Waterstone Financial, Inc.: Form 10-Q for the period ended Sep 30, 2024

Forward-Looking Information

This Quarterly Report on Form 10-Q may contain various forward-looking statements, which can be identified by the use of words such as “estimate,” “project,” “believe,” “intend,” “anticipate,” “plan,” “seek,” “expect” and similar expressions and verbs in the future tense. These forward-looking statements include, but are not limited to:

• Statements of our goals, intentions and expectations;
• Statements regarding our business plans, prospects, growth and operating strategies;
• Statements regarding the quality of our loan and investment portfolio; and
• Estimates of our risks and future costs and benefits.

These forward-looking statements are based on current beliefs and expectations of our management and are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control. In addition, these forward-looking statements are subject to assumptions with respect to future business strategies and decisions that are subject to change.

The following factors, among others, could cause actual results to differ materially from the anticipated results or other expectations expressed in the forward-looking statements:

• general economic conditions, either nationally or in our market area, including employment prospects, that are different than expected;
• competition among depository and other financial institutions;
• inflation and changes in the interest rate environment that reduce our margins and yields, our mortgage banking revenues, the fair value of financial instruments or the origination levels in our lending business, or increase the level of defaults, losses or prepayments on loans we have made and make whether held in portfolio or sold in the secondary markets;
• adverse changes in the securities or secondary mortgage markets;
• changes in laws or government regulations or policies affecting financial institutions, including changes in regulatory fees and capital requirements;
• changes in monetary or fiscal policies of the U.S. Government, including policies of the U.S. Treasury and the Federal Reserve Board;
• our ability to manage market risk, credit risk and operational risk in the current economic conditions;
• our ability to enter new markets successfully and capitalize on growth opportunities;
• our ability to successfully integrate acquired entities;
• decreased demand for our products and services;
• changes in tax policies or assessment policies;
• changes in liquidity, including the size and composition of our deposit portfolio, and the percentage of uninsured deposits in the portfolio;
• changes in consumer demand, spending, borrowing and savings habits;
• changes in accounting policies and practices, as may be adopted by the bank regulatory agencies, the Financial Accounting Standards Board, the Securities and Exchange Commission or the Public Company Accounting Oversight Board;
• our ability to retain key employees;
• cyber attacks, computer viruses and other technological risks that may breach the security of our websites or other systems to obtain unauthorized access to confidential information and destroy data or disable our systems;
• technological changes that may be more difficult or expensive than expected;
• the ability of third-party providers to perform their obligations to us;
• the effects of any federal government shutdown;
• the effects of global or national war, conflict or acts of terrorism;
• the ability of the U.S. Government to manage federal debt limits;
• significant increases in our loan losses;
• changes in the financial condition, results of operations or future prospects of issuers of securities that we own;
• changes in our liquidity needs and access to wholesale funding; and
• our ability to access low-cost funding.

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See also the factors referred to in reports filed by the Company with the Securities and Exchange Commission (particularly those under the caption “Risk Factors” in Item 1A of the Company’s Annual Report on Form 10-K for the year ended December 31, 2023, and as may be described from time to time in the Corporation’s subsequent SEC filings).

The risks included here are not exhaustive. Other sections of this report may include additional factors which could adversely affect our business and financial performance. New risks emerge from time to time and it is not possible for management to predict all such risks, nor can it assess the impact of all such risks on our business or the extent to which any risk, or combination of risks, may cause actual results to differ materially from those contained in any forward-looking statements. Given these risks and uncertainties, investors should not place undue reliance on forward-looking statements as a prediction of actual results.

Overview

The following discussion and analysis is presented to assist the reader in understanding and evaluating the Company’s financial condition and results of operations. It is intended to complement the unaudited consolidated financial statements, footnotes, and supplemental financial data appearing elsewhere in this Quarterly Report on Form 10-Q and should be read in conjunction therewith. The detailed discussion in the sections below focuses on the results of operations for the three and nine months ended September 30, 2024 and 2023 and the financial condition as of September 30, 2024 compared to the financial condition as of December 31, 2023.

As described in the notes to the unaudited consolidated financial statements, we have two reportable segments: community banking and mortgage banking. The community banking segment provides consumer and business banking products and services to customers primarily within Southeastern Wisconsin. Consumer products include loan products, deposit products, and personal investment services. Business banking products include loans for working capital, inventory and general corporate use, commercial real estate construction loans, and deposit accounts. The mortgage banking segment, which is conducted by offices in 26 states through Waterstone Mortgage Corporation, consists of originating residential mortgage loans primarily for sale in the secondary market.

Our community banking segment generates the significant majority of our consolidated net interest income and requires the significant majority of our provision for loan losses. Our mortgage banking segment generates the significant majority of our noninterest income and a majority of our noninterest expenses. We have provided below a discussion of the material results of operations for each segment on a separate basis for the three and nine months ended September 30, 2024 and 2023, which focuses on noninterest income and noninterest expenses. We have also provided a discussion of the consolidated operations of the Company, which includes the consolidated operations of the Bank and Waterstone Mortgage Corporation, for the same periods.

Significant Items

There were no significant items that impacted earnings for the three and nine months ended September 30, 2024 and 2023.

Comparison of Community Banking Segment Results of Operations for the Three Months Ended September 30, 2024 and 2023

Net income totaled $4.7 million for the three months ended September 30, 2024 compared to $4.5 million for the three months ended September 30, 2023. Net interest income decreased $181,000 to $12.3 million for the three months ended September 30, 2024 compared to $12.4 million for the three months ended September 30, 2023. Interest expense on deposits and borrowings increased $3.4 million as replacement rates increased in the rising interest rate environment. Offsetting the increase in interest expense on deposit and borrowings, interest income on loans increased $3.2 million as replacement rates and average loans held for investment balances were higher than in the prior year and interest income on debt securities, federal funds sold and short-term investments increased due to the increase in the average balance and replacement rates.

There was a negative provision for credit losses of $302,000 for the three months ended September 30, 2024 compared to a provision for credit losses of $445,000 for the three months ended September 30, 2023. The negative provision for credit losses of $302,000 consisted of a $218,000 negative provision related to loans and $84,000 negative provision related to unfunded commitments for the three months ended September 30, 2024. During the three months ended September 30, 2024, the current quarter decrease was primarily due to a decrease in historical loss rates, net recoveries for the period, and improvements in certain internal asset quality metrics offset by an adjustment in the qualitative factors primarily related to increases in economic risks related to commercial real estate loans during the quarter. The negative provision for credit losses related to unfunded loan commitments was $84,000 for the quarter ended September 30, 2024 compared to a provision for credit losses related to unfunded loan commitments of $239,000 for the quarter ended September 30, 2023. The negative provision for credit losses related to unfunded loan commitments for the quarter ended September 30, 2024 was due primarily to a decrease of loans that are currently waiting to be funded compared to the prior quarter end. We made adjustments to our qualitative factors, primarily to account for the changes in internal metrics and external risk factors. The forecast factor remained unchanged as we monitor the economic environment going forward.

Compensation, payroll taxes, and other employee benefits expense increased $708,000 to $5.3 million compared to the quarter ending September 30, 2023 primarily due to an increase in health insurance expense as claims increased. Other noninterest expense decreased $101,000 to $602,000 as certain loan fees paid to the mortgage banking segment for the purchase of single-family adjustable rate mortgage loans decreased. These fees are eliminated in the consolidated statements of income.

Comparison of Mortgage Banking Segment Results of Operations for the Three Months Ended September 30, 2024 and 2023

Net loss totaled $50,000 for the three months ended September 30, 2024 compared to net loss of $1.4 million for the three months ended September 30, 2023. We originated $558.7 million in mortgage loans held for sale (including sales to the community banking segment) during the three months ended September 30, 2024, which represents a decrease of $38.8 million, or 6.5%, from the $597.6 million originated during the three months ended September 30, 2023. The decrease in loan production volume was driven by a $73.4 million, or 12.9%, decrease in purchase products and was offset by a $34.5 million increase in refinance products. Total mortgage banking noninterest income decreased $66,000, or 0.3%, to $21.4 million during the three months ended September 30, 2024 compared to $21.5 million during the three months ended September 30, 2023. The decrease in mortgage banking noninterest income was related to a 6.5% decrease in volume offset by a 5.9% increase in gross margin on loans originated and sold for the three months ended September 30, 2024 compared to September 30, 2023. Gross margin on loans originated and sold is the ratio of mortgage banking income (excluding the change in interest rate lock fair value) divided by total loan originations. The gross margin on loans originated and sold contraction reflects decreased industry demand due to the increased competition from mortgage originators. We sell loans on both a servicing-released and a servicing-retained basis. Waterstone Mortgage Corporation has contracted with a third party to service the loans for which we retain servicing.

Additionally, our overall margin can be affected by the mix of both loan type (conventional loans versus governmental) and loan purpose (purchase versus refinance). Conventional loans include loans that conform to Fannie Mae and Freddie Mac standards, whereas governmental loans are those loans guaranteed by the federal government, such as a Federal Housing Authority or U.S. Department of Agriculture loan. Loans originated for the purchase of a residential property comprised 88.9% of total originations during the three months ended September 30, 2024, compared to 95.4% of total originations during the three months ended September 30, 2023, respectively. The mix of loan type trended towards more conventional loans and less governmental loans, with governmental loans and conventional loans comprising 35.2% and 64.8% of all loan originations, respectively, during the three months ended September 30, 2024, compared to 39.2% and 60.8% of all loan originations, respectively, during the three months ended September 30, 2023.

Total compensation, payroll taxes and other employee benefits decreased $1.3 million, or 7.3%, to $15.9 million for the three months ended September 30, 2024 compared to $17.2 million for the three months ended September 30, 2023. The decrease primarily related to decreased salary expense and incentives expense driven by reduced employee headcount and a decrease in new branches added over the past year.

Consolidated Waterstone Financial, Inc. Results of Operations

(Dollars In Thousands, except per share amounts)

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Net Interest Income

Average Balance Sheets, Interest and Yields/Costs

The following table sets forth average balance sheets, annualized average yields and costs, and certain other information for the periods indicated. Non-accrual loans are included in the computation of the average balances of loans receivable and held for sale. The yields set forth below include the effect of deferred fees, discounts and premiums that are amortized or accreted to interest income or expense. Yields on interest-earning assets are computed on a fully tax-equivalent yield, where applicable.

(Dollars in Thousands)

(1) Interest income includes net deferred loan fee amortization income of $168,000 and $179,000 for the three months ended September 30, 2024 and 2023, respectively.

(2) Average balance of mortgage related and debt securities are based on amortized historical cost.

(3) Interest income from tax-exempt securities is computed on a taxable equivalent basis using a tax rate of 21% for the three months ended September 30, 2024 and 2023. The yields on debt securities, federal funds sold and short-term investments before tax-equivalent adjustments were 5.05% and 4.45% for the three months ended September 30, 2024 and 2023, respectively.

(4) Net interest rate spread represents the difference between the yield on average interest-earning assets and the cost of average interest-bearing liabilities and is presented on a fully tax equivalent basis.

(5) Net interest-earning assets represent total interest-earning assets less total interest-bearing liabilities.

(6) Net interest margin represents net interest income divided by average total interest-earning assets.

Rate/Volume Analysis

The following table sets forth the effects of changing rates and volumes on our net interest income for the periods indicated. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate). The net column represents the sum of the prior columns. For purposes of this table, changes attributable to changes in both rate and volume that cannot be segregated have been allocated proportionately based on the changes due to rate and the changes due to volume.

(In Thousands)

(1) Interest income includes net deferred loan fee amortization income of $168,000 and $179,000 for the three months ended September 30, 2024 and 2023, respectively.

(2) Non-accrual loans have been included in average loans receivable balance.

(3) Includes available for sale securities. Average balance of available for sale securities is based on amortized historical cost.

(4) Interest income from tax exempt securities is computed on a taxable equivalent basis using a tax rate of 21% for the three months ended September 30, 2024 and September 30, 2023.

Net interest income decreased $472,000, or 3.9%, to $11.5 million during the three months ended September 30, 2024 compared to $12.0 million during the three months ended September 30, 2023 primarily due to the increased cost of funds as a result of the rising interest rate environment.

• Interest income on loans increased $2.8 million, or 11.6%, to $26.6 million due primarily to a 39 basis point increase in average yield on loans as interest rates continued to increase over the past year and an increase in average loan balance as loans held for investment increased. The increase in average loan balance was driven by an increase of a $60.9 million, or 3.7%, in the average balance of loans held for investment and an increase of $12.5 million, or 7.3%, in average loans held for sale.
• Interest expense on time deposits increased $2.7 million, or 44.1%, to $9.0 million primarily due to a 111 basis point increase in average cost of time deposits. Additionally, the average balance of time deposits increased $66.5 million compared to the prior year period.
• Interest expense on money market, savings, and escrow accounts increased $293,000, or 24.6%, to $1.5 million due primarily to a 40 basis point increase in average cost of money market, savings, and escrow accounts as rates increased to stay competitive in the market. Partially offsetting the increase in average cost, the average balance decreased $2.7 million.
• Interest expense on borrowings increased $251,000, or 3.6%, to $7.2 million due to a six basis point increase in the cost of borrowings during the three months ended September 30, 2024 compared to the three months ended September 30, 2023 as we transitioned to more short-term fundings. Additionally, the average balance increased $15.8 million to $600.6 million during the three months ended September 30, 2024, compared to $584.8 million during the three months ended September 30, 2023.

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Provision for Credit Losses

There was a negative provision for credit losses of $377,000 for the three months ended September 30, 2024 compared to a $445,000 provision for credit losses for the three months ended September 30, 2023. The $377,000 negative provision for credit losses consisted of a $293,000 negative provision related to loans and a negative provision related to unfunded commitments of $84,000 for the three months ended September 30, 2024. During the three months ended September 30, 2024, the decrease related to loans was primarily due to a recovery, a decrease in historical losses used in the calculation, and an improvement in certain asset quality metrics. The decrease in provision related to unfunded commitments was primarily due to an decrease in the construction loans yet to be funded. We made adjustments to our qualitative factors, primarily to account for the changes in internal metrics and external risk factors. The forecast factor remained unchanged as we monitor the economic environment going forward.

The provision is primarily a function of the Company's reserving methodology and assessments of certain quantitative and qualitative factors which are used to determine an appropriate allowance for credit losses for the period. See further discussion regarding the allowance for loan losses in the "Asset Quality" section for an analysis of charge-offs, nonperforming assets, specific reserves and additional provisions and the "Allowance for Credit Loss" section.

Noninterest Income

(Dollars In Thousands)

Total noninterest income increased $322,000, or 1.4%, to $22.6 million during the three months ended September 30, 2024 compared to $22.2 million during the three months ended September 30, 2023.

• The increase in mortgage banking income was primarily the result of a increase in gross margin on loans originated and sold offset by a decrease in loan origination volumes. Gross margin on loans originated and sold is the ratio of mortgage banking income (excluding the change in interest rate lock fair value) divided by total loan originations. Gross margin on loans originated and sold increased 5.9% at the mortgage banking segment. See "Comparison of Mortgage Banking Segment Results of Operations for the Three Months Ended September 30, 2024 and 2023" above for additional discussion of the increase in mortgage banking income. Total loan origination volume on a consolidated basis decreased $42.6 million, or 7.1%, to $555.5 million during the three months ended September 30, 2024 compared to $598.1 million during the three months ended September 30, 2023.

(Dollars In Thousands)

Total noninterest expenses decreased $1.5 million, or 4.9%, to $28.6 million during the three months ended September 30, 2024 compared to $30.0 million during the three months ended September 30, 2023.

• Compensation, payroll taxes and other employee benefits expense at our mortgage banking segment decreased $1.3 million, or 7.3%, to $15.9 million during the three months ended September 30, 2024. The decrease primarily related to decreased salary expense and incentives expense driven by reduced employee headcount and a decrease in new branches added over the past year
• Compensation, payroll taxes and other employee benefits expense at the community banking segment increased $708,000, or 15.3%, to $5.3 million during the three months ended September 30, 2024. The increase was primarily due to an increase in health insurance expense as claims increased.
• Occupancy, office furniture and equipment expense at the mortgage banking segment decreased $188,000 to $953,000 during the three months ended September 30, 2024, primarily resulting from decreased rent and depreciation expenses as underperforming branches were closed over the past year.
• Occupancy, office furniture and equipment expense at the community banking segment increased $52,000 to $904,000 during the three months ended September 30, 2024. The increase was due primarily to increases related to new equipment expenses.
• Professional fees decreased $176,000 to $569,000 during the three months ended September 30, 2024. The decrease related to a decrease in legal fees at the mortgage banking segment related to a complaint. In July 2022, a complaint was filed by Mutual of Omaha Mortgage, Inc. asserting claims against Waterstone Mortgage Corporation relating to certain employees hired by Waterstone Mortgage Corporation who previously worked for Mutual. The Company intends to continue to vigorously defend its interests in this matter and pursue all possible defenses against the claims. Given the current stage of the litigation, the Company is not yet able to make a determination as to the likelihood of an unfavorable outcome in this matter, nor is it able to estimate the range of any possible loss.
• Other noninterest expense decreased $619,000, or 24.0%, to $2.0 million during the three months ended September 30, 2024. The decrease primarily related to decreased provision for branch losses and provision for loan sale losses at the mortgage banking segment.

Income Taxes

Income tax expense totaled $1.2 million for the three months ended September 30, 2024 compared to $500,000 during the three months ended September 30, 2023. Income tax expense was recognized on the statement of income during the three months ended September 30, 2024 at an effective rate of 19.7% of pretax income and during the three months ended September 30, 2023 at an effective rate of 13.3% of pretax income. The increase in the effective rate related to a decrease in pre-tax income during the three months ended September 30, 2023.

Comparison of Community Banking Segment Results of Operations for the Nine Months Ended September 30, 2024 and 2023

Net income totaled $11.7 million for the nine months ended September 30, 2024 compared to $14.6 million for the nine months ended September 30, 2023. Net interest income decreased $4.6 million to $35.1 million for the nine months ended September 30, 2024 compared to $39.7 million for the nine months ended September 30, 2023. Interest expense on deposits and borrowings increased $17.2 million as replacement rates increased in the rising interest rate environment. Offsetting the increase in interest expense on deposit and borrowings, interest income on loans increased $11.8 million as replacement rates and average loans held for investment balances were higher than in the prior year.

There was a negative provision for credit losses of $476,000 for the nine months ended September 30, 2024 compared to a provision for credit losses of $991,000 for the nine months ended September 30, 2023. The negative provision for credit losses of $476,000 consisted of a $380,000 negative provision related to loans and $96,000 negative provision related to unfunded commitments for the nine months ended September 30, 2024. During the nine months ended September 30, 2024, the decrease related to loans was primarily due to decreases in historical loss rates and loan originations. The decrease in provision related to unfunded commitments was primarily due to an decrease in the loans that are currently waiting to be funded compared to the prior quarter end. We made adjustments to our qualitative factors, primarily to account for the changes in internal metrics and external risk factors. The forecast factor remained unchanged as we monitor the economic environment going forward.

Compensation, payroll taxes, and other employee benefits expense increased $1.3 million to $15.8 million compared to the quarter ending September 30, 2023 primarily due to an increase in health insurance expense as claims increased. Other noninterest expense decreased $1.3 million to $2.0 million as certain loan fees paid to the mortgage banking segment for the purchase of single-family adjustable rate mortgage loans decreased. These fees are eliminated in the consolidated statements of income.

Comparison of Mortgage Banking Segment Results of Operations for the Nine Months Ended September 30, 2024 and 2023

Net income totaled $1.6 million for the nine months ended September 30, 2024 compared to net loss of $5.4 million for the nine months ended September 30, 2023. We originated $1.68 billion in mortgage loans held for sale (including sales to the community banking segment) during the nine months ended September 30, 2024, which represents an increase of $14.3 million, or 0.9%, from the $1.66 billion originated during the nine months ended September 30, 2023. The increase in loan production volume was driven by a $75.2 million increase in refinance products as mortgage rates decreased to start the year offset by a $62.5 million , or 3.9%, decrease in purchase products. Total mortgage banking noninterest income increased $4.4 million, or 7.0%, to $66.8 million during the nine months ended September 30, 2024 compared to $62.4 million during the nine months ended September 30, 2023. The increase in mortgage banking noninterest income was related to a 0.9% increase in volume and by a 6.6% increase in gross margin on loans originated and sold for the nine months ended September 30, 2024 compared to September 30, 2023. Gross margin on loans originated and sold is the ratio of mortgage banking income (excluding the change in interest rate lock fair value) divided by total loan originations. The gross margin on loans originated and sold contraction reflects decreased industry demand due to the increased competition from mortgage originators. We sell loans on both a servicing-released and a servicing-retained basis. Waterstone Mortgage Corporation has contracted with a third party to service the loans for which we retain servicing.

Additionally, our overall margin can be affected by the mix of both loan type (conventional loans versus governmental) and loan purpose (purchase versus refinance). Conventional loans include loans that conform to Fannie Mae and Freddie Mac standards, whereas governmental loans are those loans guaranteed by the federal government, such as a Federal Housing Authority or U.S. Department of Agriculture loan. Loans originated for the purchase of a residential property comprised 90.9% of total originations during the nine months ended September 30, 2024, compared to 96.1% of total originations during the nine months ended September 30, 2023, respectively. The mix of loan type trended towards more conventional loans and less governmental loans, with governmental loans and conventional loans comprising 36.3% and 63.7% of all loan originations, respectively, during the nine months ended September 30, 2024, compared to 37.9% and 62.1% of all loan originations, respectively, during the nine months ended September 30, 2023.

The decrease in other noninterest income was due primarily to a decrease in gain on sale of mortgage servicing rights. During the nine months ended September 30, 2024, the Company sold mortgage servicing rights related to $233.1 million in loans serviced for third parties. The sale generated $2.1 million in net proceeds on a mortgage servicing rights book value of $2.0 million and resulted in a $152,000 gain during the nine months ended September 30, 2024. During the nine months ended September 30, 2023, the Company sold mortgage servicing rights related to $318.4 million in loans serviced for third parties. The sale generated $3.5 million in net proceeds and a $583,000 gain.

Total compensation, payroll taxes and other employee benefits decreased $2.6 million, or 5.3%, to $47.6 million for the nine months ended September 30, 2024 compared to $50.2 million for the nine months ended September 30, 2023. The decrease in compensation expense was primarily related to decreased salaries driven by a reduction in headcount, sign on incentives, and health insurance expense offset by loan production commissions and branch manager pay.

Consolidated Waterstone Financial, Inc. Results of Operations

(Dollars In Thousands, except per share amounts)

44

Net Interest Income

Average Balance Sheets, Interest and Yields/Costs

The following table sets forth average balance sheets, annualized average yields and costs, and certain other information for the periods indicated. Non-accrual loans are included in the computation of the average balances of loans receivable and held for sale. The yields set forth below include the effect of deferred fees, discounts and premiums that are amortized or accreted to interest income or expense. Yields on interest-earning assets are computed on a fully tax-equivalent yield, where applicable.

(Dollars in Thousands)

(1) Interest income includes net deferred loan fee amortization income of $486,000 and $474,000 for the nine months ended September 30, 2024 and 2023, respectively.

(2) Average balance of mortgage related and debt securities are based on amortized historical cost.

(3) Interest income from tax-exempt securities is computed on a taxable equivalent basis using a tax rate of 21% for the nine months ended September 30, 2024 and 2023. The yields on debt securities, federal funds sold and short-term investments before tax-equivalent adjustments were 4.90% and 3.97% for the nine months ended September 30, 2024 and 2023, respectively.

(4) Net interest rate spread represents the difference between the yield on average interest-earning assets and the cost of average interest-bearing liabilities and is presented on a fully tax equivalent basis.

(5) Net interest-earning assets represent total interest-earning assets less total interest-bearing liabilities.

(6) Net interest margin represents net interest income divided by average total interest-earning assets.

Rate/Volume Analysis

The following table sets forth the effects of changing rates and volumes on our net interest income for the periods indicated. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate). The net column represents the sum of the prior columns. For purposes of this table, changes attributable to changes in both rate and volume that cannot be segregated have been allocated proportionately based on the changes due to rate and the changes due to volume.

(In Thousands)

(1) Interest income includes net deferred loan fee amortization income of $486,000 and $474,000 for the nine months ended September 30, 2024 and 2023, respectively.

(2) Non-accrual loans have been included in average loans receivable balance.

(3) Includes available for sale securities. Average balance of available for sale securities is based on amortized historical cost.

(4) Interest income from tax exempt securities is computed on a taxable equivalent basis using a tax rate of 21% for the nine months ended September 30, 2024 and September 30, 2023.

Net interest income decreased $5.1 million, or 13.3%, to $33.3 million during the nine months ended September 30, 2024 compared to $38.5 million during the nine months ended September 30, 2023 primarily due to the increased cost of funds as a result of the rising interest rate environment.

• Interest income on loans increased $10.8 million, or 16.4%, to $76.7 million due primarily to a 48 basis point increase in average yield on loans as interest rates continued to increase over the past year and an increase in average loan balance as loans held for investment increased. The increase in average loan balance was driven by an increase of a $91.5 million, or 5.8%, in the average balance of loans held for investment and an increase of $16.1 million, or 10.3%, in average loans held for sale.
• Interest expense on time deposits increased $10.8 million, or 76.5%, to $25.0 million primarily due to a 163 basis point increase in average cost of time deposits. Additionally, the average balance of time deposits increased $73.3 million compared to the prior year period.
• Interest expense on money market, savings, and escrow accounts increased $836,000, or 25.5% to $4.1 million due primarily to a 47 basis point increase in average cost of money market, savings, and escrow accounts as rates increased to stay competitive in the market. Partially offsetting the increase in average cost, the average balance decreased $18.5 million.
• Interest expense on borrowings increased $5.1 million, or 30.5%, to $21.6 million due to a 53 basis point increase in the cost of borrowings during the nine months ended September 30, 2024 compared to the nine months ended September 30, 2023 as we transitioned to more short-term fundings. Additionally, the average balance increased $82.1 million to $608.7 million during the nine months ended September 30, 2024, compared to $526.5 million during the nine months ended September 30, 2023.

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Provision for Credit Losses

There was a negative provision for credit losses of $535,000 for the nine months ended September 30, 2024 compared to a $1.1 million provision for credit losses for the nine months ended September 30, 2023. The $535,000 negative provision for credit losses consisted of a $439,000 negative provision related to loans and a negative provision related to unfunded commitments of $96,000 for the nine months ended September 30, 2024. During the nine months ended September 30, 2024, the decrease related to loans was primarily due to a decrease in originations and historical losses used in the calculation and the decrease in provision related to unfunded commitments was primarily due to a decrease in the loans yet to be funded. We made adjustments to our qualitative factors, primarily to account for the changes in internal metrics and external risk factors. The forecast factor remained unchanged as we monitor the economic environment going forward.

The provision is primarily a function of the Company's reserving methodology and assessments of certain quantitative and qualitative factors which are used to determine an appropriate allowance for credit losses for the period. See further discussion regarding the allowance for loan losses in the "Asset Quality" section for an analysis of charge-offs, nonperforming assets, specific reserves and additional provisions and the "Allowance for Credit Loss" section.

Noninterest Income

(Dollars In Thousands)

Total noninterest income increased $6.0 million, or 9.3% to $70.3 million during the nine months ended September 30, 2024 compared to $64.3 million during the nine months ended September 30, 2023. The increase resulted primarily from increase in mortgage banking noninterest income offset by a decrease in other income.

• The increase in mortgage banking income was primarily the result of a increase in loan origination volume and gross margin on loans originated and sold. Gross margin on loans originated and sold is the ratio of mortgage banking income (excluding the change in interest rate lock fair value) divided by total loan originations. Total loan origination volume on a consolidated basis increased $86.5 million, or 5.5%, to $1.66 billion during the nine months ended September 30, 2024 compared to $1.58 billion during the nine months ended September 30, 2023. Gross margin on loans originated and sold increased 6.6% at the mortgage banking segment. See "Comparison of Mortgage Banking Segment Results of Operations for the nine months ended September 30, 2024 and 2023" above for additional discussion of the increase in mortgage banking income.
• The decrease in other noninterest income was due primarily to a decrease in gain on sale of mortgage servicing rights. During the nine months ended September 30, 2024, the Company sold mortgage servicing rights related to $233.1 million in loans serviced for third parties. The sale generated $2.1 million in net proceeds on a mortgage servicing rights book value of $2.0 million and resulted in a $152,000 gain during the nine months ended September 30, 2024. During the nine months ended September 30, 2023, the Company sold mortgage servicing rights related to $318.4 million in loans serviced for third parties. The sale generated $3.5 million in net proceeds and a $583,000 gain. As of September 30, 2024 and September 30, 2023, the Company maintained servicing rights related to $67.0 million and $220.0 million, respectively, in loans previously sold to third parties.

47

(Dollars In Thousands)

Total noninterest expenses decreased $3.7 million, or 4.1%, to $86.4 million during the nine months ended September 30, 2024 compared to $90.1 million during the nine months ended September 30, 2023.

• Compensation, payroll taxes and other employee benefits expense at our mortgage banking segment decreased $2.6 million, or 5.3%, to $47.6 million during the nine months ended September 30, 2024. The decrease in compensation expense was primarily related to decreased salaries driven by a reduction in headcount, sign on incentives, and health insurance expense offset by branch manager pay and loan production commissions.
• Compensation, payroll taxes and other employee benefits expense at the community banking segment increased $1.3 million, or 9.2%, to $15.8 million during the nine months ended September 30, 2024. The increase was primarily due to an increase in health insurance expense as claims increased.
• Occupancy, office furniture and equipment expense at the mortgage banking segment decreased $439,000 to $3.1 million during the nine months ended September 30, 2024, primarily resulting from decreased rent and depreciation expenses as underperforming branches were closed over the past year.
• Occupancy, office furniture and equipment expense at the community banking segment increased $131,000 to $2.9 million during the nine months ended September 30, 2024. The increase was due primarily to increases in new equipment and repairs and maintenance expenses.
• Advertising expense increased $78,000, or 2.8%, to $2.8 million during the nine months ended September 30, 2024. The increase was primarily due to advertising expenses at the community banking segment due to the increased efforts to increase deposit accounts.
• Data processing expense increased $304,000, or 8.8%, to $3.7 million during the nine months ended September 30, 2024. The increases at the community banking and mortgage banking segments were due to additional investments in technology.
• Professional fees increased $291,000 to $2.1 million during the nine months ended September 30, 2024. The increase related to an increase in legal fees at the mortgage banking segment. In July 2022, a complaint was filed by Mutual of Omaha Mortgage, Inc. asserting claims against Waterstone Mortgage Corporation relating to certain employees hired by Waterstone Mortgage Corporation who previously worked for Mutual. The Company intends to continue to vigorously defend its interests in this matter and pursue all possible defenses against the claims. Given the current stage of the litigation, the Company is not yet able to make a determination as to the likelihood of an unfavorable outcome in this matter, nor is it able to estimate the range of any possible loss.
• Other noninterest expense decreased $2.6 million, or 31.0%, to $5.8 million during the nine months ended September 30, 2024. The decrease primarily related to decreased provision for branch losses, branch overhead, provision for loan sale losses, and reversal of mortgage servicing rights impairment at the mortgage banking segment.

Income Taxes

Income tax expense totaled $4.3 million for the nine months ended September 30, 2024 compared to $2.2 million during the nine months ended September 30, 2023. Income tax expense was recognized on the statement of income during the nine months ended September 30, 2024 at an effective rate of 24.3% of pretax income and during the nine months ended September 30, 2023 at an effective rate of 19.0% of pretax income. On March 18, 2024, the State of Wisconsin Department of Revenue issued an emergency ruling with additional details of the law. This publication enabled us to estimate the impact on our Wisconsin state income tax expense. The impact moving forward should result in no Wisconsin state income taxes being expensed, resulting in a lower estimated effective tax rate. The elimination of Wisconsin state income tax expense resulted in the establishment of a valuation allowance for Wisconsin state income deferred tax assets, resulting in a one-time $1.1 million charge to state income tax expense in the first quarter. Partially offsetting the impact of the charge related to the valuation allowance we realized a one-time benefit of approximately $368,000 during the year to recognize a reduction in current state income tax provision.

Comparison of Financial Condition at September 30, 2024 and December 31, 2023

Total Assets – Total assets increased by $30.9 million, or 1.4%, to $2.24 billion at September 30, 2024 from $2.21 billion at December 31, 2023. The increase in total assets primarily reflects an increase in loans receivable and securities available for sale. The increase in total assets reflects liability increases in deposits and borrowings.

Cash and Cash Equivalents – Cash and cash equivalents increased $5.0 million, or 13.7%, to $41.4 million at September 30, 2024, compared to $36.4 million at December 31, 2023. The increase in cash and cash equivalents primarily reflects the increase of funding sources from borrowings, deposits, and advance payments by borrowers for taxes.

Securities Available for Sale – Securities available for sale increased $8.3 million to $213.2 million at September 30, 2024. The increase was primarily due to the purchases of securities throughout the year exceeding paydowns and maturities and an increase in fair value as longer term interest rates decreased compared to the beginning of the year.

Loans Held for Sale - Loans held for sale decreased $9.1 million to $155.8 million at September 30, 2024 due to the decrease of purchase activity.

Loans Receivable - Loans receivable held for investment increased $31.2 million to $1.70 billion at September 30, 2024. The increase in total loans receivable was primarily attributable to increases in each of the multi-family, construction, and commercial real estate loan categories offset by a decrease in the one-to-four family loan category.

The following table shows loan originations during the periods indicated.

(In Thousands)

49

Allowance for Credit Losses - Loans - The allowance for credit losses decreased to $18.2 million at September 30, 2024. There was a $439,000 negative provision for credit losses - loans for the nine months ended September 30, 2024. The negative provision for credit losses related to loans decreased primarily due to a decrease in historical losses used in the calculation and decreases in certain qualitative factors. During the nine months ended September 30, 2024, we made adjustments to our qualitative factors, primarily to account for the changes in interest rates, internal metrics, and external risk factors. See Note 3 - Loans Receivable of the notes to unaudited consolidated financial statements for further discussion on the allowance for credit losses. Additionally, net recoveries totaled $88,000 for the nine months ended September 30, 2024.

Prepaid expenses and other assets – Total prepaid expenses and other assets decreased $6.6 million to $45.8 million at September 30, 2024. The decrease was primarily due to decreases in back-to-back loan swap fair value adjustment as long term interest rates decreased, mortgage servicing rights due to the sale, and deferred tax assets due to the WI state tax rate decrease.

Deposits – Total deposits increased $73.2 million to $1.26 billion at September 30, 2024. The increase was driven by increases of $73.9 million in time deposits and $6.0 million in money market and savings deposits offset by a decrease of $6.7 million in demand deposits.

Borrowings – Total borrowings decreased $50.9 million, or 8.3%, to $560.1 million at September 30, 2024. The community banking segment paid off $145.0 million in long-term FHLB borrowings, borrowed $150.0 million of new long-term FHLB borrowings, and paid off $54.7 million in new short-term FHLB and Federal Reserve Bank borrowings. External short-term borrowings at the mortgage banking segment decreased a total of $1.2 million at September 30, 2024 from December 31, 2023.

Advance Payments by Borrowers for Taxes - Advance payments by borrowers for taxes increased $21.2 million to $27.8 million at September 30, 2024. The increase was the result of payments received from borrowers for their real estate taxes and is seasonally normal, as balances increase during the course of the calendar year until real estate tax obligations are paid in the fourth quarter.

Other Liabilities - Other liabilities decreased $10.5 million to $50.5 million at September 30, 2024. Other liabilities decreased primarily due to a seasonal decrease in outstanding checks related to advance payments by borrowers for taxes. The Company receives payments from borrowers for their real estate taxes during the course of the calendar year until real estate tax obligations are paid in the fourth quarter. At the time at which the disbursements are made, the outstanding checks are classified as other liabilities in the statements of financial condition, and these amounts remain classified as other liabilities until settled. Additionally, the back-to-back loan swap fair value adjustment decreased as long term interest rates decreased. Offsetting the decreases, the interest rate expense payable to the Federal Reserve Bank increased as payments are due to time of principal payments.

Shareholders’ Equity – Shareholders' equity decreased $2.1 million to $342.0 million at September 30, 2024. Shareholders' equity decreased primarily due to the declaration of dividends and the repurchase of stock. Partially offsetting the decreases, there were increases due to the net income, equity awards granted, unearned ESOP shares vesting, and an increase in the fair value of the securities portfolio.

ASSET QUALITY

NONPERFORMING ASSETS

(Dollars in Thousands)

All loans that are 90 days or more past due with respect to principal and interest are recognized as non-accrual. Troubled debt restructurings that are non-accrual, either due to being past due greater than 90 days or which have not yet performed under the modified terms for a reasonable period of time, are included in the table above. In addition, loans that are past due less than 90 days are evaluated to determine the likelihood of collectability given other credit risk factors such as early stage delinquency, the nature of the collateral or the results of a borrower review. When the collection of all contractual principal and interest is determined to be unlikely, the loan is moved to non-accrual status and an updated appraisal of the underlying collateral is ordered. This process generally takes place when a loan is contractually past due between 60 and 89 days.

A loan is considered collateral-dependent when the debtor is experiencing financial difficulty and repayment is expected to be provided substantially through the sale or operation of the collateral. For all classes of loans and leases deemed collateral-dependent, the Company elected the practical expedient to estimate expected credit losses based on the collateral’s fair value less cost to sell. In most cases, the Company records a specific valuation allowance or a partial charge-off to reduce the loan’s carrying value to the collateral’s fair value less cost to sell. Substantially all of the collateral consists of various types of real estate including residential and commercial properties.

The following table sets forth activity in our non-accrual loans for the periods indicated.

(In Thousands)

Total non-accrual loans increased by $560,000, or 11.6%, to $5.4 million as of September 30, 2024 compared to $4.8 million as of December 31, 2023. The ratio of non-accrual loans to total loans receivable was 0.32% at September 30, 2024 and 0.29% at December 31, 2023. During the nine months ended September 30, 2024, $2.1 million in loans were placed on non-accrual status. Offsetting this activity, $714,000 in loans returned to accrual status and $840,000 in principal payments were received during the nine months ended September 30, 2024.

Of the $5.4 million in total non-accrual loans as of September 30, 2024, $2.6 million in loans have been specifically reviewed to assess whether a specific valuation allowance is necessary. A specific valuation allowance is established for an amount equal to the impairment when the carrying value of the loan exceeds the present value of expected future cash flows, discounted at the loan's original effective interest rate or the fair value of the underlying collateral with an adjustment made for costs to dispose of the asset. Based upon these specific reviews, no charge-offs have been recorded over the life of these loans and there were no specific reserves as of September 30, 2024. The remaining $2.8 million of non-accrual loans were reviewed on an aggregate basis as of September 30, 2024.

The outstanding principal balance of our five largest non-accrual loans as of September 30, 2024 totaled $2.4 million, which represents 45.6% of total non-accrual loans as of that date. Two of the loans were reviewed on an aggregate basis along with the other loans held for investment at the mortgage segment.

Interest payments received are treated as interest income on a cash basis as long as the remaining book value of the loan (i.e., after charge-off of all identified losses) is deemed to be fully collectible. If the remaining book value is not deemed to be fully collectible, all payments received are applied to unpaid principal. Determination as to the ultimate collectability of the remaining book value is supported by an updated credit department evaluation of the borrower's financial condition and prospects for repayment, including consideration of the borrower's sustained historical repayment performance and other relevant factors.

As of September 30, 2024 and December 31, 2023, there were no loans 90 or more days past due and still accruing interest.

LOAN DELINQUENCY

The following table summarizes loan delinquency in total dollars and as a percentage of the total loan portfolio:

(Dollars in Thousands)

Past due loans decreased by $628,000, or 5.6%, to $10.6 million at September 30, 2024 from $11.3 million at December 31, 2023. Loans past due less than 90 days decreased by $275,000, or 4.0%, primarily due to a decrease in the home equity and commercial real estate loan categories. Loans past due 90 days or more decreased by $353,000, or 8.0%, primarily in the one- to four-family loan category, during the nine months ended September 30, 2024.

ALLOWANCE FOR CREDIT LOSSES - LOANS

(Dollars in Thousands)

The allowance for credit losses - loans was $18.2 million at September 30, 2024 and $18.5 million at December 31, 2023. During the nine months ended September 30, 2024, there was a $439,000 negative provision for credit losses. Additionally, net recoveries totaled $88,000 for the nine months ended September 30, 2024.

We had net recoveries of $88,000, or 0.01% of average loans annualized, for the nine months ended September 30, 2024, compared to net charge-offs of $33,000, or less than 0.01% of average loans annualized, for the nine months ended September 30, 2023.

Our underwriting policies and procedures emphasize that credit decisions must rely on both the credit quality of the borrower and the estimated value of the underlying collateral. Credit quality is assured only when the estimated value of the collateral is objectively determined and is not subject to significant fluctuation.

The allowance for credit losses - loans has been determined in accordance with GAAP. We are responsible for the timely and periodic determination of the amount of the allowance required. Any future provisions for loan losses will continue to be based upon our assessment of the overall loan portfolio and the underlying collateral, trends in non-performing loans, current economic conditions and other relevant factors. To the best of management’s knowledge, all probable losses have been provided for in the allowance for credit losses - loans.

The establishment of the amount of the allowance for credit loss inherently involves judgments by management as to the appropriateness of the allowance, which ultimately may or may not be correct. Higher than anticipated rates of loan default would likely result in a need to increase provisions in future years.

Liquidity and Capital Resources

We maintain liquid assets at levels we consider adequate to meet our liquidity needs. We adjust our liquidity levels to fund loan commitments, repay our borrowings, fund deposit outflows and pay real estate taxes on mortgage loans. We also adjust liquidity as appropriate to meet asset and liability management objectives. The level of our liquidity position at any point in time is dependent upon the judgment of the senior management as supported by the Asset/Liability Committee. Liquidity is monitored on a daily, weekly and monthly basis using a variety of measurement tools and indicators.

Our primary sources of liquidity are deposits, amortization and repayment of loans, sales of loans held for sale, maturities of investment securities and other short-term investments, and earnings and funds provided from operations. While scheduled principal repayments on loans are a relatively predictable source of funds, deposit flows and loan repayments are greatly influenced by market interest rates, economic conditions, and rates offered by our competitors. We set the interest rates on our deposits to maintain a desired level of total deposits. In addition, we invest excess funds in short-term, interest-earning assets, which provide liquidity to meet lending requirements. Additional sources of liquidity used for the purpose of managing long- and short-term cash flows include advances from the FHLB.

During the nine months ended September 30, 2024, primary uses of cash and cash equivalents included: $1.66 billion in funding loans held for sale, $31.1 million to fund loans held for investment, $10.8 million for purchases of mortgage related securities, $12.2 million for purchases of debt securities, $2.3 million for FHLB stock, $145.0 million for payoffs of long-term borrowings, $55.9 million for payoffs of short-term borrowings, $8.5 million for cash dividends paid, and $12.1 million for purchases of our common stock.

During the nine months ended September 30, 2024, primary sources of cash and cash equivalents included: $1.74 billion in proceeds from the sale of loans held for sale, $150.0 million in long-term borrowings, $16.7 million in principal repayments on mortgage related securities, $73.2 million for increase in deposits, $5.7 million in maturities of debt securities, $2.1 million in proceeds for mortgage servicing rights sale, and $13.4 million in net income.

During the nine months ended September 30, 2023, primary uses of cash and cash equivalents included: $1.58 billion in funding loans held for sale, $140.9 million to fund loans held for investment, $18.9 million for purchases of mortgage related securities, $9.4 million for FHLB stock, $215.0 million for payoffs of long-term borrowings, $12.4 million for cash dividends paid, and $19.8 million for purchases of our common stock.

During the nine months ended September 30, 2023, primary sources of cash and cash equivalents included: $1.60 billion in proceeds from the sale of loans held for sale, $174.0 million in long-term borrowings, $242.1 million in short-tern borrowings, $15.9 million in principal repayments on mortgage related securities, $6.2 million for increase in deposits, $3.6 million in maturities of debt securities, $3.5 million in proceeds for mortgage servicing rights sale, and $9.4 million in net income.

A portion of our liquidity consists of cash and cash equivalents, which are a product of our operating, investing and financing activities. At September 30, 2024 and 2023, respectively, $41.4 million and $62.3 million of our assets were invested in cash and cash equivalents. At September 30, 2024, cash and cash equivalents were comprised of the following: $35.8 million in cash held at the Federal Reserve Bank and other depository institutions and $5.6 million in federal funds sold and short-term investments. Our primary sources of cash are principal repayments on loans, proceeds from the calls and maturities of debt and mortgage-related securities, increases in deposit accounts, advances from the FHLB and the Federal Reserve, and repurchase agreements from other institutions.

Liquidity management is both a daily and longer-term function of business management. If we require funds beyond our ability to generate them internally, borrowing agreements exist with the FHLB which provide an additional source of funds. At September 30, 2024, we had $160.0 million in long term advances from the FHLB with contractual maturity dates in 2027, 2029, and 2034. See Note 6 - Borrowings of the notes to unaudited consolidated financial statements for additional information about the remaining call option details of our FHLB long-term debt.

The Company had approximately $325.3 million of uninsured deposits for approximately 1,354 customers as of September 30, 2024. Uninsured deposit amounts are estimated based on the portions of customer account balances that exceed the FDIC insurance limits.

At September 30, 2024, we had outstanding commitments to originate loans receivable of $28.1 million. In addition, at September 30, 2024, we had unfunded commitments under construction loans of $55.1 million, unfunded commitments under business lines of credit of $12.7 million and unfunded commitments under home equity lines of credit and standby letters of credit of $12.3 million. At September 30, 2024, certificates of deposit scheduled to mature in one year or less totaled $745.3 million. Based on prior experience, management believes that, subject to the Bank’s funding needs, a significant portion of such deposits will remain with us, although there can be no assurance that this will be the case. In the event a significant portion of our deposits is not retained by us, we will have to utilize other funding sources, such as FHLB advances, in order to maintain our level of assets. However, we cannot assure that such borrowings would be available on attractive terms, or at all, if and when needed. Alternatively, we could reduce our level of liquid assets, such as our cash and cash equivalents and securities available-for-sale in order to meet funding needs. In addition, the cost of such deposits may be significantly higher if market interest rates are higher or there is an increased amount of competition for deposits in our market area at the time of renewal.

Waterstone Financial, Inc. is a separate legal entity from WaterStone Bank and must provide for its own liquidity to pay dividends to its shareholders, repurchase shares of its common stock, and for other corporate purposes. The primary source of liquidity for Waterstone Financial, Inc. is dividend payments from WaterStone Bank. The ability of WaterStone Bank to pay dividends is subject to regulatory restrictions. At September 30, 2024, Waterstone Financial, Inc. (on an unconsolidated basis) had liquid assets totaling $15.9 million.

Capital

Shareholders' equity decreased $2.1 million to $342.0 million at September 30, 2024. Shareholders' equity decreased primarily due to the declaration of dividends and the repurchase of stock. Partially offsetting the decreases, there were increases due to the net income, equity awards granted, unearned ESOP shares vesting, and an increase in the fair value of the securities portfolio.

The Company's Board of Directors authorized a 2,000,000 share stock repurchase program in the second quarter of 2024. As of September 30, 2024, the Company has approximately 1.9 million shares remaining in the plan.

WaterStone Bank is subject to various regulatory capital requirements, including a risk-based capital measure. The risk-based capital guidelines include both a definition of capital and a framework for calculating risk-weighted assets by assigning assets and off-balance sheet items to broad risk categories. At September 30, 2024, WaterStone Bank exceeded all regulatory capital requirements and is considered “well capitalized” under regulatory guidelines. See “Notes to Unaudited Consolidated Financial Statements - Note 7 - Regulatory Capital.”

Contractual Obligations, Commitments, Contingent Liabilities, and Off-balance Sheet Arrangements

During the three months ended September 30, 2024, we entered into $60.0 million of new long-term debt and repaid $160.7 million of short-term debt.

See Note 6 - Borrowings of the notes to unaudited consolidated financial statements for additional information about the remaining maturities of our FHLB long-term debt.

Our commitments, contingent liabilities, and off-balance sheet arrangements have not changed materially since previously reported in our Annual Report on Form 10-K for the year ended December 31, 2023.

See Note 9 - Commitments, Off-Balance Sheet Arrangements, and Contingent Liabilities of the notes to unaudited consolidated financial statements for additional information.

Management of Market Risk

General. The majority of our assets and liabilities are monetary in nature. Consequently, our most significant form of market risk is interest rate risk. Our assets, consisting primarily of mortgage loans, have longer maturities than our liabilities, consisting primarily of deposits. As a result, a principal part of our business strategy is to manage interest rate risk and reduce the exposure of our net interest income to changes in market interest rates. Accordingly, WaterStone Bank’s board of directors has established an Asset/Liability Committee which is responsible for evaluating the interest rate risk inherent in our assets and liabilities, for determining the level of risk that is appropriate given our business strategy, operating environment, capital, liquidity and performance objectives, and for managing this risk consistent with the guidelines approved by the board of directors. Management monitors the level of interest rate risk on a regular basis and the Asset/Liability Committee meets at least weekly to review our asset/liability policies and interest rate risk position, which are evaluated quarterly.

We have sought to manage our interest rate risk in order to minimize the exposure of our earnings and capital to changes in interest rates. We have implemented the following strategies to manage our interest rate risk: (i) emphasizing variable rate loans including variable rate one- to four-family, and commercial real estate loans as well as three to five year commercial real estate balloon loans; (ii) reducing and shortening the expected average life of the investment portfolio; and (iii) whenever possible, lengthening the term structure of our deposit base and our borrowings from the FHLB. These measures should reduce the volatility of our net interest income in different interest rate environments.

Income Simulation. Simulation analysis is an estimate of our interest rate risk exposure at a particular point in time. At least quarterly we review the potential effect changes in interest rates may have on the repayment or repricing of rate sensitive assets and funding requirements of rate sensitive liabilities. Our most recent simulation uses projected repricing of assets and liabilities at September 30, 2024 on the basis of contractual maturities, anticipated repayments and scheduled rate adjustments. Prepayment rate assumptions may have a significant impact on interest income simulation results. Because of the large percentage of loans and mortgage-backed securities we hold, rising or falling interest rates may have a significant impact on the actual prepayment speeds of our mortgage related assets that may in turn affect our interest rate sensitivity position. When interest rates rise, prepayment speeds slow and the average expected lives of our assets would tend to lengthen more than the expected average lives of our liabilities and therefore would most likely have a positive impact on net interest income and earnings.

The following interest rate scenario displays the percentage change in net interest income over a one-year time horizon assuming increases of 100, 200 and 300 basis points and a decreases of 100 basis points. The results incorporate actual cash flows and repricing characteristics for balance sheet accounts following an instantaneous parallel change in market rates based upon a static no growth, balance sheet.

Analysis of Net Interest Income Sensitivity

At September 30, 2024, a 100 basis point instantaneous increase in interest rates had the effect of decreasing forecast net interest income over the next 12 months by 7.08% while a 100 basis point decrease in rates had the effect of increasing net interest income by 7.86%.

Disclosure Controls and Procedures: Company management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this report. Based on such evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company’s disclosure controls and procedures are effective.

Internal Control Over Financial Reporting: There have been no changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

There have been no material changes in risk factors applicable to the Company from those disclosed in “Risk Factors” in Item 1A of the Company’s Annual Report on Form 10-K for the year ended December 31, 2023.