NatWest Group PLC (NWG) 2022 Q1 法說會逐字稿

Ladies and gentlemen, welcome to the NatWest Group Q1 Results 2022 Management Presentation. I would like to remind you that the call today will be recorded. (Operator Instructions)

Today's conference call will be hosted by Alison Rose, CEO, NatWest Group. Please go ahead, Alison.

Good morning, and thank you for joining us today. As usual, I'll start with a brief strategic update. Katie will take you through the results, and then we'll open it up for questions.

Clearly, since we last spoke, the world has changed considerably. Russia's invasion of Ukraine has led to greater macroeconomic and geopolitical uncertainty. And our customers now face higher inflation, rising rates and energy costs as well as ongoing supply chain disruption. Whilst many of them have built up healthy savings and balance sheets during the pandemic, and we are not seeing any immediate signs of distress, we are acutely aware of the pressures our customers face.

So just as we did during the pandemic, we are supporting them as they navigate this period of uncertainty. For example, we continue to deliver around 1 million free financial health checks a year. We help customers to understand the impact of different scenarios on their credit rating and improve their scores, and we regularly refer our more vulnerable customers to Citizens Advice. Our business customers benefit from having access to dedicated relationship managers with sector expertise in all of our regions.

As the invasion of Ukraine continues, together with our customers and colleagues, we have donated over GBP 9 million to the Disasters Emergency Committee Ukraine Humanitarian Appeal. We are also offering practical assistance to Ukrainian refugees in the U.K. For example, we are using one of our headquarters as a welcome hub, and we are providing help with opening bank accounts. We have no operations in Russia or Ukraine and minimal direct exposure to Russia. We believe that our focus on building deeper relationships with our customers, together with 2 years of strong strategic progress, makes NatWest Group well positioned to deliver sustainable growth and returns in the years to come.

So let me now turn to the financial headlines. We are reporting a strong performance with profit before tax of GBP 1.3 billion, up 36% on the first quarter last year. We generated attributable profit of GBP 841 million, up 36%, and our return on tangible equity was 11.3%, up from 7.9% in the same quarter last year.

We are delivering on our income growth, cost reduction and capital targets. Income was up 8.6%. Costs were down 4.6%, though we continue to expect an annual reduction of around 3%. And this resulted in positive jaws of 13.2%. Our CET1 ratio is now 15.2%, which includes GBP 1.5 billion of distributions.

As you know, we have committed to make annual dividend distributions of at least GBP 1 billion this year. Our CET1 ratio includes an accrual of GBP 250 million towards that commitment. And we made another directed buyback in March of GBP 1.2 billion, bringing government ownership to around 48%, which is clearly an important milestone. We have also executed GBP 377 million of the additional GBP 750 million on-market buyback announced in February.

We continue to focus on delivering our strategic plan and our targets. Despite the macroeconomic uncertainty, we are updating our income target as we now expect to deliver income that is comfortably above GBP 11 billion as a result of faster than assumed rate increases. As I said earlier, we plan to reduce costs by roughly 3%, both this year and next, taking into account cost inflation and our investments in the business as we continue strong cost discipline. And we are targeting a CET1 ratio of 13% to 14% with a return on tangible equity comfortably above 10% by 2023.

So let me turn now to other ways in which we are supporting our customers to drive sustainable growth. We want to deepen relationships with existing customers by serving them at all the key stages in their lives, whether it's to buy a house, save for the future or set up and grow a business. We are also acquiring new customers by delivering a wider range of products and services more effectively across our franchises. For example, by successfully extending our asset management expertise to customers in retail as well as private banking, we increased our affluent investment customer base by 40% in 2021 and grew assets under management and administration 17% to GBP 35.6 billion in the same period. Total AUMA were down in the first quarter as they were impacted by market volatility, but net new inflows were up 33% on the first quarter last year at GBP 800 million, and this included GBP 137 million via digital platforms.

In retail banking, we added 159,000 new current accounts during the first quarter of this year, and we continue to invest in the SME ecosystem. As the leading bank for small and medium businesses, we offer both digital solutions as well as an extensive network of locally based sector specialist relationship managers. As we build a comprehensive digital payments proposition for these businesses, the number of customers using our merchant acquiring platform Tyl has more than doubled in each of the last 2 years.

We are also diversifying our income through product innovation, such as our buy now pay later proposition due to be launched this summer. Demand for buy now pay later has grown rapidly since the start of the pandemic, and we want to provide a product that is both better and safer for our customers. Our new proposition will offer a fixed credit limit, clear structured repayments, credit scoring and affordability checks as well as the ability to keep track of payments on our mobile app. Unlike many providers, transactions will also be covered by all the protections customers expect from a fully regulated bank.

Turning to Slide 7. This is the second year of our GBP 3 billion investment program, 80% of which is being invested in data, digitization and technology. The majority of our customers now interact with us digitally. 61% of retail customers are entirely digital. 90% of retail customer needs are met either online or via mobile and 83% of customers in our commercial business use digital banking.

We continue to make good progress on improving customer journeys. 79% of retail accounts are now opened with straight-through processing. 99% of unsecured applications are fully automated. And commercial customers made 73,000 digital service requests in the first quarter compared to just 6,000 in the whole of 2019.

Our digital transformation is helping us acquire new customers. For example, our digital bank for business customers, Mettle, has gained 50,000 new customers since launch. And our acquisition of Rooster Money last year, which provides families with an app that helps children to learn about managing money, added 130,000 new customers.

Improving the customer experience has also resulted in a significant improvement in Net Promoter Scores with retail at 16, up from 4 in 2019, affluent at 26, up from minus 2 in 2019 and a business banking mobile NPS of 48. Of course, this improvement creates a virtuous circle, which results in the acquisition of more new customers.

Turning now to capital management on Slide 8. We continue to proactively manage capital and risk and have reduced the capital intensity of the business from 54% in 2019 to 48% in the first quarter this year. Our phased withdrawal from the Republic of Ireland is progressing, and we are pleased with what has been announced. We are also managing risk well with a low level of defaults and strong risk profile. 94% of our personal lending is secured, and we are growing unsecured in a responsible way. 92% of our retail mortgage book is fixed with an average LTV of 54%, and we have a well-diversified corporate portfolio with limited exposure to at-risk sectors that we monitor closely.

We are focusing on capital efficiency in order to maximize shareholder returns. And as I said earlier, we have booked total distributions in the quarter of GBP 1.5 billion for 2022.

And with that, I'll hand over to Katie to take you through the results.

Thank you, Alison. I'm going to talk about the performance of the go-forward bank using the fourth quarter as a comparator.

We reported total income of GBP 3 billion for the first quarter, up 15.8% from the fourth. Within this, net interest income was up 5% at GBP 2 billion and noninterest income was up 46% to GBP 964 million. Excluding all notable items, income was GBP 2.8 billion, up 9.8% from the fourth quarter.

Operating expenses fell 22% to GBP 1.7 billion, driven by the absence of the annual U.K. bank levy, lower conduct costs and of course, ongoing cost reduction. The net impairment release of GBP 7 million compares to a release of GBP 328 million in the fourth quarter. This reflects a continued low level of defaults and an increase in our post-model adjustment for economic uncertainty of GBP 69 million due to increased cost of living and supply chain challenges our customers are facing.

Taking all of this together, we reported operating profit before tax of GBP 1.3 billion for the quarter. Attributable profit to ordinary shareholders was GBP 841 million, equivalent to a return on tangible equity of 11.3%.

I'll move on now to net interest income on Slide 11. Net interest income for the first quarter of GBP 2 billion was GBP 104 million higher than the fourth as a result of the higher U.K. base rate and strong lending. Net interest margin increased by 15 basis points to 246 basis points driven by wider deposit margins, which added 22 basis points. This reflects the benefit of the higher U.K. base rate, which increased to 75 basis points on the 17th of March from 25 basis points at the start of the year, and higher spot rates on our hedge deposits.

Lower mortgage margins on the front book reduced NIM by 4 basis points and was partly offset by a positive mix in unsecured, which added 2 basis points. However, as you can see, these impacts were more than offset by higher personal deposit margins and net interest margin in both retail banking and private banking has increased in the quarter. In commercial and institutional, changes in loan mix reduced bank NIM by 3 basis points and growth was driven by lower margin large corporates, while smaller businesses continue to repay. And in retail, wider commercial and institutional deposit margins more than offset this, and the C&I NIM increased in the quarter accordingly.

Turning to the yield and cost trends on Slide 12. You will be familiar with this slide. And this quarter, we have presented the customer loan and deposit rates for our new C&I franchise. I want to highlight 2 key points: first, commercial and institutional loan yields increased by 8 basis points to 283 as the majority of these loans are variable rate with an automatic reprice. And secondly, deposit costs were broadly stable. We expect deposit costs to increase further in the second quarter following rate changes taking place in April.

Turning now to look at mortgage margin dynamics on Slide 13. The chart at the top will be familiar to you. However, we are now showing the quarterly average metrics of the group and not just retail banking. We have increased average customer mortgage rates by around 30 basis points in the first quarter. Of course, we also recognize there is considerable pressure from the swap curve. The average 5-year swap increased by around 60 basis points in the quarter. Customer deposit rates, however, were broadly stable as customer rate changes only took effect in early April. This led to an increase in customer spread, the difference between what we charge customers for their mortgage and what we pay for deposits.

Of course, higher swap rates are good for hedge deposit income. As you know, we increased the product and other hedge notional by GBP 39 billion to GBP 185 billion during 2021, reflecting growth in customer deposits. In the first quarter, we increased this by a further GBP 8 billion. If we assume deposits remain at the same level as the first quarter, then we expect this to increase by a further GBP 5 billion over the next 12 months. The structural hedge yield of 72 basis points is up slightly from 71 in the fourth quarter.

Moving on now to look at volumes on Slide 14. Gross loans increased by GBP 6.6 billion or 1.9% in the quarter to GBP 362 billion. In retail and private banking, mortgage lending grew by GBP 2.8 billion or 1.5%. And unsecured balances increased by a further GBP 100 million despite typical seasonality. In commercial and institutional, gross customer loans increased by GBP 2.3 billion. This comprised GBP 3 billion of growth in large corporate and institutional customers as a result of increased capital markets activity and higher facility utilization as well as an increase of GBP 500 million in invoice asset financing within our commercial mid-market businesses. This growth was partially offset by the continued repayment on government lending schemes.

I'd like to turn now to noninterest income on Slide 15. Noninterest income, excluding notable items, was GBP 740 million, up 24% on the fourth quarter. Within this, income from trading and other activities increased fivefold to GBP 205 million as we benefited from higher volatility in our currency business and the issuance volumes in capital markets. Fees and commissions fell overall by 4% to GBP 535 million, driven by normal seasonality.

I will look on now to look at costs on Slide 16. Other operating expenses were GBP 1.6 billion for the first quarter. That's down GBP 78 million or 4.6% on the same period last year as we continue to work to meet our targets, which, as you know, is a reduction of around 3% for the full year. And I remind you that this will not be linear.

Turning now to impairment on Slide 17. We're reporting a net impairment rate for the go-forward group of GBP 7 million, compared to a release of GBP 328 million or 37 basis points in the fourth quarter. This reflects a continuing low level of defaults across the group. We continue to see further improvements in underlying credit metrics in the group book with positive migration of Stage 2 loans back to Stage 1, driving ECL releases. However, we have decided to allocate these releases to our post-model adjustment for economic uncertainty, which increased by GBP 69 million to GBP 653 million as we recognize our customers face both increased cost of living and supply chain challenges that are yet to impact the data. The economic assumptions we presented in February are unchanged, and we include these on the slide appendix. We will update these in line with our usual practice in the second quarter. We continue to expect a loan impairment rate below 20 to 30 basis points in both '22 and '23.

Turning now to look at capital and risk-weighted assets on Slide 18. We ended the quarter with a common equity Tier 1 ratio of 15.2%, down 70 basis points through January 1. This includes GBP 1.5 billion of 2022 distribution, which reduced the ratio by 83 basis points. The redemption of legacy equity preference shares reduced the ratio by a further 14 basis points, in line with our guidance. This will deliver an annual saving of GBP 19 million from Q2 onwards. RWAs reduced the ratio by 5 basis points and fair value movements on our liquid asset portfolio reduced it by a further 9 basis points. These reductions were partially offset by a 44 basis point increase from attributable profit net of changes to IFRS 9 transitional relief.

Our IFRS 9 transitional relief is 23 basis points, down from 39 basis points in Q4 as relief decreased from 100% at the end of the year to 75%. RWAs increased by GBP 500 million to GBP 177 billion. This was driven by higher credit and market risk, partly offset by GBP 1.9 billion benefit from our annual operational risk recalibration exercise.

Turning to Slide 19, which shows the strength of our balance sheet. Our CET1 ratio of 15.2% is now 120 to 220 basis points above our 13% to 14% target range. Our U.K. leverage ratio of 5.5% is down 40 basis points over Q4 and 225 basis points above the Bank of England minimum requirements. We have also maintained strong liquidity levels with a high-quality liquid asset pool and a stable diverse funding base. Our liquidity coverage ratio decreased to 167% due to the redemption of legacy preference shares and the directed buyback, taking the headroom above our minimum to GBP 83 billion.

And turning to my final slide. We are making strong progress and now expect to deliver income, excluding notable items, comfortably above GBP 11 billion for 2022. This assumes U.K. base rates reach 1.25% in the fourth quarter and reflects faster rate increases than we had in plan. We reaffirm all our guidance on expenses, impairments and capital. And taking all of this together, we continue to expect to deliver a 2023 return on tangible equity comfortably above 10%.

And with that, I'll hand back to Alison.

Thank you, Katie.

We have delivered another strong set of results for the quarter. As a purpose-led bank focused on people, families and businesses up and down the country, we are acutely aware of the challenges our customers face, and we continue to support them in every way we can in an uncertain environment. Despite the macroeconomic uncertainty, we remain well positioned with a diversified lending book, strong risk management and an ongoing investment plan and digital transformation that underpins our growth plans. Our capital strength gives us the flexibility to invest for growth and consider other options that create value as well as return capital to shareholders. And we remain fully committed to the targets we have set out today.

Thank you very much, and we'll now open it up for questions.

(Operator Instructions) We will take our first question from Aman Rakkar of Barclays.

I had a question on your revenue trend, first of all, net interest income in Q2. Could you help us understand the guide around comfortably above GBP 11 billion (inaudible) that lends itself to positive range. If I was to say 2023 and the bank net interest income. I mean, that number should be up by, I think. So any kind of refining to that growth there would be really helpful.

The second was on net interest income. You're clearly benefiting today in Q2 from rate hikes or in a position this year as well. If I could ask you to contrast your gain as to '23, ultimately my question is, you said net interest income can continue growing in '23. And as part of that, could you help us understand your expectations for the structural hedge in this period? I think actually this is a nice tailwind. I think it's an important percent especially with the margin compression.

Great. Thank you. Well, I'll get Katie to take you through those in a little bit more detail. But I guess in terms of comfortably above, we are feeling much more confident in terms of those numbers, but Katie, do you want to walk through those questions.

Yes, sure, absolutely. I'll just sort of start by saying that the interest rates that we're looking at is one of the factors which we incorporate into our guidance. And so comfortable that total income is above that GBP 11 billion. The degree to which it will be above is driven both by the magnitude and importantly, the timing of U.K. base rate rises.

Our guidance of comfortably above GBP 11 billion includes our assumption of further Bank of England base rate rises this year reaching 1.25% in Q4 '22. We do note that the market expectations of further rises are currently above our estimates. And our assumptions include 2 further rate rises this year. While this is below the current market assumptions, we are conscious of the increased uncertainty that this brings the economy and we remain comfortable at this level.

We do utilize both sides of the balance sheet, and we have seen continued deposit increases. There has been quite limited pass-through in Q1, which has helped us kind of improve this guidance. However, we see with the last deposit rate change that we saw, we saw an equivalent to 40% pass-through there. There are some more attractive deposit accounts around for people as well. You can see that our interest rate disclosures on the slide is unchanged in the full year. This will be updated again at half one, but it gives you a good guide of as rates come through if they are above our estimate, what that might mean in terms of our estimate is around the 1.25%.

It won't surprise you, Aman, to know that I'm not going to give you a precise number. But the way that I would think about it is the faster pace of rates in Q1 and then with much lower pass-through of those rates than expected compared to our expectations when we spoke in February, that's where you're getting your additional revenue guidance as you move through.

If you think of the structural hedge, at this point, what we can say, it's definitely a positive as we move through. You can see that in the, look, the structural yield moved up to 72 from 71 for the whole group. A small movement, but an important one, this is what you can see as the benefit that is now kind of flowing through into those numbers.

You can also, and when you look at where we're kind of rising and what we're adding on in terms of that structural hedge compared to where we were before, it's a much richer rate. If you look to kind of a year ago, it was kind of going on over 100 basis points. It's now going on over 200 in terms of that. So I would say that it is a positive as we move forward from here.

We added on GBP 8 billion in the quarter. We'll add another GBP 5 billion on over the next year. If deposits stay as they are, I would note that we haven't kind of seen that growth in deposits, although it slowed, it hasn't disappeared. And so you can kind of take your view on that. I would say it is something as we move forward, it should be helpful to us. And probably not going to get drawn on NII into 2023. I think you can take our interest rate guidance and take it through from there.

Sorry, could I ask another one?

Oh, sorry, I just can't hear. And I'm sorry, it's fine, apology to you.

And our next question comes from Andrew Coombs of Citi.

A couple of questions from me. Ask you a simple one, which is given the AIB announcement today, there's another EUR 6 billion of trackers getting crossed off. Does that change any of your guidance and also then in terms of your costs and disposals in Q4?

Second question on capital. You've obviously done directed buyback already. You've still got a couple of billion in excess capital and you're still guiding to 14% by the year-end. On Slide 13, you guided a couple of moving parts, regulation and dividend and pension contribution. But perhaps you could just give us a feel for what this implies for buybacks in your view because aside from that and any other major capital charges come through from there. So can we look at that GBP 2 billion of excess capital you have today as on-market buyback potential?

Great. Thanks, Andrew. Well, let me take the earlier question. No change to guidance, obviously, really pleased with the announcement today. And I think just continuing progress with our guidance on costs and disposals remain unchanged, but I think give momentum now in this Q2 to announce that today. So Katie, if you want to step on.

Costs and buyback, I mean, absolutely. So look, as you know, there's kind of 4 ways that we can distribute bank capital. It's a combination of the ordinary special dividend. So as we said, it's a minimum of GBP 1 billion for '22 and '23 buybacks. And we're halfway through the buyback that we announced in February. So we're pleased with the level of liquidity that we've seen in the stock that's enabled us to kind of progress that quite quickly. And I would remind you that we decided that in our year-end numbers.

So we like buybacks. They work well. They make good economic sense for our balance sheet. And it's something that I think you could anticipate that we would continue to utilize. Clearly, this decision is being made by the Board at the right time in terms of that piece. We've obviously done the directed buyback with the government. So that window is closed now, as you all know, for the rest of this year.

Next question comes from Raul Sinha of JPMorgan.

I just wanted to, I was hoping to get a little bit more color on your 40% pass-through point. And I was wondering if you might be able to tell us what deposit beta assumptions you might have made within the retail as well as the commercial kind of deposits separately. I'm just very interested in your new disclosure around the split of the margin evolution in the 2 divisions. And just looking for some additional color on how you expect to pass through on the commercial side that's really different from the pass-through on the retail side of the bank against that 40% as well. That's the first question.

The second one is just Alison on, I think you mentioned that you'd also look at other options to create value on top of capital return, presumably through acquisitions. And to be quite clear, I guess, in past conference calls on this point, but I'm just interested based on some of the sort of press commentary about, has there been any evolution in terms of your thinking around potential areas where there might be additional value that you could create and interested in any color around what areas there might be where you think you could actually add a lot of value, again through M&A?

Great. Look, on the M&A, it may change. My approach, as you know, my preference is distribution to shareholders. If there's anything with compelling shareholder value and strategic rationale, then we would look at that. I think if you look at what we've done so far, things like the Metro mortgage book or we recently used the money, which was aligned with our use strategy. So there was a pretty, I guess there's a clearly high bar of things that we would look at. It's got to be compelling shareholder value, but our preference remains distributions.

And we have obviously a very strong position wherein that I'm able to invest in the business with the GBP 3 billion investment program, continue to drive positive jaws with operations and have a strong distribution story and then look at other things that's compelling. There no evolution beyond what I've told you before. Katie, do you want to pick up the last 2 points.

No, we can't answer in, Raul. And it's one of those things as you look at it, it's very kind of dependent upon, I think, what's happening in the market. But let me try to give you a bit of a kind of a feel and picture than that answer. So when we give you the sensitivity, what we said at the time is it was built bottom-up, incorporating different pass-through assumptions for different products across all the franchises.

And those assumptions change as their weight kind of increased through those different levels. The capacity rate will be determined by levels of liquidity and also subject to prevailing market conditions, including, I think, the expectation of the pace and number of rate increases. As we look to the first quarter, there's obviously 2 rate rises. We put through a rate change in March. This takes impact in April, which was equivalent to 40% of that, of the last rate rise or you can look at it as kind of 20% of the first 2. But I think that's an important kind of distinction because as you think about it, actually, it does really depend what's kind of happening in the market and how much liquidity we've got within there.

And then when you look across the bridge, and I think, well, how much is fixed versus variable in terms of there. And if you go into retail banking, the vast majority of our loans at retail banking are fixed. So they obviously have no impact on that. And the C&I loans, and we do see a kind of reference rate, which reprices immediately, so we get the benefit, but then moving to deposits, almost all of our retail and corporate deposit rates are managed rates.

So we don't have any automatic pricing changes due to the external rate changes. Retail banking deposits, GBP 189 billion, 40% current accounts, 60% savings accounts, an average cost of 5 basis points. And for the first quarter, you'll see that go up very slightly in the second because of the change. And then in terms of C&I, average cost 2 basis points, and that will be very much managed as we move forward from here.

If as a consumer you're looking to get a better rate, we've got a very nice digital account, which will pay you 2.25% in rate. And then also the business banking there's also another opportunity to enhance return. They pay 40 basis points. Those will be available to you. It is something that we look at as we kind of work through what's happening in the market and what's happening with our customers.

Our next question comes from Omar Keenan from Credit Suisse.

I've got 2 questions. One on the just, I guess, the big picture question on the interest rate and asset quality outlook. Then the second one on NatWest Markets. So just firstly, on the interest rates and asset quality outlook. I hear that your assumptions in terms of the revenue guidance are Bank of England base rate of 1.25% at the end of the year. I guess if we look at current interest rate expectations, they indicate that the Bank of England rate will probably be around something like 2.5% in 1 year and then settle at a neutral rate of about 2% in 3 years. And I realize it's quite a difficult question, but at what level of interest rate do you think that starts to put at risk the through-the-cycle guidance? Because I get a sense that's where a lot of people are perhaps struggling to think about what level, how interest rates become a negative rather than a positive and that inflection might be?

And my second question on NatWest Markets. So thank you for the continued disclosure of NatWest Market. I can see now the revenues are higher year-over-year, and it looks like some of the positive impact from capital management units and other, lower funding costs are starting to come through, but revenues in fixed income are still negative. Could you give us an update on how NatWest Markets restructuring is going? And given that you printed GBP 150 million of revenues. Is that something you can continue going forward, expect to continue going forward on a quarterly basis?

Great. Well, thanks for the question. So on NatWest Markets, I think what I talked about, we would expect to see a sort of stabilization of the performance of that business. On the restructuring of NatWest Markets, that's largely complete. We've made all the decisions around products and capital and the business is very much on the front foot now in terms of growing. I think coming into Q1, NatWest Markets has had a strong quarter, total income of GBP 219 million, I think, the disclosure.

And as we said we would keep showing, the performance there shows that both capital markets and currencies had good performance, increasing by 64% and 34%, respectively. In terms of the rates business, I would characterize those as, the start of the year pre that issuing volatility we saw created by the geopolitical events. So it started well and then have a more difficult environment as a result of the volatility to Ukraine and a small loss overall.

I'm very happy with the performance of NatWest Markets. And I think if you look at it from the 3 business lines, it's up 15% versus Q1 '21. So I think we're very comfortable that the business managed well during the volatility, and I'm really pleased with the refocusing. So I think you would expect that business, obviously, it has different movements through the year, but I think that stabilization, I talked to the restructuring largely is performing well.

On your interest rate and asset quality point, I think in terms of interest rate rises and at what point does it become a negative, very, very significantly higher than any of the forecast on interest rates. And what we can see when we look through both leverage that's sitting with our customers and the level of liquidity, we have no concerns from a credit perspective caused by interest rates at these levels or forecast levels.

I think as I look at it, our book is largely secured and good quality. You see our RWA intensity continues to reduce and we actively manage the capital. But we're not seeing the interest rate rises as anything that would cause us a concern on credit events across our book. And so we're very comfortable with that through the cycle guidance that we gave you.

Next question comes from Guy Stebbings of Exane BNP Paribas.

The first one was back on the above GBP 11 billion guidance. If I take your rate assumption and rate sensitivity and where we're starting today, driving NII figure approaching GBP 9 billion this year. Net fees and commissions were up 10% year-over-year in Q1. And guessing that might moderate, call it, 5% or so, another GBP 2.2 billion. You get to about GBP 11 billion just from that. And then trading and other income still good in Q1, one would hope that, that grows over the year. So it looks like you could end up near GBP 12 billion than GBP 11 billion even on some pretty conservative assumptions. Am I missing something or is this just conservatism, which is understandable given the very uncertain environment?

Then I've got specifically on net interest margin. If I put asset spread compression to one side and focus on the tailwinds that you outlined on Slide 11. I mean, the benefits from net interest margin must be roughly double in scale what was captured in rate sensitivity. So just wondering how much we should be tempering that sort of benefit on future hikes actually pass-through most important too. I think that you mentioned the change in guidance reflects lower pass-through today and a quicker hike, but I'm guessing your assumption on future hikes hasn't changed perhaps.

Look, on the first point, I think Katie answered that comfortably above and any assumptions that we've made on interest rates and the mix there. So I think we're feeling very comfortable on that number, which is why we've adjusted them a little bit. Katie, do you want to take the next.

So the way that I would think about it to be comfortably above is they obviously want to target 125 basis points. So our kind of pass-through assumptions up until that point and were already kind of built into there. So then the way I would think about it is I can say, well, actually, if I have a view that the forward curve is the one that we're going to land in is more of those kind of 2 half pieces, then I think we've given you the guidance in the net interest margin piece that when we gave it to you in February, we talked a lot about that, that was already assuming that you were above the kind of 100 basis points. So you've kind of got up to a kind of normalized level of pass-through. So I think that's where you can use to kind of cumulatively to how much further that could be if our guidance is exceeded as market consensus is suggesting that it may be, but let's see how the year progresses on that.

Can I just come back briefly on fee income because it's down Q-on-Q, but I think that seasonality is maybe something that you kind of overlooked during COVID just given the distortions. It was up 10% year-over-year. I mean, is 10% maybe going to be tempered because the base is a bit tougher as the year progresses. But ultimately, you are seeing good underlying opportunity from that if we adjust for seasonality. Is that fair?

Yes. Yes. I think what we're seeing is the kind of recovery in the underlying kind of businesses, and there is always a little bit of seasonality that I expect in Q1. So there's nothing to read into that. So I'll leave you on your view on the 10%. So I'm not going to be commenting on that specifically. But adjusting it even and decide on 15%, you can see that Q1 is often a little bit lower.

Our next question comes from Jonathan Pierce from Numis.

I've got 3 questions. The first one is on the pass-through comments again, apologies to come back to this. I'm just slightly surprised that you're talking about a 40% pass-through on the latest rate hike, if I've understood you correctly. I mean, we continue to size the rates up by about 10 bps and the business is able to account by about 10 bps. But most of the other bigger portfolios look to be unchanged. Can I just make sure I understand what this pass-through rate is being applied to? It's not GBP 465-odd billion of deposits in the go-forward bank. You're hedging about GBP 193 billion of those now. So negative GBP 250 billion unhedged. Is that what you're referencing when you talk about 40% pass-through, to pass through 40% of the latest 25 basis point hike to GBP 250 billion of balance. Is that how to think about it?

If I understand quite quickly, Alison, in terms of that. So I think the one you've missed is the main retail instant saver change and it's up 10 basis points in terms of that. So obviously, no change on current accounts. And then you saw across our various savings accounts different changes. The main one you've not picked up on is the retail saver change and that went up.

I may have missed it on the website. I think it's still talking about 1, but that's gone up to 10?

Yes. And the reason I'm not sure the best note. And so that only takes effect in April in terms of the early part of it because it should be up and then follow that point up, but that's the one that you missed.

Right. Okay. Okay. That makes sense. Okay. Just can I follow up with a question on the structural hedge again. I'm slightly confused at to why the hedge isn't turning the corner more quickly. You added a basis point on in Q1 versus Q4 in terms of the total yield. The product hedge in the second half of last year was only 57 basis points. You've obviously added GBP 8 billion net for hedge in Q1 and the swap curve, most duration is 1.5% to 2% for the quarter. You've got the old hedges rolling off again on to 1.5% to 2% during the quarter. It's like the equity hedges sort of declined, but is there some obviously at the moment in the hedges holding the yield back or are we actually going to see the total income start to move up much more appreciably over the rest of the year.

Yes. So if I look at it, there's nothing underlying that's kind of holding it back. What I would say is on the capital hedge is probably still a little bit of a headwind, but we can see that continuing to improve as we go through, but we would expect to see the hedge income come up. I know you're incredibly familiar with long term. As you look at that, the schedule over the 1, 2 and 3 years, you can see the first year comes through quite gently and then it kind of, it goes as you go into year 2, year 3 and as you come up. And it can also be a little bit lumpy depending on when you put on over the last number of years as well. But there's nothing untoward in there. You'll see it start to move up.

Our next question from Ed Firth of KBW.

I wonder if I could just go back to credit because I guess it is the thing we're always struggling with. I mean, pound sterling at $1.25, but I think with share prices, they're all pricing and are seeing some sort of reasonably material downturn. And I hear your comment in the beginning about cost of living and you accept people are stressed. But then on the question about interest rates, you seem to imply that no stress at all, 2%, 2.5%, 3%, it doesn't seem to matter. So I'm just trying to, I'm really struggling, I'll be honest to try to square. Another view is, it is the whole sector. They're all, the management says, they've got no worries at all, I mean, is what I'm seeing in the market.

And I just wonder, what is the scenario which does make the numbers? So at what point do you start thinking we could have a credit downturn here and we do have to start be more cautious in lending, raising provisions, et cetera. And I saw the nonperforming loans up a little bit even if you exclude the regulatory adjustment, I don't know if that's coming from some case in particular. I don't know if you can try to help us try and transfer these 2 extremes that we see to be fashionable at the moment.

Yes. So let me try and help. What you've got is, if we look specifically at our bit, we're primarily a time book. Our book is largely secured. So I think its shape is important. But in terms of the trend in the market and the issues, we're seeing in all of the leading indicators that we would look at, whether that is calls into our financial health and support lines, requests for deferments, any sort of movement into what we will call heightened monitoring or increased drawdowns on things like credit cards or overdraft. We are not seeing any of those leading indicators coming through now. We have an element of the fact that across the U.K. economy, GBP 186 billion of extra cash that is sitting in people's savings, in the corporate accounts that they've built up during the pandemic and GBP 26 billion less consumer debt. So you've got, and across corporate balance sheet, got lots of liquidity sitting out there.

So there's no signs of that distress coming through. What we are being very mindful of there is all of those concerns around cost of living and inflation and supply chain. So we're really being very proactive, but we're not seeing any signs of it. And then if you look at the shape of our book where we actively manage it. The big sort of driver in terms of what the dynamic would be of unemployment. That really is the issue of, unemployment remains very high at the moment. So I think once you start seeing unemployment rising, that would really be more of an event that would bite into affordability and start migrating into credit migration from that perspective.

So when we think about ECL, we can drive what that is. That is unemployment. When you step back and look at interest rates that 1.25% or 2%, wherever the consensus is seeing, that is not going to be a driver of credit impairment and the shape of our book, but it's unemployment that really will feed into ECL. So hopefully, that helps. But what you've got very different dynamics happening. We're being very proactive in how we're supporting customers, the proactive support going into them through our relationship managers, through our teams and making sure we can address that. But leading indicators, no signs of distress. The area you would focus on would be unemployment. Hope that's helpful.

Yes. No. It's very helpful. In your internal modeling if that's related, do you have a sense at what level of interest rates would have to be for unemployment to start showing up? Because I guess there will be a correlation from that.

Well, I think when we quantify that interest rates really are a driver of affordability, so that's going to affect affordability. Unemployment is another driver of affordability. If unemployment rose up and people aren't getting wages in and salaries in, then clearly that's a dynamic. But when you look at the cash buffer that has been built up on, and generally, the overall level of liquidity that's sitting across corporate balance sheets and across businesses, it's very high.

If you look, for example, around the amount, if I think about in our small business banking side, our small business customers, 50% of customers are on fixed rates. Things like the bounce back loan, those are all on fixed rates. A high degree of our mortgages are on fixed rate. That interest rate sort of rising will go into affordability, but unemployment is going to be a much more dramatic side. So we are not concerned about interest rate rising into affordability on this front.

I think that the only one thing I would add is just to repeat our guidance. What we have said to you is we expect our impairment charge to be below our 20 to 30 basis point guidance in 2022 and 2023. So while we recognize the cost of living crisis, what we think in terms of the level of provisions we have and where we are, it's not something we're expecting to manifest, particularly in our impairment rate.

And our next question comes from Rob Noble of Deutsche Bank.

I have a question on inflation. The underlying cost base, I appreciate it's lumpy, in this quarter looks particularly good. Is the underlying cost base performing in line with your expectations or is higher inflation a pressure on your cost target for this year? And then I appreciate you're saying that interest rates aren't a concern for credit, but you did take a post-model adjustment for presumably cost of living and inflation. So what part of the book are you worried about? Where does inflation negatively impact your book? And then just really on from that and one of the points you just made, the people have a lot of excess savings, but one of the more cautious items in the U.K. is actually savings held by wealthy people and corporates that are in liquid positions. So what proportion of your customers actually holds the excess deposit?

Okay. So let me start on the cost question. Yes, cost target has been as we expect them to. We've taken out around GBP 78 million or about 4.6%. And so we're very comfortable. We're on track for the 3%. We obviously consider the inflation will impact our cost target in the near term of 3%. I've always said that costs will not be linear, the take out will not be linear. I know last year, I said that as well and everyone still times the first quarter by 4. So our guidance is 3%, but the cost performance is performing as we expect it to and we're comfortable with the 3%, the target for this year. Katie, can you just pick up the next question?

Yes, absolutely. So Rob, I do recognize the juxtaposition of the low 20 to 30 basis point guidance. And yet, you've held back GBP 69 million on your PMA because of cost of living and supply chain. And what I would say, I think that's kind of a set of question as we see how this rolls through. And it's not a particularly significant number, but we just felt that given where we are, given what we're looking at, let's just be a little bit cautious on that.

We'll do a full update on economics and everything in Q2, we will move much more over our normal competitors kind of base. So we'll see where that is. But at the moment, it's not something we are kind of concerned about. Inflation is clearly in the numbers, but it's in our assumptions, but it's one of many different things we look at. And as these kind of done, test it against kind of where economics is sitting at the moment, so comfortable on that, but it was our kind of judgment decision to kind of hold a little bit back. It's not a kind of significant number.

In terms of the kind of excess savings point, they are held in wealthy, but they also held across our retail franchising and also by small businesses in terms of that piece, which there, that's where we've seen kind of a slight kind of increase. I think when we, so you think of what happens in an inflation environment, it's the discretionary spend that starts to get impacted. And when you look at the discretionary spend, over the last number of years, we focused a lot on the kind of the retail real estate exposures, our luxury exposures to make sure that they are well managed. So if there's impact on those, then we can kind of want to follow through on that to make sure that we're not kind of at risk in that space.

So we're obviously not immune. People will struggle, but when you look at our book, I mean, we think the people that we lend to, it's not the people that are going to be having the greatest impact, unfortunately, of the cost of living and impact on mental. You need to keep you mindful of it. We need to keep there a bit. We need to keep on that point or unemployment specifically. We need to look at more closely. And at the moment, you've been seeing that U.K. unemployment sector are excellent.

Our next question comes from Chris Cant of Autonomous.

If I could come back to NII, please. If I think about your NII run rate, it's about GBP 8.2 billion for the quarter. And the average change in rate that we saw that generated something like a couple hundred million benefit based on the deposit margin improvements you showed on the slides. So if I trim that down for the most recent 25 bps and assume the 40% pass-through that you've indicated, even allowing for a big incremental mortgage pressure. I think it was 4 bps on average for the quarter, so maybe another 2 to get to the end of the quarter. It feels like your NII exit run rate at March coming into April would have been back in GBP 8.5 billion. And that's before we have any further rate hikes.

Am I missing something there? Because I'm trying to think about this in the context of your, comfortably above GBP 11 billion and some of the other questions. It feels like it could quite really be close to GBP 12 billion if market rate expectations proved to be correct because I appreciate what you said on the 1.25% just in terms of where we actually were as of March, you have at the right level in the sort of GBP 8.5 billion annualized run rate for NII in the go-forward bank. I have a question on markets after.

We'll do this and then we'll come back to the market one, I think. So as we look at this cost evolve consensus is GBP 8.2 billion. We're pleased to kind of push you on a little bit from where we were. We had slightly faster rate coming through we did a pass-through in terms of the interest rate rise into our deposit basis. You're very familiar with what deposit and what kind of accounts actually how much that kind of cost. I think there are 2 more rate rises in the pipe. We think we'll only get to the last one by Q4.

Even look at consensus, that's obviously a bit different. So I think to think about your timing of where you are. But I guess, you think of those were comfortably above 11 quite carefully. So I'm going to probably leave you to just kind of work out a lot of those things and not give you a kind of precise number. It's good to see, I think, the positive way that we view during the year and we continue in income that we're generating across the piece as we move forward. Do you want to do your network market question.

Yes. So on markets, rates, you indicated that the sort of volatility, I guess call you upside or something that green you're expecting the rates business to be a nonnegative revenue number for the coming quarters, perhaps any further unexpected volatility. I'm not asking you to forecast the main policy revenue numbers. But is the rate uses expected to stop being loss-making at any point to have strength really over the course and obviously, as you're indicating your restructuring is now done. So presume we're typically keeping that business, if you weren't expecting it to rather there's some positive revenues at some time.

So I think that the volatility was managed really well by the NatWest Markets team. My reference to the volatility was as a result of the invasion of Ukraine, we saw very extreme volatility in the market, and our team managed that so we some very well. I'm very pleased with the performance of the rate business as in Q3 and Q4. It was a disappointing performance in the combination of market and has seen restructuring, restructuring is complete. That business has stabilized. You can see the contribution from NatWest Market into this quarter and the rates business has continued to trend and perform positively. So it is not lost and I don't expect it to be lost. So I think that stabilization, I expect is there. I can actually forecast the volatility in the market caused by the invasion, but the team handles it very well, and we have a much less volatile business as a result of the restructuring we compete. So I'm very comfortable with how that business is performing.

And I think also, if you look at the currency and capital markets increased over GBP 200 million of their income in the quarter. I think we're pretty pleased with how they've dealt with volatility it's help them across the place.

That's helpful. If I could just ask one follow-up on that on the first question. If I put it slightly differently, what was your exit NIM for 1Q, please? The exit.

Yes. So I give you a lot of detail. I'll give you all sorts of numbers on meters of things. I think latest work with what we do. I'm not going to give you the kind of the exit NIM from there. But the way that I would kind of think about moving them for the whole year, we're definitely -- we are expecting it to continue to increase. And if I look at the kind of the rate rise as they talk about how -- and there's been 2 more kind of baked in.

So given where the rate rises landed in Q1 and the timing of those and still expect in further improvement of them as they come through and we get a full kind of quarter impact of that. Very strong and growing deposit base, which I think is really helpful. I shared to be how much more we put on the structural hedge. So you can then work out how much more is when you get the benefit in terms of those ongoing rate rises directly, but probably not going to get caught on our exit NIM because Chris, I feel that will cause some trouble in the quarters become we're very comfortable with performance.

Our next question comes from Martin Leitgeb of Goldman Sachs.

And congratulations on a good set of numbers, first of all. I wanted to ask on mortgage pricing. And in the release, you say that application margins around 44 basis points in the quarter, down from around 57 in the prior period. And I'm just wondering if you could comment a little bit on the outlook for mortgage pricing, are you comfortable writing business at this level, would you expect some of the pricing normalizes? Is it one that's aiming us on swap rates? Or could it be a scenario that's thanks to say more on the liability side, liability margin and that we could be heading into the kind of enology in terms of more.

Thank you. Sure, to going to get to mortgages at all on the call. So thanks for bringing up -- let me talk about the monitor specifically, and we can do any follow-up if you move more -- but so as we highlighted in our group NIM, we increased about 15 basis points, and our retail bank NIM increased by 16 basis points in Q1. We expect to continue to see that loan expansion based on interest rate assumptions and market census as well based on the late entities you talked about a lot on the call. I guess all of that said, our mortgage application margins at 44 basis points for the quarter are not where we want them to be and now below what we consider a sustainable level despite the overall profitability improvements that you see in retail and the group.

So I think you shouldn't expect to see our operating margins remain at these low levels. is we don't have a lot of appetite to write business at this level for a sustained period of time. The market conditions in Q1 were exceptional, but swaps increasing very steeply in the last part of January and then through the rest of the quarter. In response to that, we increased our mortgage pricing 12x in the quarter, increasing customer rates by over 50 basis points in Q1 and by over 100 basis points since mid of Q4.

However, that still was not enough to keep pace in terms of the movements you're looking in short curve. So as I said, we don't see these levels are sustainable for a long period of time, and you should expect to see us continue to kind of price up. If I look at the Q2 (inaudible) margins, I'm comfortable that they're going to continue to improve as we move forward. And space you more holistically, there are fully large processes to the weight environment, which more than offset this pressure overall, not least the rollover on the structural hedge, which we've talked about the benefits, the swap increases there. other that put pressure on the mortgage application that combined with the base rate rises is something very and positive for us.

And the business overall and a 23% ROE even on the basis of listed capital. So clearly, a very strong but we would expect to continue to kind of price up to work through a more kind of normalized level. And I think we are kind of aiming for Q2 margins in the 60s and for the group in terms of applications, so you should start to see then come through.

Our next question comes from Robin Down of HSBC.

I've got one question, one request. Maybe if I start with the request first, which is obviously with the cost of living crisis. I think one of the key elements is that it feels like it's sort of lower income households who can be most impacted. And I just request that maybe in future, if could give us a bit of a demographic breakdown maybe of your mortgage book in terms of kind of income levels and any kind of FICO scores you've got for the credit card book. It might make it easier for us to see kind of where your customer base is positioned relative to those low-income households.

Can I ask another question. Can I come back to the 40% deposit beta. I was just wondering what the rationale was for raising rates. And I appreciate there'll be a number of factors we go into that. But is that to do with you seeing kind of deposit flows flowing during the quarter? Or do you feel there's some kind of political pressure to kind of raise rates? So I'm just curious as to what the sort of funds will drive us were to decide to raise rates because otherwise, we haven't really seen that, I think, elsewhere from your peers.

And well, just on our customer base. One of the things I would say, we're a large lender. So our demographics largely reflect the U.K. But if you set the diversification of risk but it is well diversified and predominantly a secured but we're relatively low in unsecured, and we're a prime that and you can see the shape of that.

And we'll see what we can see is it's been very, very resilient in terms of its performance. So we're very comfortable with those. But we're also active with our customer base in terms of helping them manage the challenges, but I would look at it action. On your point around the deposits and passing on interest rates, actually, I would say, we're not out to ring with the market. We've seen that being passed on as well across the market. But Katie, do you want to pick that up?

In terms of the deposits, I think it's important. There's been 75 basis points or 65 basis points of hikes here. Our deposit franchise is incredibly valuable to us. And in reality, we passed through 10 of that 65 basis points of pick that's come through. We don't think it's the right thing to do. It's an important franchise. And if you look at our cost of funding, overall, it's still incredibly low. So I think probably no more comments than that on it.

Can I just come back on the mortgage point. I think what the demographic data shows is that the lower-income households don't have a great deal of mortgage borrowing. But it would be nice for to see that, if you like, within our really more kind of data disclosures, if we could see kind of medium income levels, for instance, of your mortgage customer base, that would be kind of helpful going forward. But maybe it's something I can take offline with you guys.

No, no, I mean we very happy to have a cap you on it on time. We always have to request. And I think we think doing and you recognize this there's been good disclosures of a lot of information, but and then we're putting a lot of our files. So we're very happy to have a conversation on line on it. Thank you very much.

And I would now like to hand back to Alison for any closing comments. Alison, over to you.

Great. Thank you, and thanks very much. Well, it's just a few closing it. We're really pleased with a very strong performance in this quarter. I think what you've seen is strong continuing delivery against our plans. We have growth in income. We're delivering on our cost reduction. As planned, we have a strong capital base with a clear plan to distribute capital and a strong rate performance.

We are very comfortable with the risk diversification of our book. We're very mindful of the challenges that our customers are going through that we are seeing no signs of default or the stress in our book and our book remains incredibly well give emphasized and are managed. We have strengthened our guidance on income a little bit to give you a bit of comfort on the outlook, but as Katie and I sit here, we see a strong set of results, building on 2 years of progress. Income and profits up significantly on a year ago. Costs down and strong capital, continued growth across a well-diversified loan book in terms of the strategic capital restructurings that we've done in that West market a strong performance in the quarter as the restructuring has completed at the end of the year.

And obviously, we've announced continued momentum on our Irish business, which is now almost 90% of the assets allocated and agreed to sales. So I think we are working hard with our customers to make sure that they have the right support through the economic uncertainty and challenges that we believe as the bank were well positioned to support them to continue to deliver on our plans and very confident about the outlook. Thank you very much, everyone, for joining.

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