NatWest Group PLC (NWG) 2023 Q2 法說會逐字稿

Good morning, and welcome to NatWest Group H1 Results 2023 Management Presentation. Today's presentation will be hosted by Chairman, Howard Davies; and CFO, Katie Murray. After the presentation, we will open up for questions. Howard, please go ahead.

Good morning, and thank you for joining us today. I'll start with a short introduction before Katie takes you through our financial performance. On Wednesday, we announced that Alison Rose has agreed with the Board to step down as Chief Executive with immediate effect by mutual consent.

It was a sad moment. She had dedicated all her working life to date to NatWest and leaves many colleagues who respect and admire her greatly. Subject to regulatory approval, the Board has appointed both ways, the current CEO by Commercial & Institutional business as interim Group Chief Executive. Before Paul became CEO of our Commercial & Institutional business, he led the group's commercial banking division. He's a very experienced banker with a track record of success in senior roles in wholesale, corporate, international retail banking and risk and has worked across the U.K., in Europe and in the U.S. He's been a member of our Executive Committee since 2019 and has played an important role in delivering our current strategy, which remains unchanged.

Paul will present results from Q3 onwards and looks forward to meeting investors on one-to-one basis in the near future. The Board began the process of appointing my successor in April, as I will have been in post for 9 years by July 2024, the maximum recommended tenure under the U.K. Corporate Governance Code. And my successor will be responsible for leading the process to select a permanent CEO, and we fully expect Paul to take part in that process.

With that, I'll hand over to Katie to run through the results.

Thank you, Howard. The business continues to perform well, and we have delivered a strong first half with growth in lending of GBP 6 billion and new customer acquisition in key areas. We delivered first half operating profit of GBP 3.6 billion and attributable profit of GBP 2.3 billion.

Income grew to GBP 7.4 billion and costs were GBP 3.8 billion. Our strong capital generation gives us flexibility to invest in the business, consider other value-creating strategic options and return capital to shareholders. We are proposing an interim dividend this year of 5.5p, up from 3.5p last year. We have completed the GBP 800 million on-market buyback announced in February. And today, we are announcing another on-market buyback of up to GBP 500 million, which we expect to start next week.

Together with the directed buyback of GBP 1.3 billion, this brings our CET1 ratio to 13.5%, within our target range of 13% to 14% for the first time. Our return on tangible equity was 18.2%. We have updated our economic forecasting since we last booked. Although the U.K. economy has been stronger than expected, inflation remains relatively high and rates have continued to rise, resulting in ongoing economic uncertainty. We now expect peak rates of 5.5% this year, up from 4.25% in our previous forecast.

We are also seeing liquidity in the banking system reduced. In the face of ongoing inflation and rising interest rates, customers are behaving rationally. Corporates are deleveraging. Overall demand for borrowing is muted. We are seeing customers adjust their spending habits and some are using deposits to pay down more expensive debt.

Given the macroeconomic environment and higher rates, we have taken the decision to strengthen impairment reserves by around GBP 210 million. Against this backdrop, our strong balance sheet is more important than ever, with robust liquidity, a high-quality deposit base and a well-diversified loan book, enabling us to continue to support our customers and fueling the U.K. economy. I'll now take you through the second quarter performance using the first quarter as a comparator on Slide 6.

Total income was stable at GBP 3.9 billion. Income, excluding all notable items, was GBP 3.6 billion, down 6.7%. Within this, net interest income was 2.7% lower at GBP 2.8 billion and noninterest income was down 19.5% at GBP 739 million. Operating expenses fell 3.1% to GBP 1.9 billion. The impairment charge increased to GBP 153 million or 16 basis points of loans, driven by higher post-model adjustments. Taking all of this together, we delivered operating profit before tax of GBP 1.8 billion. We incurred some notable charges, bringing profit attributable to ordinary shareholders to GBP 1 billion. Our return on tangible equity was 16.4%.

We are pleased to have delivered further net lending growth in the quarter. Gross loans to customers across our 3 businesses increased by GBP 0.3 billion to GBP 356 billion. Taking retail banking together with private banking, mortgage balances grew by GBP 1.9 billion or 1% in the quarter. Gross new lending was GBP 8 billion, representing flow share of around 15%. And our stock share has increased from 12.3% at the start of the year to 12.6%, demonstrating how we are delivering on our grow ahead strategy.

Given volatility in swap rates during the quarter, our average application margin was below our intended range of around 80 basis points. But we're back at this level at the beginning of July as we have repriced customer rates.

Unsecured balances increased by a further GBP 600 million to GBP 15 billion, driven by additional card issuance and ongoing share gains. In Commercial & Institutional, gross customer loans decreased by GBP 2.3 billion. At the mid- to large end, we saw some demand for asset finance and revolving credit facilities. And at the smaller end, demand does remain muted and customers with surplus liquidity continue to deleverage, including repayment of government scheme lending.

So let me now turn to deposits on Slide 8. Customer deposits across our 3 businesses were stable in the quarter at GBP 421 billion. As expected, outflows in Retail Banking and Private Banking slowed following tax payments made in the first quarter. In Commercial & Institutional, deposits increased by GBP 1 billion. Our loan-to-deposit ratio of 83% allows us to manage our deposit beta value and importantly, allows us to support customers and grow our share in target areas.

The U.K. base rate has increased by 75 basis points to 5% since we presented Q1 results. And customers are increasingly moving balances from noninterest-bearing to term accounts. Noninterest-bearing balances have reduced from around 40% of the total to 37%. And term deposits are now 11% of the total, up from 6% at the beginning of the year.

Customer behavior is difficult to predict. However, we do assume some level of ongoing migration. Turning now to what this means for income on Slide 9. Income, excluding all notable items, was GBP 3.6 billion, down 6.7% on Q1. Net interest income was 2.7% lower at GBP 2.8 billion, driven by lower bank NIM in the quarter of 3.13% driven by lower margins on mortgages and deposits. And lower group average interest-earning assets, which reduced by 1.5% to GBP 514 billion, driven by a reduction of liquid assets, which more than offset loan growth. You will find our usual disclosure on net interest income in the appendix.

Noninterest income, excluding notable items, was down GBP 179 million to GBP 739 million. Around half of this was due to lower market volatility. We continue to expect full year income, excluding notable items, of around GBP 14.8 billion. However, we now expect bank net interest margin of around 3.15%, down from 3.2%. This assumes the U.K. base rate increases by a further 50 basis points in Q3 to 5.5% and remains there for the rest of the year. And the average reinvestment rate of our product structural hedge for the full year is 4.4%, up from 3.6%.

The benefit from higher rates to bank NIM is more than offset by our expectation of further deposit mix changes and pass-through and a reduction in the product hedge notional from GBP 202 billion to around GBP 190 billion by the year-end, reflecting a catch-up with eligible spot deposit balances.

Moving on to costs on Slide 10. Other operating expenses were GBP 1.9 billion for the second quarter. That's down GBP 57 million or 3% in the first quarter, driven by lower severance and consultancy costs.

In Ulster Bank, we have incurred GBP 163 million of direct costs in the first half, and we continue to guide to around GBP 300 million for the full year. We continue to expect other operating costs of around GBP 7.6 billion for the full year, in line with our guidance. This cost performance is delivering a cost-to-income ratio of 49.3% for the first half, benefiting from the notable income gains. Excluding these, the cost income ratio is 51.6%. I'd like to turn now to impairments on Slide 11.

We booked a net impairment charge of GBP 153 million in the second quarter, equivalent to 16 basis points of loans on an annualized basis. This was driven by an increase in our post-model adjustment for economic uncertainty of GBP 129 million to GBP 462 million, together with a further reserve building that more than offset the GBP 98 million expected credit loss release from the updates to our economic assumptions.

The PMA increase is largely against our wholesale book to cover any potential cash flow issues as a result of higher interest rates and inflation. Excluding this, we would have had further net impairment releases in our Commercial & Institutional business.

In retail, overall, Stage 3 charges and defaults remain stable. The impairment charge driven by new day 1 provisions relates to unsecured lending growth. As you know, our 2023 impairment guidance is 20 to 30 basis points. We see this as prudent, and we need to see a material deterioration in performance to be inside this range.

I'd like to talk a bit more about the composition and quality of our loan book on Slide 12. We have a well-diversified prime loan book, which is performing well and which demonstrated its resilience in the recent Bank of England stress test. Over 50% of our group lending consists of mortgages where the average loan-to-value is 55% or 69% on new business. We continue to have low levels of arrears and forbearance in our mortgage book. 91% of our book is fixed, 5% are trackers and 4% is on a standard variable rate. Over 2/3 of mortgage balances are fixed for 5 years and less than 1/4 are fixed return.

The composition of our mortgage book means a lower proportion of our customers will face a change to their mortgage repayments in the second half relative to the sector average. The majority of our customers are rolling off 5-year fixed rates, where the uplift is lower than those rolling off 2-year rates.

Since mortgage rates began to rise in Q4 last year, more than 70% of our customers in the pre-roll-off window have taken advantage of the opportunity to refinance early and have the advantage of lower rates. Our personal unsecured exposure is less than 4% of group lending and is performing in line with expectations. Our corporate book is well diversified, and we have brought down concentration risk over the past decade, including reducing commercial real estate, which is less than 5% of the group loans with an average loan-to-value of 48%.

As one of the largest lenders to business in the U.K., we were pleased to see in the Bank of England's recent financial stability report recognized corporate indebtedness is at its lowest point in the past 20 years.

Turning now to look at returns on capital generation on Slide 13. We are pleased to have delivered 16.4% return on tangible equity this quarter, driving capital generation of 50 basis points, excluding nonrecurring impacts, such as our acquisition of Cushion. This brings capital generation to 100 basis points for the first half. We ended the quarter with a common equity Tier 1 ratio of 13.5%, down 90 basis points in the first quarter. This was driven by distributions, which account for 114 basis points in the quarter.

Our GBP 1.3 billion directed buyback consumed 71 basis points of capital. We accrued 40% of second quarter attributable profits equivalent to 15 basis points, in line with our 40% payout ratio. This excludes the foreign exchange recycling gain, which is neutral for capital.

And finally, our GBP 500 million on-market buyback program announced today is accrued in our 13.5% CET1 ratio. Turning now to our balance sheet strength on Slide 14. Our CET1 ratio of 13.5% is now within our target range of 13% to 14%, which includes a buffer above our minimum requirements. Our U.K. leverage ratio of 5% has reduced from 5.4% in line with the decrease in Tier 1 capital and remains well above the Bank of England minimum requirements. Our liquidity coverage ratio was 141% at the end of the first half on a spot basis and 145% on a 12-month average basis. This remains well above our minimum requirements.

Turning to 2023 guidance. We expect income, excluding notable items, to be around GBP 14.8 billion at a U.K. base rate of 5.5%, net interest margin of about 3.15% and group operating costs, excluding litigation and conduct, to be around GBP 7.6 billion, delivering a cost income ratio below 52%. We anticipate a loan impairment rate in the range of 20 to 30 basis points. And together, we expect this to lead to a return on tangible equity at the upper end of our 14% to 16% range.

I'd like now to talk more broadly about the first half and our strategy, which is delivering and remained unchanged. So we maintain our focus on responsible targeted growth continued cost and investment discipline, together with effective capital allocation, enhanced shareholder returns. And I'll talk more about each of these areas in turn.

I'll start with our progress against targeted growth on Slide 17. The strength of our balance sheet and risk management means we retain capacity to grow and even in challenging market conditions, and we are doing this in 3 ways. First, we are focused on driving customer lifetime value. We are the leading high street bank for entrepreneurs and start-ups with a share of 17.7%, up from 13% this time last year. And we added 55,000 new start-up accounts during the first half as we continue to strengthen our offering.

In retail banking, we continue to grow our customer base with a focus on personalization and particular segments such as used and affluent. For example, we have significantly strengthened our used offering with the acquisition of RoosterMoney, which we have extended by connecting it with our app. Rooster card subscriptions increased by 93,000 during the first half, and we now serve around 20% of the youth market.

In Wealth Management, despite more volatile markets, we grew assets under our management and administration during the first half, including net new money of GBP 1 billion. Secondly, we are helping customers transition to a net 0 economy, which remains a strong commercial opportunity. Across the group, we have delivered over GBP 48 billion of climate and sustainable funding and financing towards our ambition of lending GBP 100 billion between 2021 and 2025. This includes GBP 16 billion in the first half this year.

And thirdly, we continue our digital transformation, which is delivering value for customer, employees and the bank. Our services for small businesses, such as Mettle and Tyl, are great examples. Mettle is our digital-only business bank account with a customer base of around 100,000, which includes 17,000 acquired during the first half.

Our reward running payments platform, Tyl, has carried out GBP 2.2 billion of transactions in the first half, up 64% on the same period last year. In Retail Banking, we have recently extended our credit card offering to the entire market, not just our own customers, taking our flow share to 9.6%, up from 5.7% this time last year. So you can see from a range of measures, whether it's customer acquisition, net new money or share how our targeted approach is delivering organic growth to achieve a sustainable medium-term target of 14% to 16%.

We continue our disciplined approach to cost and investment. We expect to invest around GBP 3.5 billion between 2023 and 2025 to future proof the business as our ongoing digital transformation helps to drive efficiencies, improve customer experience and deliver future growth. We have been reengineering customer journeys since 2019 and expect this to deliver run rate savings of around GBP 250 million by the end of 2023.

As a result of this simplification, 99% of our loans are delivered with straight-through processing, and our Net Promoter Score for this journey has improved from 42 at the end of 2020 to 57 today. We believe the responsible use of artificial intelligence will be a game changer as we embed it into our journeys and processes. So we are accelerating its deployment. We are now using natural language processing to analyze around 560,000 conversations a week, covering telephone and chat channels so that we serve our customers better. And we use AI to analyze around 36 million events to date to help predict patterns of behavior and identifying financial crime or frauds.

Finally, we are investing for long-term growth by deepening and diversifying future income streams. I've already spoken about how we are growing in start-ups, wealth and the used market. We're also expanding into new areas. We recently announced the acquisition of a majority stake in a fintech called Cushion, which allows us to enter the fast-growing workplace savings and pension markets.

We have also entered a strategic partnership with Vodeno Group in order to create a leading U.K. Banking as a Service business branded as NatWest Box. So while we continue to keep tight cost control, we're also investing in the future. Let's now turn to capital on Slide 19.

Over the past three years, we have significantly improved the allocation of capital to higher returning businesses. Our phased withdrawal from Ulster Bank has contributed to this. We have now closed all our branches and around 95% of deposit accounts in the Republic of Ireland. In July, we completed the transfer of the asset finance business to Permanent TSB, and we're migrating the majority of performing tracker and linked mortgages to allied Irish Bank. We expect the remainder of this migration to complete by the year-end.

We have also received a dividend of EUR 800 million in the second quarter, the first since 2019. We have made or accrued distributions of GBP 13.5 billion to shareholders since 2019 and expect to make significant returns to shareholders this year as we continue to generate capital through organic growth. We are building on the strength of our existing franchise to create value for shareholders.

We serve over 19 million customers across the group. We are the #1 commercial bank supporting businesses in the U.K. economy. We play a leading role in sustainable financing. We are the second largest U.K. mortgage lender, and we have a strong and growing wealth business. As we continue to grow our franchise organically, we are delivering a significant improvement in return on tangible equity, which in turn is driving strong capital generation, allowing us to deliver distributions to shareholders.

Through our buybacks, we have reduced our share count by 26% since the end of 2019, which in combination with possible growth means our interim dividend per share has more than doubled. The business continues to deliver a strong performance. This is underpinned by the strength of our balance sheet, which positions us well in the current economic environment and enables us to support our customers as well as the U.K. economy.

We continue to drive operating leverage with disciplined investment in digital and technology transformation and cost management. We are benefiting from our focus on effective capital allocation with an EUR 800 million dividend from Ulster Bank. We have significantly improved our return on tangible equity over the past 3 years and maintained a guided range of 14% to 16% over the medium term. This gives us scope to return significant capital to shareholders.

We have made or accrued distributions of GBP 2.5 billion during the first half whilst remaining well capitalized. Thank you very much. And we're happy to open it up for questions now.

(Operator Instructions) Our first question comes from Aman Rakkar of Barclays.

A couple of questions, please. Firstly, on the hedge. I just wanted to double check your comments around the structural hedge. I think you said that the product hedge would be coming down from GBP 202 billion to GBP 190 billion by year-end. I just wanted to check the comment around the deposit experience. I think you talked about it being a catch-up. So is that based on kind of the backward-looking experience on deposits tells you that the hedge needs to come down by GBP 12 billion in H2? And to what extent does it capture any kind of forward look around your expectations on deposit or behavior into H2?

And as a kind of related question on that. What then have you naturally assumed for things like mix shift as part of this, how many current accounts are you assuming to have at year-end? And how does that kind of drive into your full year '23 NIM guide?

And then the second question was just on noninterest income. So I know that you're kind of sticking with the GBP 14.8 billion revenues this year, but it looks like it's going to be less net interest income than consensus has, but probably a bit more noninterest income. Indeed, I think the kind of H2 run rates that you're effectively pointing to suggest a better outlook for noninterest income through the second half of this year. So I guess can you confirm or kind of deny that thinking? And does that give you confidence -- if NII looks like it's a bit softer here than what we were looking for before, do you feel more confident around noninterest income? And if so, where is that coming from?

Thanks, Aman. You managed to pack and launch 2 questions there. Look, in terms of the hedge, as we look at it, we're going from GBP 202 billion to GBP 190 billion is very mechanistic, as you know. So we basically look backwards over the last 12 months. Obviously, we had 3 quarters where we failed. This last quarter, we stabilized on deposits, and that's the impact of that coming back through.

What's interesting is we've raised our rates that we are expecting on the swap rate is around an average of 4.4%. What you see on the income side is although you've got the fall off in the hedge, the 4.4% versus the 3.6% we talked about at the last time we spoke is actually, it kind of -- it balances itself out. So it doesn't have a particular income effect. I haven't taken any forward look in terms of that we do on a 12-month roll backwards.

In terms of the mix shift, we have seen some mix shift. You can see that very clearly, obviously, from the 40% to the 37% of noninterest-bearing. And then if you look in the financial supplement, you can see that across Private, which is actually a little bit further, and then -- and in the Retail bank as well in terms of that piece. I'm probably not going to go into specifics in terms of the exact percentages that we've picked on that, but I have expect -- I have taken thoughts of some further kind of migration as we go into there.

And then in terms of income, specifically on the non-NII. What I would say is H1 trends were positive, and we do expect to grow non-NII into H2. But the numbers are impacted by volatility. But what we can see in the C&I business is more normalizing into H2 following some lower volatility in the trading business in the second quarter particularly due to things like the U.S. debt ceiling. Because we just didn't see that volatility in FX, that number is a little bit lower. And obviously, we know and you know that people kind of fell back a little bit from the capital markets. That will normalize, and our early performance in July is confirming that view. I hope that helps. Thanks, Aman.

Our next question comes from Alvaro Serrano of Morgan Stanley.

Just really a follow-up on deposit balances and the outlook. When I benchmark, loosely benchmark your offerings, deposit, term deposit in particular, I'm talking about now versus your peers, it does seem like you've stepped up your offerings during June with 5% term.

First of all, do you recognize that it's coming through balances. So maybe that's fair. And post that increase in remuneration after the last rate hike, are you seeing the migration accelerate? Or what trends are you seeing? Maybe in July, you can speak to that to give us a bit more color.

And related to that, maybe the second question is, how do you think the visibility is -- how much -- how confident are you on the visibility? Obviously, you flow the NIM guidance today. And I'm not sure if you can reassure us -- giving us some current granularity around how low the mix on noninterest-bearing balances can go.

Lovely. Thanks so much, Alvaro. So if I look at it, when I see what's kind of happening in terms of those customer deposits, what we do see is this kind of catch-up in customer deposit rates and that there was a -- that was very much because of the impact on some of the pricing changes that we did during the second quarter.

Effectively, if you look at those last couple of rate rises, we passed through 75%. So that was a bit higher. That's taken our cumulative pass-through to date to kind of 50% of all of the rate rises. We do think we're now competitive on rates as we move through. When you look at our sensitivity, in terms of what we think of the impact of that competitiveness would be, we've changed the structural hedge sensitivity, which I'm sure we'll talk about more later to 60% pass-through rather than the 50% model that we had done previously as I think that kind of reflects a little bit more.

As I look at what's happening in July, it's all -- the mix and move is kind of in line with our expectations. I think we're brave person to say today where we think NIBBs and IBBs might land. It has been interesting for us in the last number of quarters. There was so little movement, but then what we saw as customers really then moved into fixed term that we did see a movement from that 40% down to the 37%. And that was people who are really moving straight from noninterest-bearing kind of all the way into term deposits. So that's why we saw that step-up happening in that space. But I'm probably not going to look to call in terms of where I think that might go. I think it will take some time to kind of get there.

And just a follow-up because in the past, I think you and other banks have said that the big shifts typically happen around rate hikes, and that's when all the noise happens and when the mix happens. Do you still think that will be the case, i.e., if we're very close to the peak, it will be much more stable progression in the later part of this year and next year in terms of mix shift?

I think that's definitely a theme, and I think we certainly expect this shift to kind of slow as we kind of approach that peak. I think there's other things that are happening as well that you've got to be mindful of. If I look within our own product offering, we've opened up our [new] bank. So therefore, it's a whole of market offering, which we didn't have before that will attract some funds as well. I think there's also the kind of the rollover that when we people starting to tie their money up in Q4 last year what offers are available now and how that kind of moves around. So I think you'll see a little bit of that. And then overall, you're obviously very familiar with the TFSME funding piece. And I think as that starts to get closer for repayment, you might start to see people behaving in a slightly different day.

But at the moment, it's very connected to rate rises and given that we are certainly predicting further rate rises in Q3, I probably expect it to attach itself to that as well. Thanks, Alvaro.

Our next question comes from Rob Noble of Deutsche Bank.

I ask on the credit card book. The growth in cards, what's the EIR that you assume against that now that you've gone a whole market and kind of the quality of the customers that you're adding as you grow? So thanks for all the information on the risk profile of the mortgage book. Do you give what proportion of your book is on high loan-to-income multiples that are also refinancing soon as well? Because obviously, most of the customers, they're more at risk.

Yes, sure, absolutely. So if we look at the credit card book, what we have seen is we've gone to more of the whole of market. What we're actually seeing is that it's actually slightly better quality that's coming in. So it's kind of lifting the quality of that group, which we're pleased about.

If I look at the EIR. It depends on the card and how you're looking at it, but it will be low single digits in terms of EIR. It's quite conservative in our approach on that piece. So certainly, a better quality.

You can certainly see, as we look at mortgages in terms of that risk profile of the refinancing -- I'm going not giving you the split of the book in that way. But you can see that our average loan-to-value is 54%. We have, I think, less than -- about 3% is sitting at that low -- that higher LTV level. So it's a relatively small piece of the book.

And given the structure of our book, it's much more of a 5-year book these days. But actually, you've heard me say earlier that only about 20% of the book is actually refinancing this year. So I think given that LTV is small and the lower level of refinancing, that's not something we consider a particular risk for our book as we move forward from here. Thanks, Rob.

Our next question comes from Jonathan Pierce of Numis.

A couple of questions. The first on the margin. The margin looks now to be stabilizing a bit based on your guidance in the second half. So down a few basis points, but nothing that significant versus what we have been seeing. I was just wondering if you can talk to the moving parts in H2, the ups and the downs, but particularly into 2024. Because one would assume that mortgage refinancing pressure is easing, maybe deposit churn isn't quite as significant as you're expecting for the second half of this year, whereas you've still got, obviously, the tailwind from the asset repricing, from the structural hedge. So I'm wondering about margin dynamics, particularly into next year. Could we start seeing it move back up a little bit again?

And just a supplementary to that, the other banks have told us now what the yield on the maturing hedges next year is. It would be helpful if you could give us that. The second question is on noninterest income weakness. I hear your comments on FX and volatility. But the NatWest Markets' subsidiary disclosure showed actually not bad performance again in the second quarter. There was, though, I think, deep in the group announcement you talked to us about Page 83 or something, a notably big drop in FX trading revenue at the group level. I'm just trying to square the circle here. I'm wondering whether this is anything to do with this FX management of U.S. surplus deposits that you talked about just after Q1. And if it is, you told us at Q1 that there was a sort of natural offset in net interest income. So if we get a recovery in noninterest income in the second half, if this is the reason for it in past. Is that captured within the net interest income guidance as well?

Yes, sure. Thanks very much. So let me deal with the end of that question first. So you're absolutely right. Page 84 and talks about the foreign exchange. It's gone from GBP 258 million down to GBP 125 million.

I think what you've got to remember as well that we have -- NatWest Markets is the subsidiary level of the group. So it is important that you actually look -- when you're trying to look at the group result is to look at the group piece. Because obviously, you've got revenue share and things that go on in different kind of lines.

So it's not anything to do with the FX management of the U.S. surplus. It's the volatility of our numbers. There is a little bit of -- in the notable items side, we mentioned something like GBP 23 million, but that's not material in that space.

So as I look at that, I do see the strengthening of that performance given the FX, we know -- or we expect to be more volatile this quarter, given the change in that. As I go then on to margins, I think certainly, we're at 3.13% for this quarter, 3.20%for the half. We're saying 3.15% for the full year in terms of the average now rather than the 3.20% when we had originally said. But I definitely do see some stabilization in terms of that piece.

What will happen in terms of that piece, it is subject to a number of different factors, as you'd be aware of. The timing of the U.K. base rate. We're assuming a 50 basis points increase at the August MPC meeting. If that comes through in August and September, that will have a little bit of an impact on it. Obviously, the pass-through to customer deposit rate, both the timing and the quantum as well as the customer behavior. And I've talked about that already in terms of that move from the NIBBs to the IBBs and then from instant access into the fixed is a scientific fixed term as well has an impact on it. I'm not going to give you the exact what I think on Q3 and Q4, but I think you're in the right kind of space.

It will move around a little bit as we move forward from here. And then in terms of '24, I do see the mortgage pressure easing as we sort of see the roll-through of the kind of COVID piece come to the end. We'll start to see that at the end of '23 and into 2024 as we move forward in that piece. So that is a benefit certainly to NIM.

And then I think my last point I just need to hit on your question. And Jonathan if I miss anything, let me know at the end. But in terms of the roll-off yield, if we -- 2023, we're rolling off at kind of 1.1%. Because it is still mechanistic, it's easy for you to kind of work this out.

Look at what -- this is what we [had first time] 5 years ago, and you can get a feel in terms of what's happening. So 2023 roll-off is 1.1%. And then 2024, the roll-off rate is lower at around 80 basis points. And 2025, it's even lower again at around 50 basis points. And so that means that even as the 5-year swap rate reduces, we do expect through to 2025 that the uplift from the hedge activity remains sizable, particularly with our narrative of this kind of stabilization of deposits.

That's really helpful. And sorry, just 1 follow-up to that. If the hedge -- accepting the hedge itself may get smaller. But of course, then you'll just be rolling into floating rate assets anyway. Given the strength of the hedge tailwind and the easing of the headwinds into next year, is it in your minds, reasonably plausible the margin could start going back up a bit and maybe accelerate into 2025. Is that a reasonable scenario?

I think the other thing to think about in terms of the margin, of course, we'll also have is -- so the hedge will work, certainly. But we're also in our own economics assuming that the kind of rates start to fall a little bit as well.

So in terms of that piece are probably not going to try to give. I don't like giving you quarterly views on them. So I'm not going to talk to you into next year so that are 6 or 9 quarters away from here. But I do think often we talk about are we at peak NIM? I actually think it's -- for me, as I look at my kind of income as I go forward from here. I think that there are reasons that you can feel sort of quietly positive about that. In terms of that strong income tailwind we've already had from the hedge, the unwind of the mortgage piece I've spoken about already, and that is a positive for us as we move forward.

I think the level of lending we are in our economics predicting growth. It's not huge growth, but we are certainly forecasting that growth within there. And I do think the deposit stabilizing is there. So in the medium term, feel comfortable that we've got real growth in that kind of income. I think the short-term dynamic of customer behavior we're watching very closely and the exact timing of when that moves in '23 into '24 is something I'm sure we'll talk about more in Q3 and Q4. But certainly, in the medium term, those other things are quite positive for income.

Our next question comes from Guy Stebbings of BNP Paribas Exane.

One, on mortgages that went back on deposits, that's right. So I guess you're growing quite strong actually in mortgages relative to many of your peers in what is quite a tough volume and spread backdrop. So can you just talk about your approach there and how you weigh up spreads versus volumes, whether you're driven by return hurdles or volume metrics or market share or a combination of all 3.

And also what you're seeing in terms of cost repayments or balances right now and sort of mix of lending between internal refinancing versus new to bank. And then on deposits, thanks for the comments and thanks for Slide 8. Not everyone gives that granularity, and it is appreciated. I just wondering if I could maybe push you on that indeed movement from 40% to 37%, do you have any updated views as to where that might eventually settle?

Yes. No, sure. Thanks. I'll contact. Let me start with mortgages. So if I look at our mortgages, clearly, we manage this group on income and RoTE. So therefore, we will make decisions. And given if you think the mortgages, we try to manage it on 80 basis points.

So as we write more mortgages, that's going to pull your NIM down a little bit. So we're comfortable on that because we're very much looking at the income and the RoTE aspect of that. And the team would have -- we'd be very much looking to manage that piece. What we do see is that during the second quarter, the swap cards did move really quickly. So therefore, there would have been a period where we're writing below where we necessarily wanted to write. Overall, still hurdling our metrics, but not kind of at that 80 basis point level that we talk to. By the end of the quarter, we were back up to where we wanted to be. And in fact, at the moment, we're probably a little bit ahead of there. So -- which is fine with that.

If I look at customer repayment, we have seen an increase in terms of the customer repayment. What we work with our customers is since mortgages have started to rise in Q4 last year, more than 70% of eligible customers have taken the opportunity to refinance early in the 6-month window that we give them so that they can take advantage of those lower rates by securing them early in the process.

We can see that about 35% of customers are making an overpayment at a point of refinancing. In absolute terms, we saw lump sum repayments in Q2 of about GBP 500 million. But just to give you a feel for that, that would be about double what we would have seen in Q2 of last year. So people are definitely looking to pay up a little bit more on that. But I think it's also important to note that mortgage balances grew by GBP 1.9 billion in the quarter, net of this elevated lump sum repayment number. A bigger factor for the overall mortgage balances from here, I think, is the macroeconomic outlook.

And then we do see that people are using some of their deposits to make that payment, incredibly logical thing for people to do as we move on from there. And then in terms of NIBBs and IBBs. We do expect the NIBBs to reduce a little bit further. It's very hard to be definitive of where they settle. I think there's not really a historic narrative that we can look at to help us guide that. So we are watching different customer cohorts very closely.

A couple of kind of supporting factors on them. We do see wage inflation. We do see people reengaging with savings, of course, which all kind of make that move and as well as the deleveraging of growth. At the moment, we've made some assumptions to where it will go from here. But we're comfortable in terms of that GBP 14.8 million (sic) [GBP 14.8 billion] income that we've guided for this year and being at the upper end of that 14% to 16% royalty as well. But I think there's a lot of different moving parts, but hopefully, that Slide 8 is helpful to you, so I'm glad you like it. Thanks very much, Guy.

Our next question comes from Andrew Coombs of Citi.

I have 1 question for Howard and 1 for Katie, please. Just for Howard, just on permanent CEO succession planning. How do you envisage the process playing out from here and any thoughts on timing? And then for Katie. I just want to ask about liquid asset buffer given the AIEA is excluded from the bank NIM that obviously is not -- it's gone up GBP 162 billion to GBP 152 billion. So any thoughts on the trajectory there going forward as well, please?

Yes. Thanks, Andrew. Let me take you through it as clearly as I can. I've been here for just 8 great years. So if you look at the corporate governance code, which says that 9 years is pretty much effectively the maximum now we decided to begin the search. So we announced in April that the Senior Independent Director will begin the search. So they've wanted headhunters then, and that's a matter for them.

I'm not directly involved in that. So that's underway. This, of course, is planned in the middle of that period. Therefore, since I think the replacement for me in due course, will need to be behind a choice of long-term CEO. We decided that we would implement what was already our contingency plan and ask Paul to take over as Chief Executive.

A few months ago, we reviewed our contingency arrangements, and the Board agreed that Paul was the short-term successor in the sort of #11 bus scenario. It hasn't been a #11 bus exactly, but something a little bit similar. And we -- that was all agreed with the regulator. So we implemented that. Paul and I agree that the sensible way of doing it was to say he would be CEO for 12 months, so an initial period of 12 months, which could be extended, which would allow time to find my successor, get my successor in, and that successor then to decide how he or she wants to proceed, whether they want to have an open context looking at external candidates or what they want to do.

So I think the position is quite stable for 12 months. And thereafter, my successor will have to take a view. Very grateful to Paul for agreeing to do it on that basis. He's very experienced in the bank. And the mood in the Executive Committee and elsewhere is positive about this. So I can't say it's exactly what one would normally have done, but I think it's a pretty good interim solution.

Thanks, Howard. And then Andrew, in terms of that liquid asset buffer question, the LAB interest, average interesting assets reflect changes in the customer funding surplus. So of course, deposits. We think that deposits are broadly stable. So you should see stabilization in the LAB AIEAs as well as a result. Thanks, Andrew.

Our next question comes from Chris Cant from Autonomous.

And in the meantime, let me want to Fahed Kunwar of Redburn.

Just had a couple sort of follow-up, I think, on Guy's question on the loan growth. I think one of your peers talked about the remortgage spread being a lot lower than the new business spread. Could you give us the completion margins on that? Are you seeing similar trends right now?

And I guess, looking forward now on mortgage growth, it probably does shrink from here if people are paying off and if you're talking about the macro being an effect. Is that the right way of thinking about it?

The second question I had was actually just on the NIBBs question. If I look at your NIBBs, it's always been the mix of like 40% now, 37%, well ahead of your peers. You say about 25%. I've always assumed this because of your SME business. So the dropoff from 40% to 37% in the mix, was it retail customers? Or was it SME customers? What differences in behavior are you seeing? And I'm going to sneak in a third question, if you don't mind. In 2024, your costs are sitting at, I think, 1% year-on-year growth in consensus. How realistic is that given wage growth is running at 7% in the U.K.?

Yes, sure. Thanks so much, Fahed. So I'll deal with the cost one first. What we've said on cost is that this year, we are looking to hit a cost income ratio of lower than 52%. We're currently sitting, I think, 49.6%. That's a little bit lower than the reality because of that FX recycling gain we've got in income. So it's better to think of it as a 51%, 51.5% kind of number.

What we've then said to you is that we'd expect to get to a cost income ratio of below 50% by 2025. I'd expect that 2024 would be something on the journey towards that. I think we do manage our costs incredibly carefully. We've got a long history of that in the back, and we'll continue to make sure that we do that. So cost is always a challenge, but comfortable in terms of the direction that we're kind of heading on that.

If I look to kind of the loan growth piece, the remortgage spread is a bit lower than the new business. As you know, we manage around 80 basis points over time on a combined basis across the book. But I think the remortgage piece is obviously part of it, but then it's lower LTV. So it's also very good returns in terms of that piece is because of the amount of capital that it's doing.

And as I said earlier in my speech, we were a bit lower on spreads in the beginning part of the quarter just because of the move of the swap rate. But we're back to where we wanted to be by the end. I do think you're right that the volume is a bit lower most likely in sort of Q3 and Q4. But I think it's really important to remember on mortgages, this is -- these are multiyear products for us. We have sort of retention that's in that 75% to 80%. So actually, the first year is important. But what's really important is the second, the third and the fourth kind of renewal as well, which is there.

And then if I just move on to NIBBs. Look, we are seeing some migration across the piece. And in our financial supplement, I'll show you the split of current accounts versus savings accounts across Retail and Private. I don't show it as we are normally on the (inaudible) section, but on the commercial section, but you can kind of get a feel for that. But what we know that in the commercial piece is you're absolutely right. We've got a very strong transactional accounts in there. So therefore, they are themselves quite stable as we look through on that piece.

But you can see the kind of the fall off that we got in Retail and Private. And then I would view the commercial piece a bit more stable just because they're so embedded in that kind of transactional saving piece. I think I've got all of them, Fahed. Let me know if I missed anything.

(Operator Instructions) We're going to go across Chris Cant of Autonomous.

I was struggling with my other device. Can you hear me okay now?

Yes. Perfect. Chris, that's great. I'm glad you got through.

So 2 sort of follow-up questions really. Firstly, there was an earlier question around trends on deposits during July. I'm just conscious, you did also hike your fixed-term deposit rates in response to the swap moves in June. And just keen to understand whether what we're seeing as we look into the third quarter is a continuation of trends you've already been seeing during the second quarter, whether you were actually seeing accelerating terming out? Obviously, you've given us the sort of deposit split at the end of Q2, but conscious that, that could be sort of accelerating potentially into 3Q. So any further commentary there would be helpful.

And then I also just wanted to return to a comment you made, Katie, around peak NIM. I mean the idea of peak NIM is sort of I think being plaguing the U.K. banks broadly for a little while now and I guess, comes down in part to the timing of the different pressures puts and takes on the NII line.

In the short term, you're obviously seeing this beta catch-up you referred to during the second quarter. But as we look into '24, I think you were sort of indicating actually that the net of forces may then become a net positive relative to where we're exiting this year just in terms of fewer mortgage pressures, deposit trends stabilizing and then this very material structural hedge benefit still to come through.

I think I asked you a similar question on the 1Q call. But if I could invite you to talk about that again, based on sort of stable-ish base rates or something close to your trajectory into '24, is that the right way to think about it, that actually the structural hedge benefits should be outweighing the mortgage pressures and the deposit forces, at least the sort of short-term deposit forces around betas catching up to a more sensible level, sort of abate?

Yes. So if I look at deposits, the easy kind of answer is still Q3 is behaving as we've expected it to. There's nothing unusual within that. We're seeing good performance in the fixed term account, which is nice, it is repeated. We've just also launched our instant access, which is that we're using our Ulster Bank Northern Ireland branch. We're expecting that to play a positive part in the mix as we go through. It's literally been launched in the last couple of days, so I invite you to have a look at that.

And as we see, and we'll talk more about how that performance when we get to kind of Q3. But so far, it's been very much in line with the messaging I've been kind of talking about.

Chris, I'm only going to give you a very similar answer that I gave you in Q1. I don't really want to get drawn on a quarterly Q4 NIM forecast. But I think the things that we need to consider, you know this as well as I, what's happening on base rate, it's the timing of them as our assumption around the 5.5%, right? Will it go higher? Pass-through to customer deposit rates, if we are at that kind of peak kind of level, and then also just the mix and balances that we'll see kind of going through. I think the hedge and the kind of marrying more closely over the mortgage market margin is helpful to us. But I think let's talk more about '24 when we get into '24, if you don't mind. So going to avoid giving you any views on that. Lovely. Thanks very much, Chris.

Our next question comes from Robin Down of HSBC.

Can you hear me?

Yes, perfectly. Thanks.

Just 1 really quick question. I would have asked this on Monday, but I'm going to be [all across] from HSBC. So I can't ask them. The mortgage back book spread. You've given us that number in the past, and it's quite useful to compare with kind of new business spreads. I can't see it in...

Let me give it to you. It said the back book margin is 102%, down from 115% in Q1.

Great. And the new business, I think you were saying you were kind of lower than 80% in the quarter, but ending at 80%.

I'm not going to give you that exact number in terms of that. We kind of try to manage it over time. And given this is a multiyear product, that can get too obsessed by kind of with some quarterly move. So managing to 80%, I said we're a bit lower in the beginning of the quarter. We're a bit better at the end.

I think you can also -- the 102% I've given you, you can also calculate it on the Finsup, if you want, but that's what the back book is at the moment. Good luck to you on Monday.

(Operator Instructions) our next question comes from Ed Firth of KBW.

Yes, I have 2 questions, if that's okay. I mean the first 1 is just to explore. I think you made a comment about a 50% deposit beta was where you were running at today. I mean if I look at your savings. By far and away, the biggest pool of savings is instant access. And I guess the biggest pool of that, again, by quite a large margin, as I understand, is less than GBP 25,000, which are currently paying 1.4% on, which is -- so you're making somewhere around a 3.6% spread on that, which -- when I've gone back 20 years, I don't think I've ever seen us spread that being on customer savings.

So I'm just trying to think in terms of you thinking I'm not asking you to tell me whether the -- exactly how that's going to move. But if we forget about rate changes and just assume rates what if just stay flat here or do you have 100% beta going forward. But is your general thinking that, that 1.4%, is it a fair rate and is it sustainable? I guess, in a market where -- I mean, the biggest bank in the world is offering 3.8% today. So I mean I'm just trying to get a sense as to, culturally, do you think that is a good read for your customers? Or do you think even without rates changing, that may have to start moving up given the current environment? Yes, that's the first question.

And then the second question was I'm going to tackle the Fahed's question because people have generally avoided it. If I look in the press, people are talking about sort of 10,000 subject access requests, and Twitter got bonkers with people closing accounts and stuff like that. I mean is it possible that we could see some sort of a charge in the second half in terms of the cost of managing all that? Because I do them with things like PPI. Even if you don't ever have to pay anything out, just the share administrative burden of dealing with some of this stuff can be quite onerous. So any thought, I know it's early days, but any thoughts you might have around that would be very helpful.

Yes. No, sure. Thanks. I'll say that. So what I would say is you shouldn't always be trusting what you read in the paper. It's well my sort of words of counsel to you. But we've had an increased number of SARs, they're still in the hundreds in terms of that piece. Clearly, that will bring it -- given it's a higher number than we normally have, we'll have to put a little bit more money away to kind of manage them. I'm not worried about that.

We've kind of calculated that number at this stage. It's not something that's a concern within there. So on that piece at the moment, given that they're in the kind of several hundreds or it's in the manageable kind of space, I'm sure we'll see some more continue to come through.

If I look then at your thoughts on the deposits pieces. I would actually probably pressure a little bit and say that the majority of our balance is aren't in that 20 -- less than GBP 25,000. It's important, and there's significant balances. But as I kind of look up, I would see more of them across my instant saver and flexible kind of saver products being in that GBP 25,000 to GBP 100,000 and still significant balances in the GBP 25,000 plus. So they're kind of [GBP 210,000] all the way up to kind of [GBP 310,000] in terms of those amounts. I think that there are different rates that are available.

I think you need to consider that a portion of these balances are hedged. So the upside in terms of that change in the -- between what we're paying and what we're receiving, it comes through over time. So the margins are a little bit lower. You can't just take base rate minus that because of the hedging that we've done over time with that. There are a wide range of deposits available that people can go to and look. And I think what we're all doing more on and what certainly the regulator is encouraging us to do is to make sure our customers really know the different variety of rates that are available to them.

Great. I mean just coming back on that a little bit. I sort of get the logic of that. So I mean it seems to be quite plausible that as the hedge matures, effectively, the savers will get the benefit of that. Because if you -- if one of the reasons you're paying 1.4% is because I can see the asset side of that is hedged, that is completely plausible. Is that a sort of -- I know they're not directly related. Is that the way we should think about it going forward?

I think it's really interesting. So I think what you're paying to deposit is it also depends a little bit on market as well in terms of what the kind of -- what's happening elsewhere. I mean I would say that sort of 80% of our balances are actually above GBP 25,000. So actually, I think the rates that are being passed through are much higher than you probably realized and the competitive dynamics. And I think importantly, the system liquidity and what happens is we approach things like TFSME, will all kind of play their parts to how this evolves.

Our next question comes from Adam Terelak of Mediobanca.

I just had a follow-up on deposits. You mentioned in your forward planning assumptions Bank of England rate cuts. Just an update on how you're thinking about deposit pricing in the face of cuts given you're still -- a lot of your products are priced well below Bank of England rates. So could that in terms of new rates are going down and the denominator going up mean an increase in beta even when we've kind of got to the end of the rate cycle.

I think the end of the rate cycle is going to be an interesting time. And I think there's a lot of different things going on. So at the moment, our rates are looking to sort of mid-2024, that we start to see them come down. We've taken a probably a relatively conservative view on this.

In the documentation on the structural hedge, we show you the kind of sensitivity on that. We've given you a kind of a 60% pass-through rather than our historical 50% pass-through, and we've been kind of 25% up and down. But what I would say that if the pass-through was kind of 10% higher or 10% lower, that would have about -- on a static balance sheet, that would have about a GBP 50 million impact on income. Obviously, that's an annual number in terms of that piece so you can kind of prorate that through.

But I really think at the moment, it's quite early to be talking exactly what that might do to our numbers. What I would guide you back to as for us as a bank is the sustainable 14% to 16% return. We have clearly built in some views on that, and we remain very comfortable with that as our medium-term view on returns.

I would now like to hand back to Katie for any closing comments.

Lovely. Thanks very much. And thanks, everyone, for your questions and participation this morning. It is very much appreciated. We have had a strong performance in H1. It's demonstrated that the strategy is working. And we have a robust balance sheet, grown lending to support our customers. We're on track to meet our 2023 cost guidance. We've distributed GBP 2.5 billion to shareholders in H1, and we continue to target a sustainable medium-term RoTE of 14% to 16%.

And with that, I'll thank you for your ongoing support, and I look forward to talking to many of you as we meet you over the next couple of weeks. Take care. Thanks. Bye-bye.

That concludes today's presentation. Thank you for your participation. You may now disconnect.