滙豐控股 (HSBC) 2004 Q3 法說會逐字稿

This presentation including the accompanying slides and subsequent discussions contain certain forward looking information with respect to the financial condition, results of operation and business of HSBC Holdings plc, Household and HSBC USA, Inc. and HSBC North America Holdings Inc. This information represents expectations or beliefs concerning future events and is subject to unknown risks and uncertainties. This information speaks only as of the date on which it is provided. Additional detailed information concerning important factors that could cause actual results to differ materially is available in the HSBC Holdings plc Annual Report, Household Annual Report on Form 10-K and HSBC USA, Inc. Annual Report on Form 10-K for the year ended December 31, 2003. Please further be advised that regulation FD prohibits Household and HSBC representatives from answering certain specific questions during the question and answer session.

Welcome to the HSBC USA third quarter results conference call on November 17, 2004. [OPERATOR INSTRUCTIONS] I will now hand the conference over to Mr. Douglas Flint. Please go ahead, sir.

Thank you very much and thank you for those of you that are on the call for joining us. What we thought would be useful given that we filed in the United States results for the Bank in the US and for Household was to give you the opportunity to ask questions.

With me on the call are Simon Penney, Chief Financial Officer of all our businesses in the United States and with him is Roger McGregor who's the CFO of the Bank -- the New York based bank and they'll be joining me in answering questions that arise.

You've had the opportunity for a day and a bit now to read the results, so I really want to say only a very few words by way of introduction, and my words are really going to focus around the UK GAAP numbers, partly because, obviously, that's what gets consolidated into HSBC Holdings and also because I think its particularly a feature of the third quarter results that the impact of the decision we made last year to downplay and, in fact, significantly come off securitization activity makes the US GAAP results much more difficult to analyze in a trend sense.

The trend in the UK GAAP numbers show the underlying business, I think are quite clear. In dealing with household, the results for the quarter reflect a number of important trends. Most importantly, I think, for looking forward is that we are beginning to see greater origination activity taking place and towards the end of the third quarter some more origination in the personal, non-real estate secure books after a period of fairly flat activity, but, again, it's very clear that the majority of origination throughout this year has been in real estate secured, and that mix impact is one of the contributors to a declining yield across the portfolio as a whole. The other evident trend is the decline in credit costs. Partly reflecting mix, but also reflecting a stronger U.S. economy, and the metrics that we track in relation to collection activity, early stage delinquency, late stage delinquency, bankruptcy and payment trends have all continued to trend favorably, albeit the rate of improvement has begun to level off, but all the indicators that we track continued to move favorably and we see that continuing for the forseeable future given the current economic conditions.

The other impact on the margin was obviously the cost of funds and I think there's a number of impacts apart from the impact of rising interest rates on the element of funding that we take at the short end of the curve, which clearly costs us more and that funding was perhaps higher than would otherwise be the case because earlier this year we began to fund more shorts in anticipation of the transfers of the private label card balances that will go across to the U.S. bank later on this quarter and that contributed to a shortening of funding and therefore its rates shows a higher cost for that funding.

We also, in the third quarter, added some longer dated funding just to improve the balance of funding that we had, which, again, by moving longer in the yield curve cost us something.

Saying a few words about the bank in the U.S., again, the feature of its results is fairly consistent. The driver revenue is the net interest income on the growing book, which is, again, predominantly in mortgages and a continuing very strong credit performance, the credit dynamics in the Bank in New York continue to be favorable, and, again, no indication of a change.

Fee and commission income was fairly stable in the quarter, although trading performance in the dealing room, in common with many other banks in the third quarter this year, was weaker, but by and large a fairly stable quarter in the North American bank.

I think at this point, I'd like to invite those on the call to offer questions, because I think it makes is more valuable to you if we direct ourselves to the particular areas that you've focused on as opposed to talk generally about what we think you might be finding interesting. So, if I turn it over to you at this stage, I'll do my best to answer your questions and to the extent that they're very specific then Simon and Roger will have all the answers. Thank you.

[OPERATOR INSTRUCTIONS] The first question comes from Alex Stern. Please state your company name followed by your question.

Goldman Sachs. Good afternoon Douglas, Simon and Roger. I just wanted to ask a couple of questions, if I may.

The first question related to the reduction in the portfolio yield, which alluded to [indiscernible]. From reading the release, you've mentioned in the release that there were contributory factors from pricing at the run-up of higher yielding assets due to low re-file activity, and obviously moving more towards mere prime you mentioned already secured growth as well.

I wonder if you can give us a little bit more on how much of that high yielding book is yet to run off? That's the question one.

Secondly, looking at the provisioning line, the U.S. GAAP, I know it's not comparable, but if you look at U.S. GAAP there was a significant decline in provisioning in the third quarter at $891m versus the previous quarters, but you don't see that under U.K. GAAP. I was wondering if you could give us some clarity on that. Thanks.

Alex, let me answer the second question the best I can and I'll let Simon prepare himself to answer the first.

I think you're referring to the movement in the managed basis provisioning and that is the impact of British securitization activity because the managed basis provisioning includes over the Life reserves, which are taking reserves against delinquency that will occur in the future because the securitization accounting has already brought in the margin on that activity into the securitization balances and, therefore, whereas U.K. GAAP deals with impairment in relation to balances that are on the balance sheet, securitization accounting also anticipates future losses and balances not yet originated because it's already taken the income on those balances and that's why there's a difference.

It's effectively -- one is current delinquency plus prospective delinquency and the other is purely current delinquency. So, you would see movement in the securitization accounting balances that are in relation to receivables not yet originated and, therefore, we're not accounting for under U.K. GAAP.

In relation to the extent to which there are further migrations of high yielding mortgages in the U.S., Simon, I'll let you answer that and correct anything I've said, of course.

There's nothing to add to your comments on the [indiscernible] but season disconnect between the U.S. and the U.K. GAAP numbers and I think your description of the securitization impact was very helpful.

We don't have specific figures we can run out to give out, but if you look at for the average life of some of the loan portfolios, certainly in the auto book you've relatively short life loans there and they're simply running off fairly quickly and in the real estate secured I guess you'd probably look to more like 3 to 4 year average life, and with a refine activities been going on over the recent past when the rates coming down, the [indiscernible] you get from business maybe another year or so to go through this sort of running off of some of the older portfolios. These are quite often things about when whole capitals were acquired rather than necessarily originated through the branch network and we haven't been doing so much of that of late, so there may be another year or so to run on that.

Great, Douglas, can I come back to the second question again. Just looking at the charge-off and the provisioning rate, obviously the provisioning in the third quarter was 2.85, the charge was at 4.36, delinquencies were obviously trending down but trending down only slightly, the coverage ratio came down from 123% on NPLs to, what, 111%. Do you see the third quarter as an adjustment quarter in effect, therefore the 2.85?

Well, I think the -- it's very difficult, in fact, it would be wrong to ever look at a single quarter. I mean, in the first half of the year, looking at underlying numbers, we had charge offs slightly higher in provisions as indeed the economic factors, the outlook factors, improved and, therefore, the build up of reserves that had been accounted for in previous years began to be brought down.

I think what you're seeing for the third quarter and hopefully continuing is that the level of new origination activity that we're doing is effectively as a growth factor so that the provisioning numbers reflecting not only delinquency but also growth on the book where the charge offs are coming through against the historic book. So, I would expect that if we continue the growth factors that we see that you would see provisioning being a little bit ahead of charge off. Simon, do you agree?

Yes, I think that's a fair comment. In the first quarter, charge offs were ahead of provisions because we had a relatively flat, sort of decline in the first quarter with see-saw run-off particularly in the car portfolios, but improving for equality and, as I say, there's a lesser release in the second quarter.

The position's been maintained pretty flat over the third, but, yes, I think endorsing your comments about continuing improvement in asset quality, albeit the rate of improvement perhaps slowing somewhat to mix allied with a faster rate of risk, particularly as we get into the fourth quarter when we'd expect to see an acceleration of growth rate, particularly in the credit card and private label portfolios because of seasonality, then that will all point to, therefore, some rebuilding provision as we look into the near future.

Just on Alex's point on coverage ratios, the decline from 120 odd per cent down to 111%, and these are based on the U.S. GAAP managed basis numbers and, to a large extent, that, again, is driven by the [indiscernible] that you talked about earlier, such as net [indiscernible] reduction in the level of over the life reserves on the securitized portfolio as we have seen faster than expected run-off in liquidation on some of those securitization pools.

If you look within that number, the percentage coverage on an owned basis has actually gone up from what probably used to be in the nineties odd, and we've gone up to 104% coverage on owned basis at September '04. So, I think it's actually an underlying improvement in the coverage ratios within Household.

Thank you very much.

The next question comes from Mr. Michael Lever. Please state your company name followed by your question.

It's Michael Lever from CSFB. I've just got a couple of questions. One more general question for you Douglas on the outlook, as you see it, for the U.S. consumer going into 2005 and a second slightly more detailed question really on the expenses in Household in Q3, which seemed to pick up a little bit, and I just wonder whether that was rebranding, or it was volume related or a combination of both?

Yes, the U.S. consumer -- I think we're quite cautious but, at the same time, the trends are stable and, if anything, modestly improving.

As you know, the biggest drivers in the consumer finance are consumer finance business, so ours is worked on employment statistics and these are moderately improving.

I think on a macro sense, we are quite cautious in 2005 in terms of being able to predict it because there do seem to be quite a number of imbalances that may lead to corrections and not yet sort of in the trends, but there's nothing we can see, at the moment, that would change the picture very dramatically from where we are.

Having said that, we've been cautious through 2004 and that's partly reflected in the lower growth in non-real estate secured lending, but consumer behavior has been more confident in their overtime hours and in their jobs and we've seen more demand towards the end of the third quarter, which is modestly reflected in imbalances.

Let me have a go at costs and Simon can add to it. I think that if you again look at the U.K. GAAP numbers where we try to show the trend, the costs as a percentage of average assets has been very stable and, therefore, quite a piece of the growth in cost is growth related, it's incentives to put assets on the book, it's marketing expenditure, and there is, of course, in the mortgage book perhaps a more just sort of a front loading of costs to originate the business.

So, predominantly, volume related is the answer. There would be a modest bit of rebranding, but not significant. We noted in the release too that we've increased compliance cost. I think that's just a feature of every aspect to the financial services today.

Simon, what would you add?

Can I just clarify one thing, Michael, are you looking at the U.S. or the U.K. GAAP numbers?

Well, we haven't got much of a breakdown on the U.K. GAAP numbers. So, I was looking at the managed --

You'll see from the 6-K filing from Holdings, we're only up about 19m quarter on quarter, 1.5%, and that's mainly marketing related and a bit of sort of rebranding activity to do with that.

There was a slightly higher cost for growth on a U.S. GAAP basis. There were, partly for the U.S. GAAP financials, some settlement costs of some old legal related issues, which were effectively to go back before the change in control, so they were taken through goodwill in the U.K. statements, but those -- there's an element of growth in the U.S. GAAP numbers which are, sort of, one off and you shouldn't assume they're going to be in the run-rate.

Okay.

They're pretty modest, Michael. I mean, the real impact is growth related and marketing to which [indiscernible].

Thank you.

Thank you. The next question comes from Mr. Jean-Paul Crutchley. Please state your company name followed by your question.

Hi, Douglas, it's JP from Merrills.

Hi.

Hi, two quick questions really more about the U.S.A. numbers rather than Household. The EBITDA impairment seems to come through in third quarter as well. I know that's a bit of industry phenomenon, but I think I recall some comments back around the turn of the year when you have that last year you'd look to try to reset that at lower levels, so it would be less of an issue going forward and I was wondering if you could comment on that.

Secondly, more generically, just in terms of the U.S., New York based franchise in terms of what you're seeing there because it seems to be a market, which locally is seeing a lot more competition on the deposit side of the balance sheet and I just wondered what you're seeing locally in that respect?

Yes, the MSR is a black art. As you know, we did -- we've had a go at this already. In the third quarter, we looked again and, in fact, we did a drains up again and there are a range of assumptions in the calculation of MSRs and I think will move to a more cautious set of assumptions consciously. It's an area that we just felt that we should adjust.

Time will tell, but it was moving to a more cautious set of assumptions within acceptable ranges and some of the variables caused the MSRs to fall in relation to the portfolio. So we had, you're absolutely right that competitively, in New York, the position is strong. There's quite a lot of activity in the Bank, particularly in relation to deposit raising and maybe if I let Roger expand because he will do it with a great deal more authority than I'm able to do and if Roger add anything that you feel you need to on MSRs.

Okay, thanks Douglas. On the MSRs, probably one of the major effects on the numbers is we're managing this on an economic basis to an accounting basis and you will see from the note that actually there was an improvement in the economic side, that didn't come through the accounting, of 30m in the last quarter. So, that's been the biggest impact and the two are, more or less, in line now.

As far as Douglas just said in terms of the factors, we've been looking at them all and we have gone through them very thoroughly now and tried to align them much more with the market.

With regard to the deposits, you're right there is a lot of competition. We're very actively taking that on. We've issued -- we had a pre-checking account that was initiated earlier this year. That has brought in a lot of customers and we're looking at a number of other products to add to our range, which will help us. But it is certainly - downstated. It is a very tight market.

Thank you.

Thank you. The next question comes from Mr. Robert Law. Please state your company name followed by your question.

Hi, good afternoon, it's Robert Law from Lehmans. I'd like to go back, if I may, to the issue of revenue and margin at Household. Broadly I am asking, what does it take for revenue attrition and nominal terms to stabilize and grow and obviously then the margin to stabilize as well? It seems to me that mortgages have driven the asset growth again. Can you comment on what the priorities are in terms of new business at Household going to be? What's your attitude to risk, volume, margin and mix in that area and when does the higher margin's black book stabilize in terms of the negative impact in revenue and margin on the Company? Thank you.

Simon, do you want to have a go?

I am trying to avoid any forward looking statements here. I do have a lawyer sitting in the room watching me very carefully.

If you look across the different portfolios, we're seeing, and I think it shows up on the figures which went out in Household's 6-K, we've previously good growth in the auto book, but is much more through to the prime dealership channels now and through liaisons with some of the manufacturers, and probably now a good 40% or so of our new products and also it's probably new vehicles, whereas 12/24 months ago it had been a much, much lower proportion.

If you look at what's happening in the main card portfolio, these are the MasterCard portfolio, it's been pretty flat over the last 9 months or so. We saw the usual run-off in the beginning of the year and it's stable ever since, but what has been going on in there is much more [indiscernible] of the sub-prime segment and the feature there is that these people don't necessarily borrow so many dollars and, therefore, you're not necessarily going to see receivables growth nor necessarily in particular headline growth in net interest income, but you are seeing, and then it comes through to the figures I think in the year-to-date, much better growth in the fee income line and a lot of that is coming out of the card product. So, it's not just a question of balances and margin, you have to look at the fees, the total revenue were generating off the customer base.

Private label is a more difficult one to sort of grow significantly. It's a fairly static market overall. As I'm sure you're aware, it's heavily concentrated to Citi, GE and ourselves, and we continue to maintain or build a bit of share there as more retailer portfolios become available.

In fact, rather a sort of [indiscernible] answer. It's difficult to sort of point to growth in any single factor. I think we will continue to see though, certainly in absolute dollar amounts, the biggest growth will reign in the real estate secured portfolios and that will be both through the wholesale businesses and through the branch originated real estate lending.

What's that going to do to margins? Well, it's a complex question because the mixed shift will continue to be towards more real estate and that will tend to, therefore, all other things being equal, bring the margin down because those tends to be a tighter spread product and it's a very competitive marketplace out there across the whole customer spectrum.

I think it's complicated also, Robert, by the trend in U.S. house prices, to the extent that in the last period, we've seen quite strong growth in house prices that has given people equity which has enabled a great deal of incremental credit to be on a real estate secured basis as opposed to an unsecured basis and I think that across the industry one of the issues is going to be whether, in fact, that trend continues so therefore making most of the production real estate secured, or whether, in fact, we'll see more stabilization or even fall in house prices in some areas, which would then mean more unsecured lending. So, I think that, again, is one of the unknowns in relation to what will happen to house prices, but that's been a big impact in relation to the origination volume across the industry of unsecured credit.

If I might just follow on from that, I can see why that has a negative shift on the margins and I could see why that might be ongoing, but, in addition to this, you've obviously got a negative direction in the overall level of revenue in nominal terms, which implies you've got back book stuff roaming off as well, at the same time.

You talked at the start about the impact of interest rates on funding. You did talk about low and [indiscernible] assets running off and I'm trying to get a feel for when that -- whether that has kind of run it's course in this quarter, because I think we've got the impression that the trend in the margin were beginning to stabilize whereas it doesn't that's that in these figures. It actually, if anything, shows an acceleration in the deterioration in the revenue margin.

I think it's very difficult to call what the turning point is. As I said, I think there is some evidence that it's still a small piece to the equation. There's more capacity, more origination in the unsecured space, and again there's a seasonality to that coming up to the holiday season and Thanksgiving and Christmas and all that, but I think that it's been tough in the last 2 quarters to grow income.

But remember, that's true across the aggregated business. There has been -- obviously, if you're looking just at the Household filing, you've got to add back all of the stuff, the production, that's now being done in the bank in the U.S.

But remember, that's true across the aggregated business. There has been, obviously, if you look in just the Household filing, you've got to add back all the stuff -- the production that's now being done in the bank in the U.S. But yes, the revenue trends are modestly growing or flat. And it's something we are addressing in our plans, but that's the challenge. You're absolutely right.

Thank you.

Thank you. The next question comes from Mr. Simon Samuels. Please state your company name followed by your question.

Yes, thanks very much. Good afternoon everybody. It's Simon Samuels at Citigroup Smith Barney. I've got 2 questions actually. The first one's a very quick one, is can you tell me what level -- how you're making -- what progress you're making for the $200m of cost savings within the first 24 months? Where are we now 18 months after the transaction? So how much cost savings have you put within the Household filing in the third quarter?

You said there were 2 questions.

Yes, shall we just do that one first?

The latest numbers I've got -- in relation to -- I couldn't conceivably tell you what the actual dollar amount is in the third quarter, but in relation to the aggregate savings, which were not just in North America, it was -- the $200m was from Household coming into HSBC, the lion's share in North America in terms of shared functions and shared technology and so on and so forth. But another large element of it was software license savings globally from a larger user base for a software we both use, hardware savings and [indiscernible] savings as we migrated our credit card platforms onto the Household world platform. And, indeed, as we replaced outsourcing contracts, which we had, in fact, all the way through Canada, North America and Mexico. Those 3 have now been done and we have made the savings that we expected.

We are hard at work on the U.K. and other places with [indiscernible]. The latest numbers I have in terms of run rates suggest that we are on a projected run rate and that we've already achieved more than the $200m in an annualized run rate, in terms of things -- initiatives that have been either completed or are on their way in terms of the migration of systems platforms. So as to what's in the third quarter run rate, I would hazard a guess because we'd have to think of just the North American piece of the total. But the $200m in aggregate, we're very comfortable that that has been achieved.

Thank you very much. The second question, Douglas, it's going back to something that you and I have spoken about many times over the last couple of years. If I take you back to when you announced the acquisition of Household, we were presented with slides that showed the risk adjusted margins of Household over the preceding few years at that time, which essentially was conveying the message that that was a very stable number, running at 740 to 750 basis point region.

In the circle of numbers now, that 740, 750 basis point, this margin is now down to 660, so we've stepped down quite noticeably. And, of course, that 660 is now after achieving funding synergies, which have contributed about 70 basis points. So really excluding those, from an operational sense, we'd be nearer 6%.

And my question really is -- well 2 questions actually. One is that risk adjusted evolution exactly as you anticipated at the time of the transaction because the indication at the time was that it was a stable number and it seems to have stepped down quite sharply? And secondly, do you believe that we're now at a new sustainable lower base for what is a risk adjusted margin for the Household business, or do you think it deteriorates further from here or perhaps gets back to a level that was more consistent with its own history?

There's a lot of questions -- without making forecasts. I think a number of things. I think that probably at the time we did the acquisition, I suspect that we would not have anticipated that the shift in mix would have been as dramatic as it has been. I think as we say in the [Bank], 95% of the new production this year net is in real estate secured. And that's a much higher proportion than the stock of business was at the time, and we've shifted the business to [near prime] than it was in the past. Now I guess, in a sense, the issue that we will be able to talk to looking back, but not at the moment, is to whether that lower margin brings with it less volatility and, therefore, there's a higher quality of earnings. I don't know yet.

I think -- I would correct you a little bit. It's a little bit wrong to say that if you didn't have the funding savings, you would take funding savings off and say the margin is lower. It was the ability to fund business in the [near prime] space, there was facilitated by the funding synergies that we got. So indeed, those funding synergies were used to move the business profile into areas in [near prime] real estate and, indeed, new vehicle sales to the prime sector. Households would not have been able to do with its funding structure in the past. And we did say at the time that some of the funding synergies would be used to move ourselves to different price points with a different customer group. So I think that's fair.

I think another element of it is that there has been an impact to an extent from the movement in the short-term interest rates, because to some extent there has always been an element of short-term funding and that has benefited the margin as rates have come down. And as rates have started to rise again, that element of short-term funding has, against essentially a fixed rate receivable booked, impacted the margin. As I said, it exacerbated a little bit in '04 from the fact that that short-term funding was perhaps higher than it might have been and in anticipation of the transfers that we hope to make later on this year.

Simon, what would you add, if anything?

I think you've given a very comprehensive answer. I think just to pick up on your last point, we are running a very short liability book at the moment in anticipation -- generally we tend to shorten the book anyway because whereas Household probably tends to be more 3, 5, 7 year space, it will probably be more than 3,5 and shorter than that. But particularly at the moment, we've got probably about 14b outstanding in commercial paper, which is an unusually high level. And therefore we are going to be affected by the rise in short-term rates and you will be aware of the yield covers [over it] at the shorter end have flattened out. So we're getting that compression at the shorter end, but not necessarily seeing the commencement of pick up in yield and the re-pricing of new products at the longer end because of the flatter curve.

I think I might just [indiscernible] again maybe comment on whether we've stepped down to a new sustainable base or whether traveling (ph) caused a newer level still or whether -- because if you have all those factors, particularly the rate cycle is obviously going to feature on and off the Household over the last decade, and essentially that was what the risk adjusted margin was about, that if the rate cycle went one direction, typically credit quality is improving. So the whole thing [nicely netted] off. But, as I say, do you think we could step down to a new permanent level or are we going to go further down?

What you say is right. Of course, another thing we can't -- we don't know in terms of timing is that there is this impact that today an element of the charge offs are reflective of mix of business that is different from the one we have got today. So it will take a little bit of time before our, if you like, the charge offs are reflective of the new mix of business. And the revenues are reflective of the new mix of business. We've slightly got an anomaly still that is working its way through the system. I think it would be foolish to forecast where margins might be, but clearly, a lot of the attention in the Group in North America is on ensuring that we can, so far as we can, maintain and indeed find ways to expand that margin again.

Again, there's a paradox in the sense that the margin is not just spread but also fees. And as you get into an improving economic environment, the element of fees that are reflective of, [indiscernible], particularly in the car portfolios, begin to decline because of your over limit fees, your late payment fees or as credit quality improves. So it's a complex equation. I think we'll have to respond in the future to what happens in the future. And no doubt you will continue to observe the trend carefully Simon.

Thank you very much.

Thank you. The next question comes from Mr. Paul Measday. Please state your company name followed by your question.

Hi, it's Paul Measday from Execution. Just a couple of quick questions on cost, referring back to Michael's question actually. If you look at marketing costs, they are up about a third Q3 versus Q2. And I think your commentary refers to a change in responsibilities on the General Motors car program. I wonder if you could explain in a bit more detail exactly what has changed there and whether there's a risk that this occurs on other partnership programs. And the way that I'm reading it is that this is step change upwards in marketing costs. Would that be fair or is there perhaps more seasonality of one-off nature associated with that?

And the second question was just where you have seen transfer of costs of responsibilities to the HGSU (ph). I see that the costs that Household has incurred in that respect have fallen Q3 against Q2 and you've actually seen a rise in other admin and servicing costs and salaries as well. I wonder if you could talk about what we should expect by way of trends between the expense captions in Household as they relate to the HGSU?

Let me give Simon time to think. I think that the last question is a complicated one. And indeed, I think the only way to look at the cost base in North America, in a sense, is looking at the aggregated cost base of North America, because there are some shift between the Bank, Household and the Technology service. We are absolutely convinced that in terms of aggregate costs, it gives us a visibility to control, manage them and to get better accountability for them. But it does complicate the lines on which individual costs arise between the businesses.

Let me get Simon to talk about the dynamics of marketing costs and say anything that he feels is appropriate on General Motors.

Thanks for that, but I don't want to go into all the details of the commercial negotiations we have entered into. But essentially, we did have an agreement, an arrangement in the past where we are basically split with GM most of the costs of account acquisition, and so under U.S. GAAP in particular, because I think the question is probably directed to the U.S. GAAP numbers, where this shows through. Those costs would have effectively been capitalized and amortized through the net interest income line over about a 12 month period.

We have now simply taken greater control over the marketing and development of the product, and therefore we incur direct marketing expenses. So those costs are now going through the expense line. So, in effect, what you've got, and this started in the third quarter, is a geography shift between net interest income and marketing expense. And that is the last part of what's driven the cost growth over the second quarter.

Okay. Thank you.

Thank you. The next question comes from Mr. Thomas Rayner. Please state your company name followed by your question.

Yes, good afternoon. It's Thomas Rayner from Citigroup Smith Barney here. Can I just ask you on the asset transfers out of Household into HSBC Bank USA, because I think at the end of Q1 you indicated throughout the rest of year, not only would the private label portfolio be transferred over, but also all of the MasterCard and Visa portfolios as well. And in the latest release it suggest that only the latter transfers will only occur based on an evaluation of capital and liquidity in each business.

And I suppose I have 2 questions. 1, to what extent does this scaling back reflect the competitive conditions that you mentioned earlier in the deposits market in your HSBC USA business? The second question, if this level of transfers is going to be lower, should be not be thinking in terms of maybe lower funding synergies because I believe that the transfers were part of the original estimate?

No, I don't think we are getting impact on that at all. And indeed, one of the reasons why the transfers are being reevaluated is that the incremental benefit of transferring to the Bank from the balance sheet is the spread between the marginal deployment of liquidity in the Bank and the cost at which Household can borrow money, because in a sense where the Bank would replace the money and AA, single A [paper], whatever it does, and Household borrows at its rating. That spread is significantly narrower than it was at the time we did the acquisition. So the benefit from moving balance sheets is less because of the synergy that Household has achieved in its own name in bringing its pricing spreads down.

The other thing that is relevant is that we will continue to use securitization as a funding mechanism, albeit that we will cease to -- apart from the exceptions that we have made in the filings in relation to top up, and [conduits announcings], we will continue to deal less gain on sales securitizations. But we will continue to use securitization within the funding mix. One of the asset classes is easiest and most appropriate to securitize, and we do significantly securitize today, is credit cards. And therefore, we will continue to securitize credit cards to a large extent. So therefore, again, the benefit of moving between balance sheets is perhaps less than might have been envisaged at the time. So I think it's that that's going into the equation, as to, A, if we're going to continue to securitize, it doesn't really matter which balance sheet they were on momentarily before they were securitized.

So the whole framework in the U.S. is being looked at against where funding spreads are now in the businesses. And, as I said, Household spreads are coming further than perhaps we had modeled at the time. And therefore the equations have changed. So we will do the private label [start] this quarter, and that's a big chunk of it. And then we will see in relation to the origination that's taking place across the U.S., what business it makes sense to put on what balance sheet.

The other factor is that I think the bank business is in itself projected to grow at a stronger rate than perhaps we were imagining at the time. The deal came together because of origination that's been done through Household channels that is ending up on the Bank balance sheet in real estate and other initiatives. Therefore, again, its liquidity is being used for origination that's going directly into it. So it's just a broad analysis of where the assets are being originated, the way we're funding them and the relative funding advantages of doing it.

I don't think that, indeed, we have confirmed in the 3Q filing that the $1b indicative number in terms of the benefits of putting the 2 businesses together is still appropriate. And indeed it is. And indeed, as the fair value adjustment that we have talked about many times in the past has begun to amortize, because it is a finite number, and it amortizes in relation to the debt that it was attached to, the cash savings are broadly equivalent to the run off in the fair value adjustment, which is kind of what you would have expected. So it's all confirmatory.

Simon, do you want to add anything?

No. As you say, a lot of this, to some extent, has been driven by the fact the Bank itself is now growing at a faster rate than perhaps we had anticipated at the time the initial projections were put together. The other thing to add and endorse and expand on what you said, that the credit card portfolio is a fairly heavily securitized portfolio and therefore [indiscernible] just moving securitization [throughout the cost] there's no immediate benefit.

What Household is now seeing, depending on where we are the market on any given day, it can actually be cheaper now for Household to raise unsecured and secured debt. So in the context of coming up gain on sale, it makes more sense just to go to a longer period, let some of those trusts collapse down and just fund directly in the unsecured market. And then we'll end up at the marginal cost [to run] Household against Bank as we go through '05, and then consider probably making a further 23A application when we have got more of the assets back on the balance sheet.

Okay. Thanks. Can I just cheekily jump in with just a second question? Just to go back, I think, right to the start. I think Annik (ph) mentioned the level of cover. You pointed out that maybe the U.S. GAAP is now being distorted by securitization issues. Just looking at the -- on a managed basis, under U.S. GAAP, the sort of reserves as a percentage of receivables has come down another 50 basis points. Now, I don't know now whether we can use this as any meaningful trend if there is these distortions. But my question would be that given that the mix is still being driven by mortgages, would it be reasonable to expect that this sort of level, this 4.1% would actually have further to come down and could continue coming down for several quarters? Or do you think you're reaching a level now where the reserves are pretty much right given the conditions you are facing?

Well optimally, you stop securitization, your managed numbers come down to the same as your [own] numbers. So, as I said, the securitization numbers are complicated by the fact that they include through-the-life reserves, i.e. they include forecast delinquency provision requirements to be offset in the [strict] receivable against forecast margins. So you're not on a basis that we recognize in relation to reserve cover against the balance sheet today. It's reserve cover against the balance sheet today, plus the requirement on prospective new balances that's included in the managed balance sheet figure because it's the aggregation of the own figure, plus what's on the securitization, which is more than one would have against the balance sheet today.

And if you remember the filing we made when we bought Household, one of the reconciliation items was the fact that reserves from a managed basis came down to a U.K. GAAP basis by that element, by the element of forecast feature provisions, which in the securitization accounting were offset against future margin. So it's apples and pears I think.

Under U.K. GAAP, are you comfortable now that the level of reserving is consistent with this sort of outlook you're expecting?

Absolutely. And indeed, on a percentage basis has been consistent, if anything, marginally strengthening. Yes, absolutely.

Okay. Thanks a lot.

If I could just add to that, you mentioned just now about 50 basis point decline in the ratio of reserves to receivables on a managed basis. And that is essentially because of what's happening on the securitization pools. If you watch what's happening on an owned basis, there's been about an 11 basis point reduction in coverage on a sequential quarter basis. And that's probably a better indication of what's really happening. And that's improvement in asset quality and growth in the portfolio. But again, to repeat an earlier comment, on an owned basis, we have actually improved coverage on an own basis. On NPL's (ph) we're now at 104% against about 93% a year ago.

Okay. Thank you. I can see those figures.

Thank you. The next question comes from Mr. Mark Thomas. Please state your company name followed by your question.

Hi, it's Mark Thomas from Keefe Bruyette. 1 very easy question and 1 slightly more complicated one, if I may. First of all, tax rate in Household looks a little bit below previous quarters' run rate. Just if there's any guidance as to what that would be looking forward, any indications?

The second question is all to do around the funding costs. In particular, I'm focusing on page 9 of Household's AK, where we'd look at the first quarter has been 247, the second quarter being 246 and then the third quarter 271. So 25 basis point increase in funding. Now I hear your comments that more of the book is shorter term, and obviously shorter-term rates have gone up by 40 basis points. But shorter-term rates are still well below the long-dated funding that Household would previously have been doing. Can you give a bit more in terms of the dynamics? And also bearing in mind just saying that Household spread has come down as well. What's actually driving that interest expense at 25 basis points in the quarter?

I think against what it was historically is less relevant from the fact that there was a large element -- or there was a largest element of short-dated funding in the second quarter. And the cost of that went up in the third quarter. So it moved straight through the margin. And indeed, that, together with some element, as I said, of longer-dated funding that was put on just to balance the maturity profile funding, changed the cost of funds. I don't think there's anything particularly directional that comes from the figures. It's just the combination of rate and analysis of maturities.

Perhaps if I could just follow up a little on that. If we add together the CP and assume that most of the HSBC affiliate funding is short term, you'd be looking at something like 25% of the funding would be short term. Now the short-term rates have gone up by 40 basis points. That will give you 10 basis points. But we're trying to find 25 basis points. So I'm just wondering what are the dynamics? Which dynamic am I missing here?

I think it's a complex dynamic because it would depend what maturities rolled off in the quarter and were refinanced against what the accrual rate was on those fundings. There are many choices of funding in Household. It is what it is, Mark. I don't think I can add any more. Simon, do you want to rescue me, but I find it difficult to give you the answer that you're looking for Mark.

No, as you say, it is what it is. It is purely a function of market rates and the refinancing and fact of maturing [term] debt as much as the impact on the very high performance of short-term debt, which we're running at the moment pending the transfer of the private label portfolio.

If I could just come back on the first question, on the tax rates. We do a proportion of what's called low income housing tax credit, which is really a slight mix change and this stuff (ph) is effectively tax exempt. There's just slight mix changes. I wouldn't read too much into that slight change in the Household rate in the third quarter.

Great. Thank you.

Thank you. The next question comes from Mr. [Simir Gogg]. Please state you company name followed by your question.

Hi, this is Simir Gogg from Fox-Pitt Kelton. I've got 3 questions. 2 factual ones. The first one being just a clarification. You have got $161m of significant items in HSBC USA. $99m of those relate to transfer of loans to Household. Am I right in assuming that that will get eliminated at the Group level?

Absolutely. On the 6K filing we gave you, we did, on page 6, eliminate it. So yes, all inter-Group profits are eliminated.

The second question is related to the securitizations revenue line on managed basis in Household. I know, Douglas, you said that the trends are not necessarily -- they are distorted by restructuring you are doing in the portfolio, but we saw a pretty big jump in the third quarter versus the previous 2 quarters. And I was wondering if you could add some color as to what specific changes you are making in terms of switching from revolving trust to secured financing to cause that big, big change on a quarterly basis?

On a managed basis, the securitization accounting goes all over the place and you've really got to piece that together to kind of make it work. And obviously you've got the amortization of historic securitization balances being offset by the gains of fresh origination. So if originations fall, you end up with a very negative securitization income. But loads of other balances all over the P&L account that make it up.

It's really geography rather than anything else, which is why I actually think, and I would say this wouldn't I, but I think we've got a far more accurate picture of the underlying business looking at the U.K. GAAP quarterly numbers than you do either looking at the owned U.S. numbers of the managed U.S. numbers, because securitization really does make them very complicated to follow. The underlying numbers, I think, are well represented. And the trends are clear in the U.K. numbers. And obviously that's what we -- what we appoint within the Group, and indeed, reflects the underlying business much better than the securitization inclusive numbers.

I think that with securitized, there's no trend that you can take from it. It's just the impact of the securitization accounting for new origination which, in this case, is virtually nothing, against the amortization of what was on the books in the past, which is all balance sheet movement, it's not P&L related. Simon?

Are you looking at the Household AK as the basis of that question?

That's right, yes.

On page 9, yes. So you've got a 42 negative on securitization revenue.

Yes, that's right.

So if you look further under the provision for credit losses, you see that there's a significant reduction there on a trading quarter basis. So it is essentially geography, as Douglas was saying. And you're going to keep getting this noise in the U.S. GAAP numbers until we finally let these trusts run off. And then we were saying that would '06, '07 time, which would probably be completed out of owned, and managed will be the same. That, plus the continued flow of mortgages into the bank, plus the prospective transfer of private label and particularly credit cards. And it just makes it difficult to make any sense, to be honest, out of the Household legal entity U.S. GAAP filings. As Douglas said, you need to look at the U.K. GAAP trends.

Okay. Can I just ask one more question? This is relating to the expansion in the U.S. Now, I saw a comment this morning about basically looking and expanding the liabilities franchise in the U.S. on a geographical basis. I don't know if you could add to what the Group's plans are in terms of building a wider geographic presence in the U.S., specifically taking on from comments today, but also I think earlier in the year there have been comments about looking to expand the U.S. franchise.

I think to the extent that we continue to grow on the asset side, we will continue to seek to diversify funding. And we have done a lot in the last year to improve the location of our branches in New York State. We have consolidated some, we have shifted some. We have opened branches in our growth markets in downstate New York. We have opened branches selectively outside New York. We've opened in San Francisco and Los Angeles. So I think we will, through marketing and through selective branch expansion plans, seek to identify areas where the demographics are powerful for our brand, meaning potentially Hispanic and Chinese communities and other areas where we think we have traction to help us build our liability base.

I think that we said historically, and we say again, that we look at the business on a very balanced basis. And if that means marketing, if it means opening branches, we look at that against -- if there were opportunities selectively to acquire branches, we would look at them. But only along with the same economics as growing or opening. As far as we can see in the future, the near future, we will be able to organically do everything we need to do. And it would be lovely to think that at some point in the future that we will have such growth that we will have additional challenges to face. But at the moment it's an organic story based on marketing and selective branch openings.

Roger, you're closer again to this than I am, if you want to add anything.

I think you've covered it very well Douglas.

Okay. Thank you.

Thank you. The next question comes from Mr. James Alexander. Please state your company name followed by your question.

It's James Alexander at MNG. I'm just looking at slide 2 on 6K and I'm just wondering if there's much seasonality in these quarterly numbers or is that Q1 '04 particularly anomalous or is it just a seasonally high one. Perhaps you could just comment a bit because we're not so used to looking at quarterly numbers?

We could all have [a debate] if we want to go there. There is a seasonality. The first quarter for Household includes the tax-based refund business and tax balance financing business, which I think kicked in a on a pre-tax basis about $180m, and about $114m post-tax. And that is a first quarter business. It's around the U.S. tax refund season, so it's all Q1. And that business was improved by bringing the banking side of it into HSBC, which is part of the synergies, because we were able to fund it as opposed to going to a third party in the past.

There were some disposal gains in the second quarter of some tens of millions that were one-offs. So although there's always one-offs, they're just different one-offs. But that's really the seasonality together with the fact that the fourth quarter is when you see the highest growth in card -- lending card fees, card balances, because of the expenditure seasons around holidays, Thanksgiving, Christmas, January sale -- January sales is obviously in January. But around those 3 months you see significant growth in card business. But that's the seasonality in the business. Unless you want to -- Simon, do you want to add anything to that.

No, that's right. You say there was a seasonality in the first quarter, which is always there. There always is asset disposals in the second quarter. And if you strip those out, you get a much flatter looking picture. The third quarter '04 was actually pretty clean in terms of one-offs, as was the third quarter of '03. So if you look [there], you've got about an 11% growth in cash basis earnings over the year ago a quarter, which is probably a better indication of where we're going.

Okay. That's helpful. Thank you.

We have a follow-up question from Mr. Michael Lever of CSFB. Please go ahead sir.

Hello. The question's partly been asked, but perhaps if I can just go to the Holdings 6K slide 6. I think what I'm grappling with is if I look at the combined Household and HSBC USA, first quarter 1165, second quarter 1007, third quarter 8 -- sorry 945. And of that 945, you need to take --

[Indiscernible] absolutely.

You need to take 60m or so, I suppose, post-tax to 70m off. So we've been coming steadily down. And the HSBC North American business, HSBC USA, Q3 and Q2 ex those disposal gains looks very, very weak. So I get them -- save me asking the same question. Is Q3 indicative of how you're feeling things are or is the first 2 quarters more indicative of what we should be expecting?

Without making a forecast.

Without making a forecast. Q3 does seem to be particularly weak on an underlying basis, ex those gains on a U.K. GAAP basis compared to the previous 2 quarters.

But actually ahead of the previous -- the quarter in the previous year. The other thing to say, of course, in the U.S. business is that the trading performance was dramatically weaker in the third quarter. I think looking at trading performance in quarters is interesting. But you would never extrapolate a good or a bad quarter. It's better looking at the year to date figures, which are fine. I don't know Michael. You're going to have to make the judgment as to whether you reach the three quarters or take the best or the worst and extrapolate from there. I think it's very difficult to take a single quarter and do anything with it.

I think that the things that we clearly are focusing on is that the asset growth is, I think, better in Q3 than it was at the beginning of the year. I think the rate of delinquency is encouraging and better. I think the margin is declining and we are thinking hard about what we do with mix and pricing and things and costs to manage that. But the trends are all very visible. And we're not sitting here just saying let's see what happens in the fourth quarter and next year. We're thinking about how to change things. And if we're successful, we'll tell you about it. And if we're not successful we'll tell you about it too, but you will probably tell us first.

It's difficult to get away from the fact that the Household U.K. GAAP numbers for Q3 were on a pre-provision basis, the second worst of the 6 quarters you reported here in this schedule.

The pre-provision numbers were --?

--the second worse of the 6 quarters, apart from Q2 '03 when you barely got going, this is basically the second worst quarter on a pre-provision basis, factually, that you've produced.

You're absolutely right. Thank you. Okay?

[OPERATOR INSTRUCTIONS]. Thank you gentlemen, there appear to be no further questions.

Well, thank you all for joining us on the call. And we look forward to you joining us again, I think, on December 10, if you can, when we will have a pre-close short call in relation to the Group. But thank you. And Simon and Roger, thank you for joining me.

Bye.

Thank you very much. Good bye.

This concludes your conference call. Thank you for participating. You may now disconnect.