Good morning, ladies and gentlemen. Thank you for holding. Welcome to this ABN AMRO Second Quarter 2019 Analyst and Investor Presentation. At this moment, our participants are in listen-only mode. Following the presentation, there will be an opportunity to ask questions. I would now like to hand the call over to Mr. Kees van Dijkhuizen. Go ahead please, Chairman.
Thank you. Thank you very much, operator. Good morning, everybody. Welcome to the investor and analyst call for ABN AMRO's Q2 results. I'm joined here by Clifford Abrahams, our CFO, and Tanja Cuppen, our CRO. I will take you through client due diligence, the progress we made on the execution of our strategy, how we are managing the bank in a lower interest environment, and update you also on our targets. Clifford will go through the details of our second quarter results and run through capital. Tanja will update you on developments in our loan portfolio as well as regulatory focus items. Turning now to slide two, I will run you through the highlights of the second quarter. I'm very pleased with our strong financial results and solid operational delivery during the quarter.
Our NII is strong despite the low interest rate environment and our impairments are like last quarter, moderate and well below through the cycle cost of risk. Our Basel III capital position remains strong, and we are well-positioned to manage the transition through TRIM and Basel IV. We have declared an interim dividend of EUR 0.60 a share, 50% payout of half year, in line with the payout of last year. We are making good progress on our strategic execution, our cost savings programs, and the CIB refocus. We are taking the necessary actions to continue to deliver in this more challenging economic and regulatory environment going forward. We have further increased our focus on detecting financial crime, and this quarter we recorded an additional cost provision for client due diligence. Let me take you to slide three for more detail on this.
I want to be clear that we are fully committed, of course, to complying with all anti-money laundering and terrorist financing legislation. We are pleased with the Dutch Cabinet's plan to jointly combat financial crime. We see this as an important initiative towards improving cooperation between the government and banks, and among banks, and in an effort to make society even safer and to prevent financial crime. Our client due diligence foundation is in place, and we are further strengthening and enhancing our activities in this area. The CDD workforce has tripled since 2013 to more than 1,000 people fully committed to detecting financial crime, and this number will increase substantially in the next few years. The CDD review of the main CIB portfolios, private banking clients, and high-risk retail clients has been undertaken.
We are making progress on the acceleration of CDD remediation programs in commercial banking and ICS, as announced in Q4 2018. Recently, the Dutch Central Bank determined that we are to review all our retail clients in the Netherlands. We will undertake further measures and extend our CDD remediation program, for which we've made an additional provision of EUR 114 million. The program will ensure that all clients in the Netherlands have an appropriate risk and transaction profile, and this will enhance transaction monitoring and the filing of unusual transaction reports. Sanctions such as instruction fines may be imposed by the authorities. In general, across the bank, we will take all remedial actions necessary to ensure full compliance with legislation. Strict compliance is our license to operate, and we remain vigilant in detecting financial crime. We will continue to make the necessary investments.
I will now update you on the progress of our strategy on slide four. Sustainability is a key pillar in our Banking for Better strategy, and I'm very pleased that ABN AMRO was announced as Western Europe's best bank for sustainable finance by Euromoney this summer. A clear recognition that every part of the bank is looking to have an environmental or social purpose. We have received also the award for Netherlands Best Investment Bank for local leadership, emphasizing our strong local market position and focus on sustainability in terms of profitability as well as impact on the environment. During the quarter, we invested in two solar projects and enhanced our front office tool, Casey, to accelerate the sustainability shift for our clients. We want to reinvent the customer experience and continuously look for partnerships that can enhance the service to our clients.
A good example is our recent partnership with YES Corporate Finance to serve our SMEs with M&A advice. On the next slide, I will update you on an example of customer experience and our IT transformation. We are a frontrunner in video banking, which is a key enabler in moving clients to digital channels, driving operational efficiencies while improving net promoter scores. We're seeing high adoption by our retail clients. 2/3 of our mortgage meetings are done via video banking. For private banking clients, the first adoption is good with 20%, and commercial banking has just started to roll out video banking. We aim to do the majority of clients via video banking by 2020. We are steadily reducing IT spend to move to 12%-13% IT cost income ratio in coming years.
We are increasing the use of cloud-based services and have started to further transforming IT towards smaller teams, combining development and operations or DevOps. Further streamlining and automating the process of developing software will lead to significant efficiencies. Now I'd like to update you on the interest rate environment and the action we are taking on slide six. You all know the interest rate environment sharply deteriorated. The five-year swap rate at the end of June, for instance, decreased by 24 basis points versus Q1 2019, and 56 basis points since our investor day last November. This mainly impacts our deposit margins, as there is limited scope to reduce deposit rates further, and it's hard to pass on negative rates. In contrast, our asset margins have remained resilient across client lending, and we remain focused on margins over volume. I'm pleased with the development in our books.
We saw strong performance in our mortgage book, and our market share is now at 17% from 14% last quarter in the last quarter of last year. We expect it to further improve. We also saw some growth in our commercial banking loan. Both reflect the healthy Dutch housing market and the broader economy. Nonetheless, assuming current interest rate expectations, we expect ongoing pressure on our NII going forward. Clifford will elaborate on this. We are working hard to mitigate the NII headwinds by developing more fee business, by focusing on originate to distribute platforms, investment products like Kendu, partnership initiatives, and cross-sell. This quarter, we started our originate to distribute platform for 30 years mortgages. Delivering on existing cost programs and looking into further cost actions.
Our cost income ratio is under pressure due to both lower for longer as well as an increase in regulatory and compliance costs despite our mitigations. Therefore, I regard our 56%-58% target for next year as very challenging. We remain focused on our financial targets in this more challenging environment. Now moving to capital on slide seven. We are strongly capitalized under Basel III and well-positioned for Basel IV. Our Basel IV ratio is largely unchanged versus year-end 2018, excluding profit accrual. We see more regulatory focus on capital regulation, and that focus is much broader than Basel IV. Namely TRIM and model reviews, NPE and provision reviews, as well as the effects of the worsening economic outlook across Europe.
We have already booked some additional RWAs reflecting TRIM and model reviews. This quarter we recorded the supervisory capital deduction of EUR 1.2 billion following an ECB review, including provisions. We expect further regulatory impact going forward. We actively engage with the regulator. Our prudent capital management reflects the current economic and regulatory outlook as well as our approach to sustainable dividends. Our interim dividend is set in a mechanical way, being 50% of our half-year profit in line with last year's payout, resulting in EUR 0.60 a share. We are within our capital target range. We expect to be well-placed to consider additional distributions above 50% payout at full-year results. Now I'd like to hand over to Clifford to take you through our second quarter results. Clifford?
Thank you. Turning to slide eight, as Kees mentioned, we are pleased with our strong second quarter results and net profit of EUR 693 million, slightly higher than last year. This quarter, our operating income increased mainly due to strong NII, despite the low interest rate environment. Operating expenses, excluding CDD provisions, continued to trend down, reflecting cost savings and lower FTEs. I'm pleased that impairments are moderate this quarter at 18 basis points. Tanja will give you more background on this. I'll now guide you through the individual line items on the next slides, first, our client lending on slide nine. I'm pleased that our mortgage volumes are somewhat higher this quarter. New production increased by around 40% compared to Q1, while redemptions were stable. Our market share recovered to 17% this quarter and is rising from here into Q3.
This reflects improved mortgage market conditions as we remain strictly focused on margin discipline. We are delivering on our CIB refocus and improved discipline. Our CIB client loans decreased further in the quarter, mainly in trade and commodity finance. SME lending saw some growth, reflecting the resilient Dutch economy, which continued to outperform the Eurozone. We expect this growth to continue in line with Dutch GDP. Turning now to NII on slide 10. Q2 net interest income is strong this quarter. As you can see on the right, this reflects lower liquidity management costs and positive one-offs offset by lower interest rates. We estimate the impact of lower for longer to be around EUR 13 million this quarter compared to EUR 10 million in Q1. Interest rates have declined further this quarter.
Assuming current interest rate expectations, we expect around EUR 20 million sequential quarterly NII impact into 2020, mainly through lower deposit margins. The increase in NII in Q2 is largely driven by the normalization of liquidity management costs as our Q1 non-euro liquidity position was at a temporarily high level, reflecting Brexit readiness. The risks of a no-deal Brexit in October remain. We are prepared for this. As we've made changes to our liquidity management approach, we do not expect any large movements in NII in the future. The remainder of the increase in NII of EUR 62 million in the quarter is related to various small positive developments in Q2, of which EUR 45 million related to incidentals.
I consider the normalized level of NII this quarter to be somewhat above EUR 1.6 billion, and for the remainder of this year, we expect NII to be around EUR 1.6 billion per quarter. Kees explained earlier that we're working hard to mitigate the impact of the low interest rate environment. We're now turning to fees and other income on slide 11. Fees are higher compared to last quarter, excluding the effect of the sale of Stater, since we lost one month's contribution in June of around EUR 7 million. We expect total fees to remain stable at around EUR 400 million in the short term, growing modestly after that, as the growth initiatives mentioned by Kees start to kick in. Other operating income remains stable at around EUR 100 million in the quarter, excluding the gain on the sale of Stater, which was around EUR 130 million.
For now, we feel comfortable with our guidance of EUR 125 million per quarter for other operating income. Moving to costs on the next slide. I'm pleased with our performance on costs, which continue to trend down. As you can see from the left-hand chart, personnel expenses continue to decline, reflecting lower FTEs. Other expenses, excluding incidentals and levies, were slightly higher compared to Q2 last year, as IT investments are higher this quarter. The CDD provisions in Q2 and Q4 relate to external resources only. In addition, these specific programs will require internal resources, which will be expensed when incurred. Alongside this, we see our running costs for compliance increasing further. Altogether, quite some cost headwinds from compliance building up.
In the right-hand chart, you see we have realized further cost savings of EUR 54 million versus Q2 last year, bringing total cost savings delivered since 2015 to a run rate of almost EUR 800 million. As you know, we target a total of 1 billion cost savings, and we're on track to reach a cost base of around EUR 5 billion by 2020. As Kees explained, we're working hard on further cost actions to mitigate general inflation and increasing regulatory and compliance costs. I will now hand over to Tanja to pick up impairments on slide 13.
Thank you, Clifford. Second quarter impairments are moderate, like Q1, and amounted to EUR 129 million, with a cost of risk of 18 basis points. In CIB, there were no material impairment charges for energy offshore and diamonds, reflecting our active de-risking. The charges in CIB were spread over several smaller industry sectors. For diamonds, we have further reduced our loan book by around 20% this year. CIB impairments were low, reflecting the healthy Dutch economy. The lower coverage ratio for mortgages is a result of the refined default definition for regulatory purposes relating to unlikely-to-pay traders. This led to higher stage three loans and, as a result, to a lower coverage ratio, but did not affect the portfolio quality. We reconfirm our full-year expectation of below the through-the-cycle cost of risk of 25 - 30 basis points. I will now update you on regulatory focus items on slide 14.
Kees already mentioned the more demanding regulatory environment, and I will update you on three other specific focus areas of the regulator. Starting with non-performing loan regulation. Although we are a low NPE bank, we are impacted by the new rules. The Pillar 1 or Prudential Backstop regulation came into force in April of this year and prescribes minimum loss coverage for newly originated non-performing loans as of April 2019. The ECB also published some additional guidance, which applies to loans defaulted after April 2018. We expect the combined impact of Prudential Backstop and ECB guidelines to have limited impact at first, gradually building up in later years. However, the supervisor expects us to phase in minimum coverage level for the existing stock of NPEs during the period 2020- 2024.
Separately, and following an ECB review, we took a supervisory capital deduction of around EUR 0.2 billion this quarter, ahead of the phase-in of NPE minimum coverage. During the phase-in from 2020- 2024, we estimate the annual impact to be of a similar order of magnitude. There are some uncertainties here, and we are working on mitigating impacts through restructuring, workouts, and loan sales. The NPE implementation will have a meaningful impact on capital generation, but should not materially impact our current strong capital position. NPE and provision reviews impact capital and so are relevant for Basel III, Basel IV, and leverage ratio. Turning to TRIM. TRIM is a regulatory assessment to harmonize internal RWA models. So far, we have included the impact of mortgages and market risk models. Currently, our corporate lending and specialized lending portfolios are in progress.
We have already included some add-ons in our RWAs reflecting preliminary feedback. We expect TRIM to be finalized in the course of 2020 with further impact on Basel III RWAs. TRIM and model reviews are a clear focus for us, the regulator, and our approach to capital management. However, they are not expected to materially impact Basel IV fully loaded RWAs, for which we are already well capitalized. Earlier this week, the EBA presented its response on Basel IV implementation using the quantitative impact study of European banks. The response remains close to a full and unconditional implementation of Basel IV. We remain comfortable with our Basel IV assumptions and approach. I will now hand back to Clifford, who will take you through capital ratios on slide 15.
Thank you, Tanja. Our Basel III capital position for the quarter remains strong with a CET1 ratio of 18%, excluding half-year profit, and well within our target range. If we had accrued half-year profit in line with the payout ratio of last year of 62%, our CET1 ratio would have been 18.4%. Compared to last quarter, the CET1 ratio, excluding half-year profit, remains stable, reflecting a decrease in RWA offset by the additional supervisory capital reduction. It's good to see CIB now operating around its targeted RWAs, excluding TRIM and model-related add-ons, reflecting the refocus. The legal merger between group and bank has been finalized, benefiting the leverage ratio, which is partly offset by the additional supervisory capital reduction.
As Kees said, we have a strong and stable Basel IV capital position at around 13.5%, again, excluding half-year profit and excluding planned mitigating actions. We are within our capital target range and expect to be well-placed to consider additional distributions above the 50% payout sustainable profit at full-year results. I would now like to hand back to Kees to update on targets.
Thank you, Clifford. Our financial results for year to date and Q2 are strong. Our returns are good, and our capital position is also strong. Our results reflect the benefit of our strict pricing discipline and our operational plans delivering. Going forward, our cost income ratio is under pressure due to both lower for longer, as well as increasing regulatory and compliance costs. Therefore, as said, I regard our 56%-58% target for next year as very challenging. We expect to operate at the low end of our ROE target range of 10%-13% while low rates persist. Our capital position and capital generation remain strong, and we are well positioned to manage the transition through TRIM and Basel IV. We recognize the importance of distributions to shareholders. We want our distributions also to be sustainable.
We announced an interim dividend of EUR 0.60, a 50% payout in line with last year's interim, and are well-placed to consider additional distributions on top of the 50% payout at full-year results. We are focused on our financial targets in this challenging environment. Before we go into Q&A, I would like to briefly recap the highlights on slide 17. As said, I'm pleased with our strong financial results and solid operational delivery this quarter. We remain focused on our financial targets. At the same time, we see headwinds from the economic and regulatory environment, and we are taking the necessary action, like further strengthening and extending our CDD remediation programs.
Finally, this quarter, I announced that I will not serve a new term of office following the end of my current term, which will expire in April 2020. I remain, of course, fully committed to further accelerating the bank strategy and pursuing our purpose together with our employees and clients in the months ahead. Now I would like to ask the operators to open the call for questions.
Thank you, sir. Ladies and gentlemen, we're starting the question and answer session now. If you have a question or remark, please press star one now on your telephone. Star one for questions or remarks. Go ahead, please. Our first question is from Mr. Robin van den Broek, Mediobanca. Go ahead please, sir.
Yes, good morning, everybody. Logically, first question is on NII. I think your EUR 20 million sequential drop per quarter implies roughly EUR 6.2 billion for 2020. I was just wondering if you could talk a bit about the assumptions that are underlying that guidance, and then maybe you can specify it on loan growth, Euroswaps curve, and margin expansion. During the IR call this morning, you highlighted that it assumes basically 20 basis points of ECB rate cuts going forward. I was under the impression that your replicating portfolio of EUR 185 billion basically is invested between the two- four years Euroswaps curve. I was under the impression that that gives most of the NII headwinds. Any confirmation there would be helpful.
Second question is on the AML KYC efforts you've done in the presentation. It seems that these are imposed by Dutch Central Bank. You also make a comment of potential fines. I was just wondering how comfortable are you on that specific case. Can you confirm or deny whether there has been any reviews into your operations over the last years, whether or not criminals have been able to abuse your system without your cooperation? Any comments there will be helpful. Thank you.
Maybe to start with as well.
On NII, we guided to EUR 20 million sequential reduction, as you say. The way we've done that is we've looked at our own views of future interest rates. We publish those as a bank, ABN AMRO. We compare that to the current interest rate environment, the yield curve, the swap curve that Kees showed on his slide. Those are pretty much in line. We saw rates coming down further through July. These views I've set out reflect our views broadly at the end of July, sort of now-ish. The ECB rate cuts that the market anticipates are reflected in our view of interest rates and also reflected in the yield curve going forward. Clearly, if that turns out differently, the yield curve will be different. We apply that yield curve to our replicating portfolio, as you indicated.
That results in a, call it, a smoothed impact on NII from declining rates. So the way we think about the headwind is the current five-year swap compared to the swap five years ago, divide that by five, and that gives you an idea of the annual impact. We've translated that into a quarterly net interest income figure to arrive at EUR 20 million per quarter. I'd make the point that that is an up-to-date figure. We talked about around EUR 10 in May, because interest rates were low then. They're just lower now.
So we think it's helpful to update it. But frankly, it shouldn't come as new news. What we're doing is being transparent on the indication of the impact on NII. We've assumed a flattish balance sheet for the rest of our loan book and asset margins broadly as now, and no benefit from possible tiering from the ECB. Things may turn out differently, but that should guide you to risks and opportunities in the NII figure I gave earlier.
Clifford, maybe one follow-up on that. I think in your non-maturing deposit presentation last year, you were more referring to the two- four-year Euroswaps kind of investment horizon. Now you're applying five years.
Yeah. The way we think about it, to simplify things, is a duration of around three. An average duration of three. Each year you have a maturing five-year swap from five years ago and then a new vintage that's struck today.
Okay. Sorry.
That should give you an idea of how that pipeline works its way through and consistent with our presentation of last year.
Thanks, Clifford. Robin, to your question around AML/CDD. Indeed, Dutch Central Bank did the investigations like they do also with other banks and did with us. As I mentioned before in private banking, actually already before the Panama Papers a couple of years ago and also in international corporate banking, we did this AML/CDD work already at that moment in time. We have intensified, as you know, in Q4 our work with respect to the credit card business we have and also Dutch corporates. The last portfolio is retail. Of course, we have an approach there, Dutch Central Bank and, of course, all the clients are in the transaction monitoring systems.
Dutch Central Bank wants us to do that quicker and different here and there. That's the reason why they have now told us to do that. We're discussing with them at the moment time frames. We have taken a provision of EUR 114. Also for transparency reasons, we've mentioned that a sanction, for instance, an instruction or fines and/or fines may be imposed by authorities. We have no indication about any fine at this moment in time and level, we cannot say more about that.
Okay. Thank you.
Our next question is from Mr. Farquhar Murray, Autonomous. Go ahead, please, sir.
Morning, gentlemen. Just two questions from me, both actually related to the NPE coverage discussion outlined on slide 14. The first question is, the EUR 0.2 billion in 2Q 2019 is clearly a capital deduction, could you actually be clear whether the outstanding phase components over 2020- 2024 are also capital deductions or instead an increase in the capital required, presumably under Pillar 2? The second question is, could you give any color perhaps around which books are driving the impacts we're seeing? Is it coming from low coverage, say perhaps the mortgages, or is it coming from longer vintage NPLs, say the diamond book? Thanks.
On your first question with respect to NPE and how that will be taken in the future, that is actually, well, still a topic of discussion. I think for now, the most conservative approach is to take it as a capital deduction. This may change over time when discussions develop further. Your second question was on Can you repeat that because that went very fast on NPL?
Basically, I'm trying to understand which books, in terms of loan books, are actually triggering these impacts. Is it coming from low coverage books such as the mortgage book, or is it coming from longer vintage NPLs, for instance, perhaps the diamond book? Thanks.
It's really across the board, I would say, and it's very much focused on our collateralized lending, where we are well collateralized and provisioning levels can be lower than in the end, well, the 100% after seven years of Prudential Backstop that we need to take. I would say it's more in the corporate space than in the mortgage space.
Okay. Thanks very much.
Our next question is from Mr. Raul Sinha, JP Morgan. Go ahead, please.
Hi. Good morning. Can I just go back to some of the issues that we've been discussing on the call? I guess firstly on the NII. Can you talk a little bit about what management actions or mitigating impacts there could be to this EUR 20 million r eplicating portfolio headwind. My understanding seems to be that is the headwind that you're getting from the replicating portfolio, and obviously against that, you've probably got some asset spread widening and higher market share. Could you help us think through how big the impact of those mitigating actions might be?
Yeah, I'll take that. We wanted to be clear on the impact of deposit margins, and that reflects the EUR 200 billion or EUR 185 billion portfolio that we have in respect to deposits. That's a big item. I think the elements that can mitigate that impact are volumes. Kees talked a bit about the volumes that we're seeing, and we're encouraged by our performance in the mortgage market at good margins. That in order of magnitude is a smaller figure. I think we need to be realistic about that in terms of volume growth, and we're also cautious about accelerating growth on the asset side at this point of the cycle. I think around margins is an interesting development because it's clear that margins on mortgages are much stronger now than they were during the last cycle.
Yeah.
We are pricing for our returns, and we'll only do mortgages if we see adequate returns. It's possible that the low interest rate environment, and the challenge on deposits is feeding through to price discipline across the market on the mortgage side. We're currently seeing benefits from that. We've also indicated opportunities around fees. The figures we've given reflect our view of the current market. If the market changes as the overall competitive position responds to low deposits, clearly we would expect to benefit from that. Lastly, costs. We've been consistent, and I think our track record shows that we remain disciplined on costs and our guides there maintained.
That's really helpful, Clifford. Can I ask a second one, please, on customer due diligence? Are you willing to put any kind of scale on the FTEs that might need to be added? Obviously, you talked about the challenging cost-income ratio for next year. You didn't talk about the below 55% aspiration. I think you had 2022 there. Obviously, that would also be impacted, I would guess, to some extent. Should we think of that still as very much a target? Thank you.
With respect to CI, I think I would say that they are both still targets, actually. We have not withdrawn from those targets. Of course, the 2020 is the most close by. As we mentioned, due to the developments, we see that as becoming very challenging, as said. The 2021 we mentioned on Investor Day, November last year. We also mentioned at that moment in time that was based on our, at that moment in time, existing economic and also interest forecasts. Those are, of course, quite different than today. We have not updated that yet, and it is still three years ahead, who knows. Of course, the interest environment is completely different right now. We have concentrated ourselves now on 2020. On CDD, your question, sorry, was.
FTE.
The FTE. Sorry. Yeah, we're working on that, actually. It's not so much a constraint money-wise. It's more that we want to add those people in a way that it is efficient and that they can do a good job and they're not there without being properly guided what to do. I would say a couple of hundred at least in the coming years.
Thanks very much.
Our next question is from Mr. Benoît Pétrarque , Kepler Cheuvreux. Go ahead, please.
Yes, good morning, everybody. Yes, on your NI guidance, I would like to talk a bit more about mitigations, especially around the pricing of deposits. Obviously, we are in negative interest rate environment. What is your view around pricing of deposits, maybe moving into negative territories on private banking money? We have seen many banks, or actually a couple of banks at least, moving into negative territories. Also, some very close competitors from ABN. What is your view on that? Will you consider that? I just wanted to make sure that is also not included in your assumptions.
Also, what will be the impact of, say, 20 basis points application of the tiering on your ECB money, please, on NI? That would be useful. The second one was on the NPE. You were working around mitigations. I was wondering if you could talk a bit more about the potential impact of the mitigation actions. Are you planning a more active or aggressive restructuring or even sales of exposure in the coming months? Maybe finally, just on the Basel IV. Where are you on the 20% mitigation around Basel IV risk-weighted assets? Thank you.
Thank you, Benoît. I would like to make one preliminary remark, and then please, Clifford, Tanja, if you want to answer the questions. We are cautious in communicating around rates. Because we once had a remark from competition authorities that they don't like financial institutions actually to guide too much around rates because, of course, your competitors also listen in these calls. That's actually why we are cautious with respect to saying we go into negative territory because that also gives guidance. Having said that, perhaps, Clifford, can you say a bit more about it?
Maybe I'll pick up some of the other points. I think on our general savings account, we still pay two basis points to retail. We lowered that from three to two, and that one basis point is about EUR 10 million per annum. I think in the private bank for very large balances, it's common practice in the Netherlands to pass on negative rates. If you have a look at websites, it's clear. That practice is already there. For professional clients or corporate clients, they pay negative rates already, so in CIB or the Commercial Bank.
It seems that-
Yeah. Go ahead.
It seems that clients with balances up to EUR 5 million also get two basis points at ABN, and I was wondering if this is correct.
Yeah. I'm not going to comment on particular threshold. I think I made the point that retail and general savings is two basis points, and I think I used the word very large clients. Maybe we're thinking about different numbers here, Benoît.
Okay.
It's an exception, I think, on the private banking side currently. On tiering, I would note that we have EUR 30 billion balances with central banks currently. I think you can do your own numbers. It's not clear on what rates would apply to what balances in particular.
If at all.
If at all, indeed. I think work that out, the numbers are disclosed in our 2Q report. On Basel IV, our approach to mitigations, we've indicated 20%, as you say. As and when they're delivered, we reflect them into our estimate of our current Basel IV number, and that number, we haven't given the number actually at Q2. We said it was around the year end at 13.5%. Our current figure includes, say, quite a small element of mitigations that's moved from a kind of an opportunity to a fact. In fact, our list of mitigations continues to build as we get more experience and time to study it.
I would say, broadly speaking, that 20% remains intact. The comment, I think Kees mentioned this, of our Basel IV being unchanged from year-end is excluding retained earnings. We gave that figure to be around 0.4 in respect of Basel III. It’ll be around that, a little bit lower for Basel IV. You can see we’re really quite comfortable under Basel IV currently.
Tanja, NPEs.
Yeah. On NPE. Yeah, as you said, we are working on mitigating actions. We are already working on the velocity in our NPE portfolio through normal workouts, but also loan sales and portfolio sales. You've seen that in the past already. I don't expect any extraordinary actions at this stage because you need to remember we are a low NPE bank with 2.3% in Stage three. These are low levels which we are comfortable with.
Thank you very much.
Our next question is from Mr. Benjamin Goy, Deutsche Bank. Go ahead, please.
Yes. Hi, good morning. Two questions, please, from my side. First, on impairments, would you call for the offshore energy and diamonds book, basically, the worst is behind us, and that we shouldn't expect any hiccups in H2? In light of that, Stage three loans are down on the corporate book, but Stage two is up. How is the outlook here for H2? Secondly, on fees, you mentioned the EUR 400 million run rate in the near term. Just maybe you can remind us what are the key initiatives that we should expect to first pick up and drive fee income growth from this level. Thank you.
Thank you, Benjamin. Tanja first, impairments. Clifford, please.
Yeah. On the impairments, we have definitely de-risked in the sectors that you mentioned, so offshore energy and diamonds. We still focus on these sectors. These sectors are still under pressure. I don't say that we don't see anything anymore there. The risk has definitely reduced. You ask a question about Stage two and our corporate loans. Indeed, I think I mentioned that last quarter, we see a little bit that the watchlist is slightly increasing. We don't call that a trend, but you see some pressure given also the slowdown that we see in the economy. It's a slight increase.
My comment on fees, they're around EUR 400. I think I mentioned one month of Stater is EUR 7, three months is around EUR 20. We're seeing some rebasing of fees to around the EUR 400 million. I'll just quickly run through fees across the businesses. All our businesses are focused on fees for different reasons. To give some examples, in the retail bank, we launched actually a week or so ago, our originate to distribute proposition for 30-year mortgages. That's new to the bank and we're optimistic about that making a meaningful contribution. I think in the private bank, we saw positive net flows in Q4, sorry, in Q2, and some recovery of the market. We've obviously seen a sell-off back in July, but our fees are struck generally at quarter end for the next quarter or six months. That will help in the short term.
Then we expect to see the contribution of our acquisition of Société Générale Belgium business, and further acquisitions should we do those in private banking going forward. I think on the commercial bank, Kees gave an example of a partnership that we're pursuing. Those are examples of fee-generating propositions. The commercial bank has already commenced originate to distribute. To get an example on the commercial real estate side. Where we see the market perhaps a bit at the end of the credit cycle, and we're concerned about our own risk appetite. We take the opportunity to use our platform relationships to originate assets, earn fees in partnership with another financial institution.
We're looking to do that in a more meaningful way in the corporate bank, where we've been building our capability over the last few quarters. I think I'm quite pleased with that and see a considerable potential to do that over the next few years. That'll come through slowly, but build up over time over the next few years. That should give you a flavor of the sort of momentum that we have on fees, where there's a lot of work going on, and that will come through over the next number of quarters.
Okay. That's helpful. Thank you. Just one follow-up. The Stage two increase was rather broad based on no specific sector or anything.
No, we don't see any trends in specific sectors.
Perfect. Thank you.
Next question is from Mr. Stefan Nedialkov of Citi. Go ahead, please.
Yeah. Hi, guys. Good morning. It's Stefan from Citi. Two questions on my side. Number one, starting with NII. Front book versus back book margins, if you can provide some color in terms of mortgage lending, corporate lending. What you're seeing in terms of the alternative mortgage providers. Are you more focused on the shorter end still? Are you seeing pricing discipline across the whole curve or only at certain points? The second question is on the NPE capital deduction.
In terms of the tools at your disposal, is it fair to think that you might be able to find some firepower in extra delivering in the CIB business beyond the EUR 5 billion of reduction that we have already seen? Maybe some other businesses are still quite low returning, especially in the current low-rate environment. Could we see a bit of RWAs taken out of that to offset the NPE capital deduction over the next couple of years? Thank you.
Right. Cliff, on NII, please.
I think we're pleased with our margins on the front book of mortgages. They picked up a little bit, and that has allowed us to improve our market share. I wouldn't call out particular segments, as we price to deliver our hurdle rates with very little cross subsidy. We can speculate on the reasons for that. We're seeing good margins in that area, and the overall margin of the book is pretty constant quarter-on-quarter. That's true on the corporate side. I think on CIB, we're seeing decent margins because we are refocusing. On the SME side, I think we're just cautious about some of the end-of-cycle behavior. We're seeing some evidence of weakening terms, financial and non-financial, and we're staying disciplined and our margins are, I would say, broadly consistent with the back book currently. I think on NPE, do you want to comment on that?
Maybe a few comments on that. First, it's important to know that the current RWA reduction that we are doing, we use a risk perspective there as well. We look at the higher risk segments in that RWA reduction exercise. Secondly, it's important to consider as well in terms of the impact of NPE that, well, this mainly impacts when NPEs get quite old, so say over seven years. You see that happening more at the smaller end of the portfolio. Think about CB as opposed to CIB, where we have more mitigating actions available. That's something we take into consideration as well when looking at our portfolio.
Can I just comment on the RWA reduction in the corporate bank, because I think Stefan, you mentioned, is there scope to reduce it further. I think we're pleased with the actions the corporate bank has taken to date. We've delivered on our target that we announced last year. We'd like to see that stabilize around that level. You've seen already, I think some benefits of that action already coming through in terms of the ROE, it's picking up. I think we're pleased with that. I don't expect or plan for further material reductions from here. We want to see the benefits of the refocus taking place, the cost reductions coming through, as well as the improvements in the operating model that I alluded to earlier. We're pleased with the progress that that business is taking currently.
Okay, great. Thank you very much.
Our next question is from Mr. Nick Davey, Redburn. Go ahead, please.
Good morning, everyone. Three questions, please. The first one, there's been a couple of passing comments about looking again at costs or thinking a bit more about costs. I appreciate you're sticking to the EUR 5 billion of cost guidance when compliance costs are rising. I just wondered if you had, in the calendar between now and the end of the year, a more formal revisiting of the cost plan in light of the bearishness on revenue, or if it was just a bit more of a generic comment. The second question, please, on market share trends in the Netherlands. I take your point that over time you've been aiming to get back to a front book market share in line with the back book. If we take as read your NII guidance, you're talking about 4% NII decline next year.
My question would be, in that kind of a terrible margin environment, why care at all about market share? Why not do absolutely everything you can on price to protect the P&L, and worry about market share later? The third question would be just around the language on dividend, which in the outlook statement is retained, and you still see yourselves as well-positioned to consider payouts above the 50%. Obviously, there is then now this comment about potential sanctions on the KYC element. Did you review the dividend language into this quarter? I know it's early in the year to be thinking about this. I just wonder, A, how long this retail review might take, and B, what it would take for that dividend language to be changed, if at all. Thanks.
Clifford, if you can do the cost, I can do the market share and the sanctions.
Okay. I think on costs, all I can say there is that we set out our cost plans at the November Investor Day, and that our approach to cost management is a continual focus on consistent improvement. I think don't expect big bang announcements in response to one quarter's reduction in interest rates. We are focused on our financial targets. I think Kees indicated there we're challenging. We also said that we're working hard on cost discipline, and I think that's the behavior you can expect going forward, which is a sustained approach to, I would say, optimizing costs. Not big bangs.
Yeah. With respect to your remark about focus and decline, NII, and then market share discussion around mortgages. Indeed, the decline around NII is, as Clifford explained, driven by deposits and replicating portfolio there. With respect to, I would say the asset side, it's more that volumes. With respect to volumes and margins, we more or less expect a flattish development in both ways. Our largest portfolio is mortgages. Mortgages in the second quarter, and Clifford mentioned it already, we were able to both, because we're not predominantly market share driven, as you know, because we had a market share more than a year ago, which was 20, and we went down to 14 due to discipline. Our drive is, can we make hurdle? We stay disciplined on that.
What we've noticed now in Q2 is that we can both improve our margin. Our margin on new production in the mortgages in the second quarter was higher than the margin in the first quarter, while also increasing market share from 14- 17, while we expect that trend actually to continue in the third quarter. That shows you that we are able to both increase, at this moment in time, of course, no guarantee for the future. At this moment in time, we work from a disciplined approach, make good margins, and then the market share is more or less a result.
Of course, we are happy when it increases because in the second quarter now our mortgage book increased compared to a decline in the first quarter. I hope that gives an answer to your question. With respect to dividends and the language around being well-positioned, that language has not changed yet due to the sanctions remark, because we do not know anything about that at this moment in time.
Thank you very much. Any idea of timing of the retail review?
No, not really.
Okay. Thank you.
Our next question is from Mr. Bart Jooris, Degroof Petercam. Go ahead, please.
Yes. Hi. A lot of my questions have been answered. Some follow-up here. Today it was announced that the DNB expect banks to look at also clients that have legal tax avoiding schemes in place. Do you expect any further impact on that regarding your KYC CDD costs? Could you give us a reason why the DNB asked you to speed that up? Is that company specific? Is that sector specific? On impairments, you made a lot of comments on the worsening outlook of the economy. Do you have any IFRS 9 impact already in your second quarter impairments, or do you expect any in the remainder of the year?
Thank you. Thank you very much. With respect to legal tax avoidance, our already for some time stated policy is that, of course, tax evasion is not allowed anyhow, but that also with respect to legal tax avoidance, that we are discussing with clients that we like them to have a tax treatment around the products they have from our bank, which is in line actually with that product. Put it differently, all kind of fancy structures around it, well, we're not so fond of.
So we discussed that, and that's part of our, actually, I would say our tax policy as a bank. It is also, by the way, one of the metrics which we take into account with KYC around clients' tax behavior. With respect to, is this company or sector specific, yeah, it's Dutch Central Bank. Dutch Central Bank focuses on banks, of course, and insurance companies. They do not make remarks about companies.
Yeah, sure. The fact that you have been asked to speed up the review of your retail clients, is that something that is especially for you or does it also take place at ING, ABN?
No, we don't know, because we have now been transparent about our case. Actually, we don't know about other banks.
Okay.
Okay, and then your question on provisioning levels, and I think, hey, you explicitly refer to IFRS 9 Stage two provisioning. Well, as I mentioned, we see some slight increase into Stage two, but the provisioning level there is with EUR 179 million. It's a limited amount. Maybe it will increase somewhat based on more negative outlook, but I don't expect that will be significant in 2019.
Okay. Thank you very much.
Our next question is from Mr. Jean-Pierre Lambert, KBW. Go ahead, please.
Yes. Good morning, everybody. Three questions, please. The first one is on the actions you can take on the deposit front. You sold some Moneyou activities in Belgium. Can you sell in other countries? Is that under consideration? What is the sensitivity of those sales in terms of NII impact? The negative rates, what are the pockets where you don't apply yet negative rates to your clients? Is it in clearing or is it in other areas? The second question is to come back on the cost actions. You referred in the past to standardization, which is a slow process, standardization of products. Can you accelerate that or undertake new action? The third one is more general on Brexit. You say you're ready. What do you mean by that? What could be the impact on your loan portfolio according to your simulation? Thank you.
Thank you very much, Jean-Pierre. Well, questions for you, Clifford, and perhaps the Brexit one as well as a U.K. citizen.
Yeah. I'm ready for Brexit. Got my passport. On the actions on deposits, you're right to focus on that Moneyou Belgium. That was a strategic decision, also a financial one. That's basically a deposit franchise. In Moneyou, we pay a deposit rate, not just in Belgium, but elsewhere, Germany, the Netherlands, because that's the nature of that particular business. If we no longer have those deposits, we look at the opportunity, where would we get that funding elsewhere? Wholesale, certainly short term is negative, as we've discussed. There's a P&L benefit from that. We'll disclose more about that in Q3 when we expect that to close. It is quite small, but it demonstrates some of the things we've been thinking about. I think we still pay deposit rates on Moneyou, and that's our online bank, and it is quite sensitive.
When rates come down, and we have pulled the rates down quite recently, you tend to see outflows. At least from a financial point of view, that's a win-win. We need to have regard for the franchise there, but we have been pulling that particular lever. See further scope to do that. I think on negative rates as of today, as I mentioned earlier, we pass on negative rates in our corporate bank, in the commercial bank, not all clients, but certainly the very large ones, the more wholesale related clients. In the private bank, I would call it on an exceptional basis or for really very large balances.
It's not something that we do generally, and it's not something I think that's generally applicable currently in the Netherlands. I think on Brexit, actually, I might ask Tanja to comment on Brexit. I don't know if that I think you would [crosstalk] I think the questions are readiness.
Yeah.
I've said I'm ready.
Yeah, you're ready. I think that the bank is well prepared as well.
On portfolio. Yeah
In terms of our activities in the U.K., have the right licenses to continue. We are prepared for that. The question is, of course, what does it mean for the overall activities in the Netherlands? We expect that it will mainly be a second-order effect. We have carefully worked with our clients that have direct exposure to the U.K. to see whether they are well prepared and if we have concerns, we have put them on the watchlist in the meantime.
I'm most concerned about the second-order effects in terms of slowdown of economic growth throughout Europe and also in the Netherlands. Of course, we are always prepared for that. We have for the most vulnerable sectors to a downturn, we have limits in place. You need to think of leverage lending, for example, or commercial real estate, where we always focus at making sure that we can deal with the downturn as well.
On the cost actions perhaps as well, I was asking about standardization, which is ongoing. It’s a slow process, but can you accelerate or involve more segments into that process?
Yeah, I think call it slow. It's a steady process. We've made progress and we expect to make further progress over the next few quarters, that underpins our approach to cost management. It was factors such as that that was behind our guides regarding costs. We continue to make progress in that area. I think I give an example of KYC, which we're doing across the bank in one centralized unit to get the benefits of consistency and effectiveness. We see plenty of scope to do that across the bank, and you'll see that. That's steady work that will take a number of quarters to come through.
Great. Thank you very much for your answers.
Our next questions are from Albert Ploegh, ING Bank. Go ahead, please.
Yes. Good afternoon. It's two questions from my end left. First of all, sorry to come back to the remarks on KYC and the potential for fines and sanctions. I know this is a sensitive and difficult topic maybe to give comments on, should I see the comments on fines in the context of what you already know and expect today potentially, or is this more a general risk statement ahead of the actual retail clients review in the Dutch portfolio? That's my first general comment on that, question on that. The second one is on capital management and the language around dividend, which was also earlier asked, maybe from a bit different angle. It's clear that banks like yourselves that are strongly capitalized or preferred by the regulator to take as much as possible off of any front loading of any changes in capital regulation.
We also hear what you say today on the near-term outlook for earnings, which effecting this stayed away, this likely lower earnings next year than this year. How should I read your comment on being in a position to pay more than 50% payout and the remark on sustainable distribution? Should I see that more in the context like that you're aiming for something like in a kind of stable absolute level dividend of EUR 145 compared to the last two years, which already requires you to pay more than 50%? Any comments on that? Again, that's already a very attractive yield level compared to where your stock is trading today.
Thank you very much, Albert. With respect to your first question, we just don't know about fines. That's the reason why we cannot say anything more about that. If there will be a fine and if so, the amount, we just don't know. We cannot say anything about that. With respect to capital management, indeed, as we also mentioned in our press release, that on the one hand, the message is clear that we are well-placed within our capital range and expect to be, or we are within our capital range or and expect to be well-placed to consider additional distributions above the 50%. On the other hand, we also mention indeed the interest of the regulator in this area. Of course, already a lot has been mentioned around TRIM, NPEs a lot is mentioned.
It's a TRIM, it's a Basel IV, it's models which will relate to TRIM, but also NPEs. There's a lot around and regulator is also very much interested in that. Of course, also when there is a lower for longer environment, they also take that into account. Of course, we also take that into account. Our policy is actually this 50%, and at the end of the year, we want to do more. As mentioned, we think we can do more. Last year, indeed, it was worth EUR 145, which was the same as the year before. Yeah, of course, we don't ever mention the words sustainable dividends. Actually, that is something, of course, when profits go up and down really seriously, then of course, that is something you have to reflect in your dividend.
As last year, we decided indeed to do the 62% at EUR 145. Yeah, we cannot give guidance at this moment in time for this year. We will take everything into account, our forecast around earnings. We engage with the regulator about capital, and of course, the NPE calculations we have right now, and take that all into account and then decide on the dividend.
Thank you. That's clear.
Our next question is from Johan Ekblom of UBS. Go ahead, please.
Thank you. Just two questions remaining from me. First, coming back to the mortgage market. When we think about the new originate to distribute 30-year mortgage product, should we view that as kind of incremental business that wasn't open to you before, or would you expect there to be cannibalization on your existing business from that? Should we expect that to have an impact on balance sheet mortgage volumes? The second question is just quickly on the retail banking fees. Had quite a strong pickup in the quarter. Anything in particular driving that? Is that a temporary effect, or is this kind of new fees introduced to counteract the negative margin headwinds?
Okay. Thanks, Johan. With respect to the originated distributed mortgages, I would say it's on top because 30 years we have very Well, we don't do actually a lot of business there, almost nothing. This will be on top. Will not be on our balance sheet because we will offload it via the originate-to-distribute . It just generates fees. Of course, we get in clients, so that's good. Retail banking fees, we increase the payments for accounts. That's a structural increase, I would say, on the retail side.
Just to follow up on the 30-year mortgage product. When we think about the revenue stream from that, is that a one-off upfront fee that you will book, or is that something that you will amortize over the life of the mortgage, so it'll be very small volumes to impact to begin with?
Okay. Clifford?
It's market practice to charge origination fee and then a servicing fee. There'll be some booked up front, like a general facility and then ongoing fees. It will take time. If you work through the numbers, I'm not going to disclose our pricing, but it'll take time to build up. It's more of an annuity income in the 30-year, given they expect the loans will be in place for many times. The idea would build up over time. I think it's a pretty modest contribution to 2019 in terms of fees, but then builds up over time as the vintages of loans build up.
Thank you.
Our next question is from Ms. Giulia Miotto, Morgan Stanley. Go ahead, please.
Yes. Good morning. I have two questions on two hot topics. I want to go back on the replicating portfolio, please. If I understood you correctly, the way you came to this EUR 20 million quarterly impact is by looking at five years swaps five years ago, five years swaps today, the difference, and then the impact on about EUR 180 billion of replicating portfolio national. If I look at this, however, I get a much higher impact because the five year swap five year ago was one percentage point higher. Can you help me clarify that? That's my first question.
The second question, on page 30 of your report, and this is related to NPE, I read that during the phasing period, so 2020-2024, you estimate the annual impact to be of a similar order of magnitude. Now in this quarter, we saw a 20 basis points impact. My question is, does this mean that you expect 20 basis points impact per year going forward related to this, or what does this mean exactly? Thank you.
Okay. I'll pick up those two. The way we derive the EUR 20 million guidance was actually based on a full analysis of the yield curve of the dynamics of our portfolio. That's how we derive the EUR 20 million per quarter. I think the example I gave of the five-year was a simple way of understanding it that makes a number of assumptions. I think we're happy to take this offline, your figure of 100 basis points is about right. Given it's a five-year replicating curve, that will have a 20 basis point impact.
Then you've got to work through the quarterly impact, because all the numbers we've been talking about are per quarter and sequential. If you work that through based on the numbers actually that you've indicated, you get to about EUR 20 million. We're happy to pick that up offline. I think just the short answer to your NPE question is yes. We haven't given numbers going forward. We've said around that order of magnitude, but the EUR 0.2 billion is a little under 20 basis points for 2019.
Right. Okay. On the second question, you expect an incremental 20 basis points negative impact on capital from NPE per year over the next four years, and this is both Basel III and Basel IV?
Well, yes and no. We said a similar order of magnitude. We don't want to get locked into.
Yes. Okay. I don't want you to 20 bps exactly, just order of magnitude.
No, we said we were going to mitigate, and Tanja gave guidance on. We expect some further clarification of the rules here. We're giving you order of magnitude capital impact, and I think we'll leave it at that.
Okay. Thank you very much.
Thank you.
Our next question is Mr. Kiri Vijayarajah HSBC, go ahead, please.
Yes. Hello, everyone. A couple of questions on the capital, really. If you're seen to be generous with the dividend, do you worry that you could potentially get hit with a heavier fine? I know you can't give much visibility on that. Is that something we should worry about, or in your mind, are those two very separate issues? I'm just wondering on the leverage ratio, you're showing a pro forma of nearly 5% leverage ratio. I wonder, does that alter the way you steer your balance sheet, maybe go after some of the more leverage-hungry business lines within CIB? Thank you.
Thank you. With respect to dividend, we guide given the knowledge we have around the fine, which is actually not much. The moment we know more about that, we will, of course, also look into our dividend in the end of the year. It will be this year. If the fine will be this year. If there will be a fine, and if it will be this year, then we will take that into account, of course, and if we have new knowledge about it. At this moment in time, we have not taken it actually into account. With respect to leverage ratio, no, this 4.9 is actually a 2022, I think, or 2021-
2021
2021 figure. That is a pro forma figure. Regulator does not work with that at this moment in time. We just show you that we're well-placed going forward. At this moment in time, we cannot use that figure with respect to regulatory approach.
Just building on that, we got the benefit of the legal merger.
Yep.
You see that we haven't just added it straight on because we've reduced some of the constraints on those businesses that are good ROE, but a little bit more leverage hungry, as you say. I think one of the challenges of excluding interim profits is that it's depressed the leverage ratio through this year, but we'd expect it to pick up next year as retained profits really strengthen that ratio, and that will free us up a little bit to think about some of those opportunities that you just mentioned.
Yeah. Good.
Got it. Thanks.
Our next question is from Mr. Tarik El Mejjad, Bank of America Merrill Lynch. Go ahead, please.
Hi. Good morning, guys. Just a couple of questions, please. First one on costs. The EUR 5 billion target, I really struggle to understand you keeping this target or guidance. You indicated that the changing cost income was driven by obviously pressure on revenues, but also higher compliance costs and IT in this quarter. How you manage to offset this? I think someone asked the question, but I wasn't clear about the answer, really. Don't you think the EUR 5 billion is at risk?
I think Clifford said you don't expect anything big to be announced, but shouldn't you announce something because really you need to maybe do some more efforts to offset revenues pressure than you expected a few quarters ago. The second question is on capital. The EUR 200 million capital reduction or 20 basis points, that's for CET1 ratio but also for leverage ratio. Is that correct to think that on a pro forma basis for leverage ratio, you will be at 4.1% today if we assume around 20 basis points impact? Is the topic of leverage ratio being low is not back again? Thank you.
Clifford?
Yeah. Well, we're very careful about what we say publicly about targets and guidance, as you'd expect. We've indicated, or Kees indicated, that the cost income ratio is challenged, and it's primarily challenged because of income, not costs. The cost guides of EUR 5 billion is on track, that we've said. We announced that through last year. We're on track for that. While we see incremental cost inflation coming through, we are confident enough in our cost actions to indicate, look, in the round, we're on track for EUR 5 billion. I think the fact that we've been clear that we provided for the client CDD costs.
There will be some further intel costs. Clearly, we've booked those costs. We've booked a chunk of it in Q2 and Q4 last year. You don't need to book it again next year. We're comfortable with our EUR 5 billion guidance. We're comfortable retaining our targets, recognizing that the cost-income ratio target is challenging. I think on leverage ratio, the 4.2 already reflects the capital reduction that we discussed earlier for 2019. That's already in the 4.2.
Yeah, I understand that. For the 2020-2024 period, since you basically give us a pro forma, including all the CRR and all the positive, is it fair to put also the negatives, which is potentially 80 basis points or?
Yeah. We also don't include future retained profits. I think we've been transparent in our disclosure, and you can draw your own conclusion.
Thank you.
Our next question is from Ms. Alicia Chung, Exane BNP Paribas. Go ahead, please.
Good morning, everyone. Just a couple of quick questions from me. Going back on the capital, taking up a little bit of level. Is it fair to say now that you have pretty much guided to, and to some extent or another, quantified all the key regulatory headwinds going forward that are known so far? We can, in a sense, feel comfortable and draw a line under that. Are there any other capital headwinds that you see on the horizon, even if it's difficult to quantify right now? I suppose I'm specifically thinking about the ECB guidelines on the definition of default and what the implications could be for ABN, or indeed anything else. Going back to the fines regarding the customer due diligence processes. Can you just give a little bit of context around what was driving this?
Is it the case that the authorities have actually uncovered suspicious transactions, or are they just a little bit unhappy with the processes, but they haven't uncovered anything specific? If they have uncovered any suspicious transactions, can you quantify how many? Can you also give a sense of which authorities are investigating it? Is it just the DNB or any other authorities, and is it fair to rule out a criminal investigation at this stage? Thank you.
Cliff, can you start with capital?
Maybe I will take that one, given that it's related to definition of default. Maybe first to stress that a new definition of default does not change our risk profile or expected loss. It will have some impact on the numbers, but we will have to review our models to calculate RWAs. That's something we plan for, and that will be included. At this stage, I don't expect that this review and recalibration of models will have an impact beyond what we see as the impact for Basel IV. As to your question, do you see any other headwinds coming on capital? Not at this stage.
Right. Thank you.
Thank you. With respect to the fines, your question about that, and about transactions and the likes, it has been an investigation, as said, around our operating of especially how we have our client files in place so that we, for instance, understand how well an account is being used in retail or also business transactions. That is one part of the investigation. I do not want to actually come to that investigation with respect to all the report we got. It is just that they have now told us to remediate files. As I already mentioned, in the transaction monitoring, we have all the retail clients at this moment in time.
Well, they are there, of course, but files should be done in a different way to get a better feeling also around the clients and their risk profile actually. The authorities, your question. It is Dutch Central Bank and the prosecutor. Both authorities are possible here. We are, well, to the best of our knowledge, not part of a criminal investigation. As said, we have not spoken with prosecutor or something like that. Thank you.
Thank you very much. If you don't mind, just one more question. Just going back to your NII guidance and just trying to understand a little bit around the flex around that. Obviously, you've given some helpful views as to the potential mitigating impacts. One other question. If rates stay the same past 2020, so we see no change from here, can we expect further pressure on NII for a while afterwards, or should we expect to see stabilization in 2021? Thanks.
Yeah. Look, I think we've guided for the next few quarters. I think the best way of doing it is to look at the five-year swap rate over the last five years, and you can see the movements five years ago, and that will give you a guide. We see some flattening. I don't want to speculate further about when or if rates might pick up.
Okay. Thank you. Very clear.
Our next question is from Mr. Omar Fall, Barclays. Go ahead, please.
Hi, good afternoon. Three questions. At the time of the Investor Day last year, you said that the vast majority of the CIB loan book matured by end of 2022 or 2022, I believe. Could you square that with the fact that you expect such a long-dated phase-in of the NPE review, to 2024, when this is presumably mainly coming from the CIB book? Were you excluding the NPE specifically in that comment at the time, or is it just that at the longer duration, the bias is more to CB assets, to commercial banking?
Secondly, could you just tell us what the stock of surplus deposits is at the ECB today? Lastly, sorry to come back to the question on CDD, but I don't think it was answered. Very simply, have you or the regulator actually found any evidence of historical wrongdoing through the networks by certain actors in any of the business lines? Thank you.
Tanja, would you.
Yeah. First, the question on NPE. The phasing period is based on when assets hit this seven-year point being longer as an NPE. This is indeed a mix of mainly CB and CIB, and to a much lesser extent, as I mentioned already, the retail portfolio. Yeah, some assets in CIB are longer dated, so will be later in this phase in, others will be earlier, but it's indeed a mix of CB and CIB. I don't see an inconsistency with the guidance at Investor Day.
Got it.
Yeah.
Just on the cash balance. I think it's in the quarterly report as around EUR 30 billion with the central banks. Now, tiering may or may not apply on all of that. You'll have to draw your own conclusions regarding possible tiering.
Sure.
With respect to the last question, what the instruction of Dutch Central Bank with respect to our bank presumably will become, because as said, we don't have it yet, but we expect it to come. It's concentrated on having files of all our retail clients better in place than we have them right now. That's concentrated on the files, Know Your Customer, understand what they're doing with the accounts, and have the profile in place so that you can also do better transaction monitoring on top of that.
Understood. The answer is there is no historical wrongdoing. It is a process issue.
If we can say something about wrongdoings and the regulator coming with a final decision on that, we will of course, communicate about that.
Thank you.
Our next question is from Mr. Jason Kalamboussis, KBC Securities. Go ahead, please.
Yes. Hi, just a very quick question. Is it fair to say that with all this process with the regulator, that does mean that any even bolt-on M&A should be off the table for now? That would be my conclusion, but if you could confirm. The second thing for the diamonds, Tanja, you mentioned - 20% in your exposure. Is it fair to say that the exposure should be around EUR 600 million?
Thank you for the two questions. I'll start with the first one. We have mentioned bolt-on M&A. It's not off the table, but of course, when we do a thing like that, we of course have to look into that carefully, execution-wise and the likes, where in the bank it's happening and so on. Secondly, Tanja?
Yeah. On the diamonds, it is indeed reduced by 20%. The total exposure is somewhat higher than what you mentioned. I think you probably have in mind a different number. I do not recognize the EUR 600 million, actually.
Could you give us an idea where it is?
I think we don't disclose the exact number. That's not something I have at hand at this point.
Okay. Thank you.
Our next question is from Mr. Pawel Dziedzic, Goldman Sachs. Go ahead please, sir.
Hi. Good morning. Thank you for the presentation. Two clarifications, if I may. First, do you see a scope for cost to drop below EUR 5 billion in 2021? I wonder, given all your comments as to where the cost base will go. Related to that, if we take again on board all your remarks today on NII headwinds, run rates for fees, et cetera. Do you see yourself being in a position to improve operating efficiency beyond, let's say, 2020? We should expect cost income to be broadly flattish in the lower for longer rate environment.
Then a clarification on the provisions that you took on KYC this quarter. Can you give us a sense exactly what they relate to? Are those only external costs related to the incremental review or anything else is within that? Does it capture in any way the costs of this CDD ramp up, the several hundred of employees that you plan to hire over next years? That would be very helpful. Thank you.
Yeah. Thank you. Second question, the answer is yes, it's external cost, includes the couple of hundred increase. The couple of hundred increase, by the way, is internal and external. It's external cost, and it's only related to this retail operation. With respect to cost, Clifford?
I think I don't want to give fixed guidance regarding costs, but what I can say is that we're working hard on costs. The KYC investment is going to be there for, I would say, a few years, but not in the long term at this sort of level. We see plenty of scope for further cost efficiency, and I think I'd highlight our presentation in November and our recent IT event for the sell side where we talked about hitting the sweet spot of 12%-13% IT costs and so on. We feel positive about further scope for cost reduction over time, but we need to recognize there's some near-term headwinds that we're having to deal with.
That is in the interest of safeguarding the bank and managing it sensibly in a tough regulatory environment, but also, I'd say, a volatile economic environment. We don't want to whipsaw the business because rates went down in a month. What we want to do is manage the bank in a sensible way over time to safeguard the franchise and deliver on the profitability targets that we've indicated.
Thank you very much, Clifford. I think we're ready. I think there are no further questions I understand, operator. It's also 12:30. I would like to thank you all very much for all your questions, and conclude actually now our Q2 results update. Thank you again, and goodbye.