorded $5.1 million in the provision for credit losses in the third quarter reflective of strong loan growth and a weaker economic forecast. This compares to a $0.9 million net benefit recorded in the provision for credit losses in the third quarter of 2021. Comparatively, during the second quarter of 2022, the company recorded a provision for credit losses of $6 million, $3.9 million of which was due to the acquisition of Elmira Savings Bank during the quarter.
The company recorded a $108.2 million in total operating expenses in the third quarter of 2022 compared to a $100.4 million of total operating expenses in the prior year’s third quarter. The $7.7 million or 7.7% increase in operating expenses was driven by a $3.3 million or 5.3% increase in salaries and employee benefits, a $2.2 million or 19.8% increase in other expenses and a $1.2 million or 9.4% increase in data processing and communication expenses. On a combined basis, all other expenses increased $1 million between the comparable periods.
In comparison, the company recorded a $110.4 million of total operating expenses in the second quarter of 2022. The $2.2 million or 2% sequential decrease in quarterly operating expenses was largely attributable to a $4 million decrease in acquisition-related expenses, partially offset by increases in salaries and employee benefits, data processing and communication expenses, and other expenses. The effective tax rate for the third quarter of 2022 was 22%.
The company’s average earning assets increased $1.08 billion or 8% over the prior year from $13.53 billion in the third quarter of 2021 to $14.61 billion in the third quarter of 2022. This included a $2.07 billion or 49.4% increase in the average book value of investment securities and a $1.06 billion or 14.6% increase in average loans outstanding, partially offset by a $2.05 billion decrease in average cash equivalents.
Average deposit balances, which includes $522.3 million of deposits acquired in the Elmira acquisition, increased $830.9 million or 6.6% over the same-period. On a linked-quarter basis, average earning assets increased $140.5 million or 1%. Ending loans increased $398.9 million or 4.9% during the third quarter and $1.26 billion or 17.3% over the prior 12-month period. Exclusive of $437 million of loans acquired in connection with the second quarter acquisition of Elmira, ending loans outstanding have increased $824 million or 11.3% over the prior 12-month period despite a $156.2 million decrease in PPP loans.
During the third quarter, the company originated over $750 million of new loans at a weighted average rate of just under 5%. Comparatively, the book yield on the company’s loan portfolio was 4.22% during the third quarter. Asset quality remained strong in the third quarter. At September 30, 2022, nonperforming loans were $32.5 million, or 0.38% of total loans outstanding. This compares to $37.1 million or 0.46% of total loans outstanding at the end of the linked second quarter of 2022 and $67.8 million 0.93% of total loans outstanding one year earlier. The decrease in nonperforming loans as compared to the prior year’s third quarter was primarily due to the reclassification of certain pandemic impacted hotel loans from nonaccrual status back to accruing status. Loans 30 days to 89 days delinquent were 0.33% of total loans outstanding at September 30, 2022, up slightly from 0.29% at the end of the second quarter of 2022, but down slightly from 0.35% one year earlier.
The company’s regulatory capital ratios remained strong in the third quarter. The company’s Tier 1 leverage ratio of 8.78% was up 13 basis points in the quarter. This significantly exceeds the well-capitalized regulatory standard of 5%. The company has an abundance of liquidity, the combination of the company’s cash and cash equivalents, borrowing capacity at the Federal Reserve Bank, borrowing availability at the Federal Home Loan Bank, and unpledged available for sale investment securities portfolio provided the company with over $5.2 billion of immediately available sources of liquidity at the end of the third quarter. The company’s loan to deposit ratio at the end of the third quarter was 63.4%, providing future opportunity to migrate lower yield investment security balances into higher yield loans.
Looking-forward, we are encouraged by the momentum in our business, the company generates strong organic loan growth over the prior five quarters, the net interest margin expanded meaningfully in the quarter, asset quality remained strong, and the loan pipeline is robust. In addition, the pipeline of new business opportunities in the financial services business remained strong. In Q4 and 2023 we’ll remain focused on new loan generation, managing the company’s funding strategies in a rapidly changing interest rate environment, while continuing to pursue accretive low risk and strategically valuable merger and acquisition opportunities.
Thank you. I will now turn it back to Marlese to open the line for questions.
Question-and-Answer Session
Operator
We will now begin the question-and-answer session. [Operator Instructions] Our first question is coming from Alex Twerdahl from Piper Sandler. Alex, please go ahead.
Alex Twerdahl
Hey, good morning, guys.
Mark Tryniski
Good morning, Alex.
Joseph Sutaris
Good morning.
Alex Twerdahl
First off, I appreciate your comments on a robust loan pipeline going into the fourth quarter, obviously strong together a couple of quarters, a very nice loan growth. I’m just curious if you can spend a little bit more time just elaborating on what we should expect to see in terms of the funding of that loan growth or potential loan growth in the fourth quarter, just given sort of the ebbs and flows of the municipal deposits as well as any other cash flows that we should expect to see from the securities portfolio over the next several quarters?
Joseph Sutaris
Hey Alex, this is Joe, I’ll take that question. Yeah, it is quite possible that we wind up in a borrowing position at the end of the year, an overnight borrowing position given the robust loan growth in the pipeline. With that said, we do have about $600 million of securities, maturities and payments next year in 2023, which, if you kind of do the math on that, that can support about 7% growth rate on our existing loan portfolio. So although we’ll have moments throughout the year, we’ll be in a borrowing position. We also think that those securities cash flows will support a lot of that growth next year.
With regard to loan demand, it is still robust. I think the market is expecting that the higher-rate environment will squeeze out some of that demand next year, which, given our securities portfolio cash flows we think we could support a lot of that growth just by transferring effectively from an investment security earning asset into a loan earning asset.
Alex Twerdahl
Got it. So over the next — in the fourth quarter and early next year, we don’t expect much in the way of securities cash flows. If I remember correctly, the next big bullet comes — matures in May of next year. In the meantime, can you just remind us the ebbs and flows of the municipal deposits? I know that you see some inflows, I think until the end of October and then outflows after that, am I correct in that thinking? And maybe just help us quantify how to think about that?
Mark Tryniski
Yeah, Alex, we do have at least with New York State, which is the primary driver of our municipal flows, there is a tax collection season that occurs effectively at the end of the third quarter and we tend to be somewhat level, if you will, in terms of municipal deposits in the fourth quarter, although that can vary a bit from year to year. And then there’s another large tax collection cycle on property taxes in New York State in the month of January, so typically will see a little bit of an increase in tax collection and municipal deposit flows in the first quarter.
Alex Twerdahl
Okay. And then can you give us some color on what you’re seeing in terms of deposit pricing pressures in your market? I know historically you’ve done an extremely good job keeping those betas about as low as possible. I’m just wondering if you’re thinking through this cycle any differently about the complexion of the deposit mix?
Dimitar Karaivanov
Good morning, Alex. It’s Dimitar. We’re not seeing much in the way of deposits pressures in our markets at this point in time. With that in mind, I would say that it’s more likely that those will accelerate from where they are today as everybody is experiencing pretty robust loan demand. But right now no one has really moved in any meaningful way in our markets.
Alex Twerdahl
Got it. Thanks for taking my questions.
Dimitar Karaivanov
You’re welcome, Alex.
Mark Tryniski
Thanks, Alex.
Operator
And our next question comes from Eric Zwick from Hovde Group. Please, Eric, go ahead.
Erik Zwick
Thank you. Good morning, everyone.
Mark Tryniski
Good morning, Erik.
Joseph Sutaris
Good morning.
Erik Zwick
Wondering if I could just start on the net interest margin and what your thoughts are. You’ve talked a little bit about deposits beta and deposit pricing pressure maybe starting to creep in or some expectation that you might start to see that towards the end of the year into next, just given the fact that we likely have some more Fed funds rate increases coming here at the end of the year and maybe into next year as well. Just curious like your thoughts for the direction and if you could quantify any expectations for where you think the margin goes in 4Q and maybe the early part of next year?
Joseph Sutaris
Sure, Erik. This is Joe, I’ll take that question. So, we’ve had two consecutive quarters of pretty robust margin expansion in the 16 basis points in Q2 and it was 14 basis points in Q3. We don’t anticipate that margin will continue to expand at that rate, in part really it ties back to Alex’s question regarding just borrowings, we likely will be borrowing a little bit in the fourth quarter and obviously that’s at a little higher rate, significantly higher rate than our deposit base. So we’re not expecting a continued expansion, certainly at the last couple of quarters in terms of margin expansion. But the loan pipeline and the momentum we have should help a bit to support the current margin. So we could see a — we could see a tick up of couple of basis points in the quarter.
With that said, we do expect that some expansion of NII, net interest income, because of that — because of the deposit growth and the momentum we have. But probably and likely not at quite the rate that we’ve been growing at, at least in the last quarter, but we do expect continued expansion of NII. On a longer term basis, we still think that our expectations around mid-single digit kind of growth in loans as a more of a — a standard process as opposed to 1% or 2% in prior years will support margin expansion over time. But on a short-term basis, we don’t expect the continued levels of expansion.
Eric Zwick
That’s helpful. And maybe one quick follow-up question on this line of questioning. If loans can grow kind of mid-single digit, but you got opportunities to take some of the cash flows from the investment securities portfolio in 2023 to fund that, how would — how should we think about average earning asset growth over the next few quarters.
Joseph Sutaris
Yeah, I think that’s a fair question. I wouldn’t expect it to certainly increase at the levels that we saw during the pandemic. We just don’t have those types of flows to — from the deposit side to continue to support growth in the overall base. But the long side of the equation is, we get a higher run rate. So I would expect that overall earning assets could probably grow in the low-to mid-single digits, just based on the loan pipeline and expectations around growth as we move ahead, but certainly not the double digit levels we saw during the pandemic.
Erik Zwick
Thanks for the extra clarity there. And just moving on to credit, obviously, the metrics that you have in your portfolio continue to get better in terms of nonperforming loans, OREO, early delinquencies. The provision this quarter reflected, as you mentioned, both organic loan growth and then just a deterioration in that, I think national outlook is what it said in the press release. Curious what you’re seeing with your own eyes and hear with your own ears, there in your own markets in terms of communities and businesses are you seeing any signs of pressure or weakness there or more just kind of caution and businesses and consumers preparing for what might be a recession coming in the next few quarters?
Dimitar Karaivanov
Hey Erik, it’s Dimitar. We’re not seeing really anything that gives us concern on the credit side. We’re watching it a little bit more, obviously, with rates going up. I think that’s all secured some of the demand and maybe some of the more marginal, more worse as well. So right now if you look at our metrics across every single portfolio, they’re below or at historical averages and delinquencies are very, very low. We would expect them to creep up a little bit and you saw some of that into provisioning this quarter kind of looking ahead, but certainly does not feel like any sort of credit event in our markets.
Erik Zwick
I appreciate the color. That’s all my questions right now. Thank you.
Mark Tryniski
Thank you, Erik.
Operator
And our next question is coming from Chris O’Connell from KBW. Chris, please go ahead.
Chris O’Connell
Good morning. Just wanted to start-off on the fee businesses. It’s shot up well this quarter, especially wealth and insurance, and you mentioned you had a good pipeline there. So maybe if you could walk us through kind of what you’re thinking for organic growth rates going forward, assuming the broader financial markets remain more or less flat?
Dimitar Karaivanov
Good morning, Chris. It’s Dimitar. So if you just kind of step back and look at our fee businesses, the resilience that they continue to exhibit this year is just tremendous. I mean, we’re up on a year to date basis across our fee income platforms. And we are quarter-over-quarter we were also up. That’s what — if you look at our benefits, wealth and insurance businesses together about 50% of that is market dependent and related. So with the market kind of being down 20% fixed income and equities just kind of gives you a sense of those organic opportunities that we’ve been referencing on our calls. So we’ve — we’re up double digits in terms of units, if you want to think about it that way in those businesses, more activity, more clients, excellent kind of organic performance. And some of that has been taken down by the market essentially. But again, we’re still on a year-over-year basis, we have a pretty good shot this year at being close to flat [indiscernible] businesses.
So if you — we kind of look at that as a very constructive outcome, especially given that most of our peers will be down fee income, right? Not every fee income is credit equal. So we’re pretty pleased with that and the momentum in each one of those businesses, again, is double digit organic growth. So we’re very pleased with it. But what you’re going to see that in actual numbers again, half of that is tied to the market. So we got the units, we got the organic side and the market will do what the market does.
Chris O’Connell
Got it. That’s helpful. Thank you. And just circling back to some of the margin discussions, a little bit surprising, I guess, not more bullish on the near term margin outlook. Maybe if you could provide what the spot rates are on the deposits today that would be helpful. And is all of the near term 4Q less expansion due to the borrowings coming on the books in the fourth quarter? Or do you expect deposit betas to accelerate from here?
Joseph Sutaris
Yes. Hi, Chris. This is Joe. I’ll just take that. So we’re — cycle to date, our cost of funding, cost of deposits is not up very much at all. In fact, I think our cost of funding beta is about a two, which probably will not continue with that levels as we head deeper into the cycle. We will likely have to catch up in terms of some funding costs as we get further into the cycle, which is pretty typical. We also have pretty strong loan demand. We need to fund it. So we’re going to continue to evaluate our deposit base and look for opportunities in our markets to grow that and that will be at a rate that’s higher than certainly our current cost of deposits of 11 basis points. So we’re going to continue to expect to see higher funding betas as we head into the fourth quarter.
And to your question about the fourth quarter specifically, yes, some of the shorter term borrowing costs will dampen our ability to increase the net interest margin to the fourth quarter, but then as we head into next year, we’ll continue to see some of those securities cash flow start to effectively transfer over to the loan portfolio. But yes, I think in the short term, it’s really the funding side of that equation that will be a challenge. We did book new loan volume this past quarter at a rate very closed on a blended basis of 5%. Now keep in mind some of that — some of those are originations, the actual rate was set with the borrower prior to a lot of the increase in rates. So we expect the new volume rate to be up a little bit in Q4 on new loans. But the challenge on the short term basis will just be higher costs around borrowings, at least for the fourth quarter maybe into the first quarter.
Chris O’Connell
Great. That’s helpful. And you mentioned –
Joseph Sutaris
I’m sorry, Chris. But NII will continue. We expect to expand in Q4.
Chris O’Connell
Yes. You mentioned the uptick in origination yields post the end of the quarter. Maybe you could just provide an update on where the origination yields for the various buckets are coming on at?
Joseph Sutaris
They’re varied, but actually they’re fairly tight relative to last quarter. So I’m just pulling it up here. So I’ll take that back. I don’t have those right in front of me, Chris, on each of the individual portfolios. I missed it –
Chris O’Connell
[indiscernible]
Joseph Sutaris
Yes. He’s looking for individual portfolio. So –
Mark Tryniski
That’s it.
Joseph Sutaris
Okay. Yes. So the — on the mortgages, the originated yield in the fourth — third quarter was about 38 basis points higher than the portfolio yield. Business lending was about over 100 basis points, the — mostly auto lending business, right, the indirect business was about 80 basis points higher. Actually home equity was a blowout, that was a couple of 100 basis points, I think. In the direct consumer lending, which we don’t do a lot of, but was up about 65 basis points. So it’s up across the board quite a bit actually. We expect that to continue into the fourth quarter that divergence between the portfolio yield and the yield on new assets coming on.
Chris O’Connell
Great. And then lastly, just with the AOCI impact on DC. I know you guys primarily focused on the regulatory capital ratios, but maybe just an update on how you guys are thinking about that? And any updated conversations in general with how the regulators feel about that? And you mentioned still pursuing accretive M&A transactions. Maybe just kind of outlining what you guys are seeing in the market there and what type of transactions you’d be interested in pursuing now?
Joseph Sutaris
So with respect to the question on AOCI and tangible capital, that’s not a metric that we spend a lot of time focusing on here in our place. I mean, if you think about the AOCI changes in the last couple of quarters, it’s largely on treasury securities, almost all on treasury securities. And we don’t really feel the need to have incremental capital to support basically an adjustment in the market value on treasury securities. We know when those cash flows are coming in and they’re certain. So we don’t think there’s additional capital that we do focus on regulatory capital and we also — and that’s what our regulators focus on as well as regulatory capital for that reason. So that’s really our primary focus.
Chris, we also have a very long duration stable core deposit funding base that obviously we don’t have the ability to write that to its true value, but certainly that supports. Our overall valuation is that portfolio as well. And it’s actually quite frankly the reason we’ve been able to go longer on some of our asset durations because we have a very long portfolio of liabilities. With 75% of our total deposits in checking and savings accounts that are not particularly rate sensitive.
Mark Tryniski
I think on the — its Mark, on the M&A question. As we said last quarter, we are still interested in pursuing high value acquisition opportunities. I think the market, the environment seems to be okay for having those conversations and those opportunities. So we’re pretty pleased that those continue. I do think the one thing that’s maybe changed a little bit for us is our ability now to grow organically on the bank side has maybe changed our M&A strategy a little bit. If you think about our growth opportunities, it’s a three legged stool. We have the bank organic, the non-bank organic and then M&A. And I think the M&A leg and the non-bank organic leg have always been really good. The below par growth that we’ve delivered generally over the years on the bank organic side, we made up with let’s call them tactical M&A opportunities.
So I think with the ability to now have that third leg more solid and the ability to grow organically on the bank side appropriately, it allows us now to focus principally on more strategic M&A opportunities. So that’s kind of the discussion we’ve been having internally. So maybe a slight change to the strategy, but nothing changing near term in terms of our interest or ability or even I would say the level of dialogue which is reasonably productive.
Chris O’Connell
Great. Appreciate the color and thanks for taking my questions.
Mark Tryniski
Thanks you.
Operator
[Operator Instructions] Our next question comes from Matthew Breese from Stephens Inc. Please, Matthew, go ahead.
Matthew Breese
Good morning, everybody.
Mark Tryniski
Good morning.
Matthew Breese
I first just wanted to confirm on the loan growth outlook, it feels like mid-single digits is a pretty good bogey, low single digit earning asset growth with the difference there being expected securities runoff. Is that an accurate statement?
Mark Tryniski
Yes. We think that’s accurate, Matt.
Matthew Breese
Okay. And then within the loan pipeline, where are the greatest strengths and where do you expect to grow or should we expect loan growth to be pretty diverse like we saw this quarter?
Joseph Sutaris
Good morning, Matt. The pipeline is strong across all of our businesses. So we expect to grow in commercial. That’s been, obviously, a meaningful area of growth for us. The pipeline there remains very strong. Same in mortgage, notwithstanding what you’re hearing about kind of the national situation, our markets remain resilient with — obviously, refi volume is down, but as you know, we put those on our balance sheet. So refi is a net zero for us. So purchase applications are actually trending up this year for us. We’ve also been hard at work at reorganizing our go to market model there a little bit. So expect that mortgage will continue to grow for us on the balance sheet side. Indirect has been very strong this year. It is a more cyclical business and it’s hard to predict. But right now, certainly the application volume remains robust, notwithstanding rate increases.
On the direct side, we’ve actually grown this year and continue to grow into the fourth quarter. So we feel pretty good about that as well. And it’s the first year in a while that was actually grown home equities in addition to everything else. So we feel good across the board. Is it going to be as strong as the third quarter? Maybe not, but still that mid-single digit growth rate is achievable for us for next year.
Matthew Breese
And then from an underwriting perspective, can you talk a little bit about the health of the underlying borrowers, just given the more tenuous backdrop? Or is what we’re seeing a reflection of the [no boom] (ph) bus markets that you’re typically in, combined with a bit more horsepower on the lending front and exposure to some of the metropolitan areas? And have you had to change underwriting at all or become more selective in this environment?
Mark Tryniski
So, Matt, our underwriting has not changed at all. What’s changed is just our ability to be on the street and getting opportunities in the door across our business lines. So if you just kind of also look at our markets, they remain housing constrained. Inventory is low, it’s actually down on a year over year basis versus lot of markets in the country where it’s up very meaningfully. So there’s just not a lot of housing to go around. So the borrowers, again, before we are writing mortgages in the 7s today, just like everybody else and the purchase applications are strong. The commercial borrowers as well, we’re looking at their financials on a constant basis where we’ve gone into the larger markets, we’ve gone with the best-in-class developers and clients. As we like to say around here, your biggest clients need to be your best clients. So we’re very focused on that.
So now our credit metrics, it you look at our indirect business, our FICOs are actually up year over year. As you know, we write kind of prime and super prime type paper in the used market. So nothing has changed in terms of our underwriting. It’s just our ability to actually be more present in the markets.
Matthew Breese
Great. And then two other ones. The first quick one is just on tax rate and expected tax rate going forward. I have 23% model, but it’s been a bit below that year to date?
Mark Tryniski
Yes. I mean, I think the last couple of quarters is indicative of our expectations, which is in around 20% plus or minus, call it, 0.5% depending on activity in a particular quarter. Barring, of course, any changes in state tax rates or anything along those lines, I would expect that the last couple of quarters is indicative of the future tax rate of above 22%.
Matthew Breese
Okay. Thank you. And then last one is just, Mark, when you discussed more strategic M&A, could you give us some idea of the key differences in your view for strategic M&A versus some of the past deals that you’ve done. What do you look for in the strategic deal?
Mark Tryniski
Sure. We look for new markets, generally adjacent contiguous extensions that we think are strategic because we don’t have a presence there. We have a lot of opportunity in those markets, they might represent some of those kind of slightly larger markets that we’ve gone into in the last handful of years. Albany, Buffalo markets like that are a little bit bigger, they’re still not what you would consider metropolitan. But bigger than our kind of historical legacy market. So I think that’s number one. Talent is always something that’s important to us that we assess as a component of our evaluation of transactional opportunities, maybe particular businesses that are great interest to us for some reason. Some banks have outsized really high quality trust businesses, which is very additive and other wealth managed resources, some have insurance. Sometimes it’s talent, sometimes it’s the market. So it’s really can be a variety of things.
I would suggest that the tactical type transactions have historically been kind of the smaller in market, plug and play kinds of transactions where their smaller so the accretion percentage, let’s call it, the economic value is greater. There’s lower execution risk because they’re in market. Those I would consider to be historically more tactical and with the ability to have that kind of third leg of the growth stool, those will become less, let’s call it, necessary or important in terms of our M&A strategy. We’ll focus more on those kind of market extensions, talent acquisition, business line, product acquisition, those kinds of things, which we consider to be more strategic and less tactical.
Matthew Breese
Great. I appreciate all the color. That’s all I had. Thank you.
Mark Tryniski
Thank you.
Joseph Sutaris
Thank you, Matt.
Operator
We have Alex Twerdahl from Piper Sandler with a follow-up question. Alex, go ahead.
Alex Twerdahl
Thank you. Just on that last point with respect to the strategic M&A. Historically, you’re range has kind of been $0.5 billion to sort of $2 billion in sort of target asset size. Does something strategic — Does that include something a little bit bigger than that range?
Mark Tryniski
Probably not at this juncture, it would have to be something significant and special for us to think about something beyond $2 billion at this point. We think there’s a lot of really good strategic opportunities that are less than $2 billion. And so I would say at this juncture, Alex, no. I would say $2 billion is probably the top side of where we’d be thinking currently.
Alex Twerdahl
Got it. And then just on expenses, I don’t think we touched on it yet, but just in terms of cost saves and sort of expected expense run rate. Is this sort of 100 — $108 million the right starting point? And as you look into next year, how do you see expense trajectory?
Joseph Sutaris
Yes. Hi, Alex. It’s Joe again. I’ll take that question. So, our history was growing at, call it, low single digits, maybe, call it, 3% as kind of a run rate around OpEx. We’ve invested a few additional resources in new loan generation and new business development. So that in itself has the cost structure associated with that. But as I think we’re all keenly aware, there’s inflationary pressures on wages and other pressures, even vendors and the like from the standpoint of higher costs. So our expectations is that, our run rate from this point forward will be kind of mid-single digits, potentially a tad higher if the inflation persists, but right now kind of mid-single digits is our expectation.
Alex Twerdahl
Great. And the $108 ish million is the right starting point for that mid-single digits?
Joseph Sutaris
That seems reasonable. We typically have some seasonal patterns around expenses, the snow will fly here at some point, there’s just higher costs associated with Q4 and then Q1 into next year. We typically have our merit increases in the beginning of the year and then things level out. But I think the long term trajectory of mid-single digits is a fair expectation. Of course barring any additional M&A at this point.
Alex Twerdahl
Got it. And then just to clarify on your NII growth comments. I think you said the fourth quarter you expect NII growth expansion. I’m just wondering as we head into 2023, as you kind of outlook and sort of see, obviously, you have the exchange of low yielding securities for higher yielding loans. But given that weighed against higher funding costs, do you feel confident that NII can expand across 2023 as well?
Joseph Sutaris
Yes. We still expect that to continue to expand in 2023. Just the rate of change and rate of increase is unlikely to be replicated in 2023.
Alex Twerdahl
Okay. Thank you [indiscernible]
Mark Tryniski
Yes. We’re clearly writing loans well ahead of the wholesale funding cost, right? So every marginal dollar is additive from a balance sheet growth perspective to NII.
Alex Twerdahl
Right. Thank you for taking my follow ups.
Mark Tryniski
You’re welcome.
Operator
And now we have a question from Manuel Navas from D.A. Davidson. Manuel, please go ahead.
Manuel Navas
Hey, good morning fellows.
Mark Tryniski
Good morning.
Manuel Navas
The noninterest bearing deposit growth, is that all tied to public funds? Or is that also seeing some nice growth from new commercial customers?
Mark Tryniski
Sorry, Manuel. Can you –
Joseph Sutaris
I think, Manuel, in the quarter we actually had public funds outflows. So the growth —
Manuel Navas
For the noninterest — so the end of period noninterest bearing deposit growth is driven by — can you kind of give extra color on that?
Mark Tryniski
Yes, it’s consumer and business.
Manuel Navas
Okay, great. Is that — that’s reaching about 32% right now. Any thoughts on how that can be held in across this type of a more rapidly increasing deposit beta environment?
Mark Tryniski
Not sure what the 32% you are referring to, Manuel.
Manuel Navas
You have roughly 32% noninterest bearing deposits?
Mark Tryniski
No. Actually, yes. So I think if you look at our deposit account balances, the checking and savings accounts are about 70% give or take of the total suite. So 70% is checking and savings and about 30% is money market and CDs. I think historically we have looked through different interest rate cycles. We’ve had the beta performance through the cycle, it has been really good. The duration of those core deposits to go back to do core deposit studies on our existing core deposit base in connection with an acquisition. It’s — but I think the last we did was 14 years or so. So there’s a lot of duration and stickiness to those deposits. I think we’re going to be in a different environment going forward. And we will — I know some other banks have already been challenged in terms of the deposit base and the funding costs. I think that we will not be immune from that influence over time. I think right now, it’s pretty good.
I think as Dimitar said, we’re not seeing a lot of risk currently. I think that will come, but I like where we’re sitting in terms of our deposit mix and our historical ability to hold those in and hold the rates and hold the beta much lower. We won’t have the same kind of pressure because we’re going to have the — you know, our stretch of kind of over the next few years taking our investment book down by maybe a couple of billion dollars, still have tons of liquidity, but have a much more optimized balance sheet. So we have some kind of forward funding that’s going to ebb and flow quarter to quarter based on deposit and overnight borrowing needs. But I think there’s a longer term strategy here. That’s pretty sound around repositioning our balance sheet over time to optimize the earnings potential. We think if you look at a couple of billion dollars in securities at 4%, that delta on earnings is $1 a share. So I think our opportunity is $1 a share over the next few years without impairing liquidity, without taking risk, not even actually necessarily blowing up our balance sheet through kind of leverage. So I think the remix of the balance sheet will be helpful.
Obviously, the funding cost has always been really important to us. I think that’s something we’ve been pretty good at over the years in terms of building a really stable, sound low cost core deposit funding base that’s really — that sticks with us through the ups and downs of markets including rates up and rates down and recessions and credit crises and the whole gamut of things that that the economy kind of goes through over different cycles over time. So I like where we’re at pretty well. But I think on a shorter term basis, deposit rates are probably going to have to go up at some juncture and we may experience some more challenging deposit retention environments going forward, but we haven’t seen it at this juncture.
Dimitar Karaivanov
Manuel, maybe just to clarify, it’s Dimitar. When we talk about checking a savings of 75%, we think about it that way, because our savings accounts, I would call them, nominally interest bearing. There is — they don’t show up in the 30% something that you look at from an noninterest bearing perspective, but the rate on those is a few basis points. And we don’t — that doesn’t scale up with betas the way our products do.
Manuel Navas
I mean, you historically have a very strong deposit base and you have more noninterest bearing deposits as a percent of deposits that you’ve ever had. That’s what I’m trying to highlight. That seems pretty good.
Mark Tryniski
We like it.
Manuel Navas
All right. That’s it for questions for me. Thank you.
Mark Tryniski
Thanks, Manuel.
End of Q&A
Operator
And this concludes our question -and-answer session. I would like to turn the conference back over to Mr. Tryniski for any closing remarks. Thank you.
Mark Tryniski
Thank you, Marlese. Thank you to everyone for joining today on our third quarter call, and we will talk to you again in January. Thank you.
Operator
The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.
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