Good morning, everyone, and welcome to Westpac's first half FY26 results briefing. I'm Justin McCarthy, General Manager, Investor Relations. Before we commence today, I acknowledge the traditional custodians of the land in which we meet. For us here in Barangaroo, that's the Gadigal people of the Eora nation. I pay my respects to elders past and present, and extend that respect to all Aboriginal and Torres Strait Islander people. Pleased today to be joined by our CEO, Anthony Miller, and CFO, Nathan Goonan, and after the presentation, we'll have time for Q&A. With that, over to you, Anthony.
Thanks, Justin, and good morning, everyone. I'm pleased with our progress this half, and we're starting to see operating momentum build across the bank. This was reflected across a range of metrics. Lending and deposits grew, operating expenses were lower, while asset quality improved. In consumer and business, we delivered double-digit growth in transaction account sales. Better service quality and productivity have helped to shift more new lending toward proprietary channels. In institutional, we've continued to build deeper relationships with clients and support their growth. We maintained our robust balance sheet and capital position, providing stability to help support our customers, our people, and the broader economy. This strength gives us the flexibility to navigate uncertainty and keep investing to execute our strategy. With a clear strategy, we're working to accelerate the speed at which we deliver. We are simplifying the bank, improving productivity, and reducing complexity.
While momentum this half is encouraging, consistency in service and performance is critical to achieve our goals. Conflict in the Middle East is having a broad economic impact that will test the resilience of economies, businesses, and households. We are now expecting a more pronounced slowdown in the Australian economy this year as energy supply pressures flow through to higher and more persistent inflation. Fuel supply constraints have begun to drive higher input costs for businesses and weigh on real household disposable income. This will create a more challenging environment for some customers, which is reflected in our base case provision scenario and a new portfolio overlay for energy-intensive sectors. In times like this, customers look to their bank for confidence. Supporting our 13 million customers through the cycle is a responsibility we take seriously, and we're ready to provide practical solutions to suit their needs.
As a strong and stable bank, we are well-placed to support the economy as conditions evolve. Recent events have shown that while we cannot control global shocks, we can influence how sharply they land here at home. Australia is an attractive destination for capital and talent. There's more we can do to improve competitiveness and living standards. Addressing domestic challenges and unlocking productivity requires bold, coordinated action across government, regulators, and the private sector. Areas we believe require greater emphasis and investment are energy security and the climate transition, housing affordability, and regional prosperity. We are ready to direct capital to sectors and projects that strengthen the country's global competitiveness and protect national interests. Turning to customers' financial position, last year we saw economic growth strengthening as inflation returned to target range and interest rates began to ease.
Household disposable incomes were higher, supported by tax cuts, moderating inflation, and lower interest rates. Corporates were also in a position of strength, with leverage close to 2-decade lows. Overall, our data highlights the resilience of our customers, and this is reflected across our book. The proportion of customers ahead on mortgage repayments has risen to 85%, including offsets, while in business we've seen materially stronger cash flow conditions with balance sheet buffers approximately 20% above pre-COVID levels. Looking at the current environment, we've seen only a modest decline in operating conditions. Since the start of the conflict, the average income to expense ratio for business customers has edged lower and overdraft utilization is up just 2 percentage points. Conversations with customers indicate an ability for businesses to pass on higher input costs.
For example, I was speaking to a major fuel distribution customer who has adapted by adjusting pricing and other conditions in their customer contracts to manage cost pressures and keep supply moving. The consequence to this is that more of the burden, at least initially, looks set to be borne by households. Our card data shows consumers brought forward spending amid supply concerns. An additional 200,000 cardholders purchased fuel in March who had not done so in February. Not surprisingly, overall consumer spending has slowed since the conflict began, reflecting pressure from higher interest rates and the expiry of electricity rebates. This is still a reasonable rate of growth by historical standards. We've had a more pronounced slowing in home lending, our most interest rate sensitive portfolio. Mortgage applications have eased in April following a strong start to the year.
Hardship applications and personal loan inquiries have increased modestly. This was anticipated following earlier rate rises and remains consistent with seasonal patterns. Voice analytics using AI show customer mentions of interest rates and geopolitical events remain limited for now and are concentrated in regional and outer growth corridors with high commuting needs. We will continue to monitor these developments closely and provide help to customers who need support. Our success is closely linked to the prosperity of our customers, our communities, and the broader economy. During the half, we provided an additional AUD 68 billion in home lending, helping more Australians into their homes. Banks play an important role in strengthening financial inclusion. We're directing investment towards initiatives that will have a lasting impact. Across regional Australia, we are increasing access to banking services while investing in agricultural scholarships and technology to support innovation, resilience, and prosperity.
We're backing more female entrepreneurs to start and grow their businesses with AUD 974 million in lending since mid-2023, closing in on our AUD 1 billion commitment. Education is now the central focus of the charitable Westpac Foundation, particularly to strengthen national literacy and numeracy. This builds on our AUD 100 million commitment to education through the Westpac Scholars Trust. We're pleased with the reach and impact of our sponsorships, promoting participation in sport from grassroots through to the elite. Together, these actions create more resilient communities. First half performance compared to the prior corresponding period reflected our strategy of balancing growth with return while making investments in people, innovation, and transformation. Net profit, excluding notable items, increased 1% to AUD 3.5 billion. Our key financial measure, return on tangible equity, was steady at 11%.
Pre-provision profit growth of 3% was driven by slightly higher revenue than expense growth. Consequently, cost income edged lower to 51.7%. Momentum in the key operating metrics of deposits and loans was solid, with both growing by 7%. This reinforces the need to stay focused on outcomes that drive a sustainable improvement in ROTE and CTI. A steady financial performance and strong capital position saw the board declare a first-half shareholder dividend of AUD 0.77 fully franked. This equates to a payout ratio of 75.6% of profit after tax, excluding notable items. Improving service is central to building trust and deeper relationships. Customer measures, such as NPS, suggest we are heading in the right direction, although there is a lot more for us to do.
We want to be the primary bank for our customers by providing consistent service excellence when and how our customers want to be served, whether that's on the app, phone, and in person. We are making practical changes while also integrating data and AI to anticipate customer needs and deliver safer, more personalized service. Our award-winning app remains our customers' preferred banking channel, with 6.8 million daily logins and significant improvements in digital sales in both consumer and business. Protecting customers remains a priority as fraud, scams, and financial crime continue to look for ways to evade detection. We strengthened our defenses using AI to detect unusual activity, helping to prevent AUD 181 million in potential customer scam losses. For customers new to Westpac, we've halved the average time to open a new Westpac Choice account.
We also introduced digital ID verification for customers immigrating from New Zealand, India, and China, streamlining onboarding for priority migrant segments and improving account conversion. For business overdrafts, time to cash has significantly reduced, enabling some decisions to be made within hours. For large clients operating across markets, we have new digital solutions that make foreign exchange and international payments faster and more transparent. This is just a snapshot of our progress. We aim to be Australia's best workplace with the right culture, capabilities, and environment to help our people perform at their best. In the past year, we've been building a stronger employee value proposition to attract and retain great people while supporting their development, health, and wellbeing. We've also expanded career development opportunities, including recently rolling out LinkedIn Learning with access to 20,000 courses.
Uptake has been strong, with more than 12,000 people already using the platform to build skills for career progression, with AI courses the most popular. We're tracking progress through employee engagement, which is an indicator of productivity, customer outcomes, and retention. Our score continues to sit in the top quartile globally, with the survey providing timely insights and practical actions. Deposit growth was solid across all 3 segments. Consumer was up 8%, and business grew by 5%. In institutional, growth in accounts from the superannuation and resources sectors provided additional tailwinds. Transaction accounts represent almost half of total balances. They also anchor the relationship, providing richer insights and opportunities to bring more of the bank to the customer. Business transaction account sales were particularly strong, growing 34% while balances grew 8%. Enhancements to our digital propositions and onboarding capability supported targeted growth in consumer.
The depth of our customer relationships and improved service are reflected in market share gains across both business and institutional. In business banking, lending grew 13%. Target sectors such as agriculture, health, and professional services all performed well, delivering double-digit growth. We're also improving the mix with business proprietary lending accounting for almost 60% of new originations this half. These outcomes reflect focused execution and deeper engagement with our customers. Meanwhile, businesses at the larger end of town are investing for the future, and we are backing them to pursue growth opportunities. Balance sheet growth across institutional was 23% across a well-diversified portfolio. We have seen particularly strong activity amongst customers involved in the energy transition, infrastructure, critical minerals, and data centers. Also, we remain the country's biggest lender to renewables with balances increasing 16%.
We have been disciplined in the growth we have pursued with around 70% of new lending to existing customers. In mortgages, we saw a clear improvement in performance through the year. Balances grew 7% excluding RAMS, tracking around system on average. Importantly, we returned Westpac first-party lending to growth. This reflects deliberate work to get the first-party proposition right. The improvement has been driven by addressing the basics which have made it easier for our people to serve our customers well. For example, Book a Banker has been rolled out nationally, which allows customers to make a home loan appointment online with the banker of their choice. We have invested in productivity and capacity, onboarding more than 60 new lenders. We made targeted policy enhancements for investors and the self-employed. We have focused on improving customer advocacy while maintaining a time to decision of under 4 days.
Together, our strategic priorities are shaping the company we want to be. They keep us aligned on what matters and move us closer to our ambition to be Australia's number 1 bank and our customers' partners through life. We're making progress and determined to keep lifting standards through a relentless focus on execution day in, day out. Service quality and net promoter scores continue to improve. We've simplified and strengthened the franchise. Risk management is more deeply embedded, and we're well into the delivery of our multi-year transformation agenda. While we have the right people and capability, performance has been constrained by complexity and legacy systems. To sustain improved performance, we need a simpler operating environment that delivers greater efficiency and consistency in service. We are building on the foundations established for the delivery of Unite by adopting a more disciplined approach to implementing change in the bank.
We are moving to a new end-to-end operating model we refer to as Catalyst. This is aligned to our priorities, shifting from hundreds of annual projects to 20 delivery units that bring teams closer to customers with clear accountability for multi-year outcomes. The benefit of this model is persistent funding and capacity, giving teams the certainty and confidence to deliver. It will also reduce handoffs and bring our people and expertise together. This, combined with simpler governance, will help improve speed to market and to better serve our customers. This will support strong risk management and a lower cost-to-income ratio in time. Unite is the cornerstone of our transformation agenda, helping to deliver one best way to serve customers and run the bank. We continue to make progress with the most initiatives on track and rated green.
At the annual Unite market update in March, we reaffirmed the program's overall scope, timeline, and budget. We also shared 2 recent major milestones, the migration of customers to one wealth platform on BT Panorama. I'm pleased to report we've had no disruptions on the subsequent round of monthly reporting. We also announced the creation of 1 commercial bank to give more businesses access to Westpac's digital capabilities and a broader range of products and services. Customer feedback has been positive and will begin migrating customers alongside their bankers prior to the originally planned start date in July. Our strategic investment in our new business lending origination platform has dramatically improved how we lend to businesses. BizEdge has processed more than AUD 10 billion in new lending with time to decision improving by 49%. Recent releases have added automated pathway selection, deals flow through the best decisioning pathway.
We've also increased TCE thresholds from 10 million-20 million AUD. The platform is reducing reworks so our bankers can spend more time with our customers. Westpac One will be a clear point of differentiation in our support for corporate, large commercial, and institutional clients. This platform will bring together real-time treasury management, FX, trade, and lending with richer data insights. The 1st customer pilot is already underway with advanced transaction banking capabilities to be introduced progressively over coming periods, including corporate liquidity management and multi-currency cross-border functionality. Once complete, the platform will provide end-to-end liquidity and cash management, helping clients run and fund their businesses more efficiently. Technology, data, and AI are vital to how we deliver outcomes across the bank. Our approach has evolved in recent months where we have moved beyond standalone experimentation to scaling and embedding AI as an enterprise-wide capability.
We're focused on practical use cases that accelerate delivery, drive efficiency, and improve customer outcomes. Deploying AI responsibly is critical. We have embedded a company-wide responsible AI and risk management framework with clear governance and safety guardrails that are built into how AI is designed, tested, and used. For customers and frontline teams, AI agents help our people find the right information more quickly. Other agents are helping to verify pay stubs for loan applications and support mortgage and consumer finance processing. We're also using call, complaints, and social media analytics to identify emerging issues earlier and reduce customer friction. Underpinning all this is the Westpac Intelligence Layer which brings together data and AI across the bank to support faster, safer, and more proactive decision-making.
It is too early to extrapolate all the financial benefits of AI, but as our approach matures, we intend to capture measurable and sustainable benefits from our investment. Nathan will now take us through performance in more detail.
Thanks, Anthony. Good morning, everyone. Starting with the financial performance for the half. My remarks will refer to the results excluding notable items which relate to hedging and costs associated with the sale of RAMS. Net profit was down 1% with lower operating income and higher credit impairment charges more than offsetting lower expenses. A 2% decline in revenue includes previously announced market volatility-related impacts. Excluding these impacts, revenue rose 1%. Operating expenses were 6% lower or 2% lower, excluding the second half 2025 restructuring charge. These revenue and expense outcomes resulted in a 4% increase in pre-provision profit or a 1% decline excluding the prior period restructuring charge. Credit impairment charges increased to 10 basis points of average gross loans compared to 4 basis points in the prior period.
Sustained growth in customer deposits underpins our ambition to be our customers' main financial institution. The growth of 3% in the half highlights the inherent strength and diversity of our franchise with all four segments growing. Transaction balances grew strongly across business and wealth and institutional, while household savings and mortgage offset balance growth continued in consumer. Deposits grew 3% in New Zealand, slightly ahead of system across both transaction and term deposits. Our economic team continues to expect strong deposit growth for the remainder of 2026. The higher interest rate environment is likely to result in a mix shift towards higher yielding products. Lending momentum has continued with growth of 4%. Australian mortgages grew slightly above system at 4%. This reflected progress in executing our mortgage strategy and a strong spring campaign with an increase in the proportion of proprietary flow.
We continue to target consistent performance broadly in line with system. Australian business lending continues to show good momentum, growing at 4%. The larger commercial segment generated most of the growth, while SME performed well relative to system, albeit off a considerably smaller base. Proprietary flow across commercial and SME continued to improve. Institutional lending grew by 12% and was well-diversified. Growth moderated in the 2nd quarter after a very strong 1st quarter. Lending grew 3% in New Zealand where demand for credit improved notwithstanding a challenging economic environment. Strategically, we continue to focus on doing more with SME and small business customers. However, we expect business credit growth to remain skewed to larger businesses. This will suit our existing book mix, and we plan to maintain our growth posture and support our existing customers.
Operating income declined 2%, including the impact of pre-release volatile items. Excluding these items, revenue grew 1% as strong balance sheet growth more than offset core NIM decline of AUD 105 million. The pre-release volatile items covered movements in treasury and markets, timing differences associated with the RBA rate changes, and the depreciation of the NZD. These items subtracted AUD 271 million from net interest income. Non-interest income decreased 3% for the half after rising 10% in the prior period. Fee income was down AUD 23 million, reflecting lower card fees and decreases in undrawn line fees in institutional. Markets and other income decreased AUD 23 million, with tightening funding spreads impacting DVA to 31 March. This was partially offset by an increase in wealth income with higher funds under administration.
It's important that I review the components of net interest margin in detail. Core net interest margin decreased 4 basis points to 178. Timing differences following RBA rate changes detracted 2 basis points and are transient in nature. This reflects both the larger proportion of loans relative to deposits in the consumer bank and the associated revenue mismatch as mortgage customers paid their new rates after 14 days while deposit holders received their new rates after 10 days. The timing impact was larger this period, given it covered 4 RBA rate changes, the non-repeat of the benefit from 2 rate cuts in the second half of 2025, and the drag of 2 rate rises in the first half of 2026. Excluding this impact, core net interest margin decreased 2 basis points in the half and was flat in the second quarter.
Lending margin shows trends consistent with expectations and were lower as competitive pressures persisted. The rate of compression was stable in mortgage and business and was more pronounced in institutional this period. Deposits were stable as a benefit of replicating portfolio was offset by a number of customers qualifying for the bonus rate. Other impacts, including mix, pricing, and the impacts of a lower rate environment during the half were all modest and netted to zero. Liquid assets contributed 2 basis points, reflecting mix benefits as liquid assets rose by less than the average lending assets. Capital and other detracted 1 basis point, reflecting lower capital balances and a remediation provision. The Treasury and markets contribution of 11 basis points was down from 13 basis points. An elevated 15 basis points in the first quarter was followed by a weaker than usual second quarter of 7 basis points.
The second quarter reflected less income from balance sheet positioning through a challenging rates environment, fewer realized gains as we de-risk the liquids portfolio, and the timing of accruals that will unwind over time. Looking ahead to the second half, the timing differences related to the 2 first half 26 rate rises will unwind and be a 1 basis point benefit. The replicating portfolio is expected to be a net benefit of 2 basis points at current swap rates. Liquid assets are expected to continue to provide a similar mixed benefit as they rise by less than the average lending assets. Customer lending and deposit margins will be shaped by the competitive environment. We expect overall lending margins to continue to edge lower.
Deposit spreads will benefit from the averaging impact of prior rate rises and stabilization in the qualification for the bonus rates, but will be adversely impacted by expected growth in higher rate products and mix impacts following strong TD growth at the end of first half 2026. We have also provided sensitivities to help understand the potential impact of future rate rises. The recent alignment of pass-through for mortgage and deposit customers will approximately halve the negative timing impact. A 25 basis point rate hike leads to an approximate 1 basis point expansion over the first 12 months, reflecting the impact on unhedged deposits and capital. Operating expenses, excluding the second half 2025 restructuring charge, declined 2% to AUD 5.8 billion. Employee costs increased AUD 103 million, reflecting annual wage increases and more bankers across business, WIB, and consumer.
This was partially offset by higher leave utilization. The increase in technology costs was modest. Fewer contract renewals and supplier rebates masked ongoing cost increases. Volume in other rose AUD 31 million. Drivers include higher operations-related expenses to support customers. This was lower than anticipated, with the teams able to absorb higher volumes and achieve sizable unit cost savings. We generated AUD 258 million of structural productivity savings. This includes the benefit of a simpler operating model, more automation, reductions in branch space, and the initial benefits of Unite. Investments declined marginally, with the lower cash spend largely offset by lower capitalization rates. Lower capitalization was a result of a higher proportion of Unite investment and a number of smaller projects that were fully expensed as they did not meet the threshold to be capitalized under our policy.
There was a modest increase in amortization and no software impairments. Overall, we are managing costs well. The underlying cost trajectory is improving, and we are pleased with the execution against our full-year plans. This will set us up well for subsequent periods. Looking to the second half, costs are seasonally higher and there are several items to consider. The extra day count will impact most categories. Staff costs will rise as leave utilization decrease, the average impact of higher wages flows through, and we continue to invest in bankers. Technology expenses are expected to be a headwind as vendor inflation persists and activity continues to rise. Volume in other is expected to be a headwind as brand and marketing spend increases, property costs rise, and we expect customer activity to increase in a rate-rising environment. Investment cash spend will be higher and lower capitalization rates are expected to persist.
Amortization expense will also be a modest headwind as the capitalized software balance continues to decrease. We've revised up our FY 2026 structural productivity estimate by AUD 50 million to at least AUD 550 million. Productivity and efficiency are key strategic focus areas for the management team as we reposition the business to compete more effectively. Moving to investments. We spent approximately AUD 900 million in the half, with Unite accounting for 44% of spend. As foreshadowed, the proportion of non-Unite investment reduced. The proportion of investment spend that was expensed increased to 69%, with Unite, the main driver, expensed at 75%. Our FY 2026 guidance still holds. Total investment spend is expected to be approximately AUD 2 billion, we have narrowed our guidance range for Unite. Overall, credit quality metrics remain sound, with consumer and business portfolios improving.
Stressed exposures to total committed exposures decreased 12 basis points. We have seen continued improvement in 90-day plus mortgage arrears. These have reduced to 57 basis points. In New Zealand, mortgage arrears increased by 4 basis points to 50 basis points, reflecting cost of living pressures and some seasonality. Business customers are managing conditions well, with stress rates reduced across most sectors. We are cautious in the ongoing Middle East conflict. The energy-intensive sectors of transport and storage, construction, and agriculture are being monitored closely. Notwithstanding improved credit quality in the half, credit provisions are up AUD 212 million to almost AUD 5.2 billion. As a result, overall collective provisions to credit risk-weighted asset coverage increased by 4 basis points, with total provisions now AUD 1.9 billion above our base case. Provisions to gross loans were flat at 58 basis points.
The increase in collective provision was a combination of modeled outcomes and management judgment, both a result of the anticipated impacts of conflict in the Middle East. The moving parts include updated economic forecasts in the base case scenario, incorporating higher interest rates and unemployment and a lower GDP, and new overlays of approximately AUD 100 million, largely related to energy-intensive sectors. Although net overlays were up by just under half this amount. These increases were partially offset by improvements in underlying credit metrics. Individual provisions increased AUD 71 million, and collective provisions rose AUD 141 million. New and increased impaired assets were AUD 495 million. The uptick was idiosyncratic and largely confined to single names in transport and utilities prior to the impact of the conflict. A strong balance sheet is a critical enabler of our strategy and an ongoing feature of this bank.
Our liquidity and funding structure has us well-placed. Most long-term funding was undertaken early in the half when spreads were more attractive. A total of AUD 24 billion provides flexibility on the timing of issuance in the second half. We were more active in short-term markets, and institutional term deposits increased. Both form part of our strategy to provide additional liquidity in response to the increase in geopolitical uncertainty and flexibility ahead of the expected AUD 16 billion reduction in mortgages post the settlement of the RAMS portfolio sale. The stronger lending and deposit growth resulted in a modest widening of our funding gap, with the deposit to loan ratio down 1 percentage point to 84%. Our liquidity and funding metrics are above our normal operating ranges, which we believe is appropriate given the market backdrop. Our capital position provides us with flexibility and opportunities over the medium term.
The CET1 capital ratio ended the half at 12.4%. Net profit added 74 basis points, while the payment of the full year dividend reduced capital by 57 basis points. Risk-weighted assets detracted 21 basis points, with higher lending balances more than offsetting data refinement and improvements in delinquencies. IRRBB detracted 27 basis points, with higher embedded losses and an increase in hedge deposits more than offsetting the benefits of standard changes. Its increase means the capital for is not currently binding. The removal of the operational risk overlay added 17 basis points. Looking to the second half of 2026, there are several considerations. We're anticipating a 22 basis point benefit from the completion of RAMS. The completion of the share buyback would subtract 22 basis points. The material IRRBB risk-weighted asset increases are unlikely to repeat.
The 31st March position reflects the forward interest rate curve, which included 60 basis points of anticipated rate rises. Slide 79 of the IDP has been provided to assist with scenario analysis. Risk-weighted assets are AUD 1.8 billion above the standardized floor. Standardized risk-weighted optimization initiatives and regulatory changes are expected to provide benefits over the medium term. However, movements in the IRRBB will also impact whether the floor becomes binding. To provide a sense of the potential asset quality impacts that could arise, the sensitivity to a one-notch downgrade to exposures in energy-intensive sectors is an increase in risk-weighted assets of approximately AUD 4 billion, which is equivalent to 11 basis point impact in the CET1 ratio. We have not changed any of our capital management settings this half. We've summarized the capital management principles that have been agreed with our board to provide insight into capital management decisions.
Our priority is to maintain a strong balance sheet, which allows us to support customers through ongoing uncertainty and cushion against potential macroeconomic shocks. Alongside this, we'll invest to grow the business profitably. Paying fully franked dividends sustainably is an important anchor to our approach. This approach of cascading priorities balances our strong financial position and capital position and maintains flexibility. When considering capital returns, we will weigh up both market conditions and our strong bank franking balance of AUD 3.7 billion, alongside value creation for all shareholders. In this context, we have approximately AUD 2.7 billion of capital above the CET1 target, adjusted for the declared dividend of AUD 0.77 per share. The payout ratio, excluding notable items, was 75.6%, which is slightly above the top of our target range of 65%-75%.
We have AUD 1 billion of the previously announced buyback outstanding. We see value in the flexibility provided by this form of capital management. With that, I'll hand back to Anthony.
Thanks, Nathan. We track progress against our FY 2029 targets with a continued focus on making improvements every day. On service excellence, we're making steady progress. Consumer NPS continues to improve, and we are ranked equal second, with the gap to first narrowing. In business, we have moved into first place overall. We are realistic about the work ahead to improve customer service. In institutional, we've moved into equal third position in the last annual RSI survey. We aim to accelerate the pace of delivering our transformation agenda by moving to a new operating model from FY 2027. We'll also continue to methodically work through Unite. These will support a structurally lower cost base. On performance, our ambition is to outperform peers over time. Cost to income is currently 4.5 percentage points above peers, and return on tangible equity is 1.8 points below.
With our decisions guided by improving efficiency, returns, and discipline. Overall, our operating momentum and financial position are sound, giving us a strong platform to deliver sustainable returns and build a bank for the future. Thank you.
Thanks, Anthony. We'll move to Q&A now. In the interest of time, given we've got plenty of people on the line, if you could limit your questions to one, that would be appreciated. Our first question comes from Ed Henning from CLSA. Ed?
Hi. Thanks for taking my question. Just if you can just run through how you're thinking about yourself versus peers on the replicating portfolio benefit. You've got less than peers coming through. How should we think about you competing against peers? Are you going to be selective in targeting niches, or are you happy to take a little bit of volume for margin trade-off there, please?
Yeah, good morning, Ed. What a nice start, Anthony might add. I think, we've called it out, Ed, we intend just to be as transparent as we can about where the replicating portfolio benefits are. Clearly, sort of decisions over time have meant that we've had more of the replicating benefits earlier than some of our peers, so in the outlook will be a little bit less. We said in the second half we'll get 2 basis points benefit from replicating portfolio, as we go into 2027, we expect that to be something like 3 basis points in 2027 for the full year.
As it relates to how we, how that impacts competitive pressure, Ed, I guess, you know, we're competing in the market with everyone every day, and we've got to make sure that in particular on deposit pricing, that we're competitive, that we've got our prices there with an offer and a service that our customers will appreciate. We've got to make sure that price is not a determining factor in them going from one coming to another. You know, we expect that we'll have to continue to compete there. You know, whether that means that we have a little bit more margin degradation than others who have got the benefit of the replicating portfolio, that may well be math.
The important thing for us is just to continue to improve the service at the front end. You alluded to it a little bit. I think there are pockets where, you know, service really does matter, where our digital offering can improve, where we can make it easier for customers on things like rollovers and those other important points. We've got to continue to make sure we're really focused on those points that really matter.
Yeah, I think that's, I completely agree with you there, Nathan. I think we have made progress, though, on our deposit franchise and in particular, the capacity now to originate and do so inside 7 minutes with actually 50% of all the customers originating that now on inside 5 minutes. I feel like we're making the right allocation of our resource and our priority that will allow us to balance that challenge you've called out, Ed, in driving our deposit franchise.
Thanks, Ed. Our next question comes from Andrew Lyons from Jefferies. Andrew?
Thanks and good morning. Nathan, maybe a question for you just around your capital sensitivity. You've obviously provided what it looks like in relation to energy intensive sectors in a one-notch downgrade. Would it be at all possible to marry up what that capital sensitivity looks like in relation to your economic scenarios that you've used around provisioning, your provisioning modeling? I guess if we see your base case assumptions play out, for example, would that, in your view, be equivalent to a one-notch downgrade? Perhaps if I can extend it to sort of maybe help us understand what would the downside scenario look like from a capital perspective.
Thanks, Andrew. Good morning. We've been really just trying to think about this a little bit, Andrew, and try and be helpful in terms of making sure that people could understand the sensitivity here and the pro-cyclicality in the risk weights. I appreciate that other banks looked at it on the ECL basis. We thought it was a little bit more intuitive just to think about those energy intensive sectors that we took the overlay for and think about that one notch, which we said was AUD 4 billion. It's a little bit of a coincidence, Ed, that if you do run it through the base case of the ECL, we get a very similar number.
I think it's about AUD 3.8 billion for the first 6 months or for the next 6 months if we ran through the base case, and I think that's pretty consistent with peers. I think there's probably a couple of other ways to think about this, Andrew, and we, you know, we're certainly keen for people to sort of understand the sensitivity in the capital base here, so open to all ideas that are sort of helpful for people. If you go back a little bit over time, Andrew, we've had about AUD 10 billion of risk-weighted asset benefits from asset quality over the last 12 months. The majority of that has come through our mortgage book.
Another way to think about that is if you, if you sort of unwound those asset quality benefits, 90 days arrears are probably down 20-25 basis points over those 12 months, you could see a scenario where you unwind back to that, and that would be that sort of AUD 10 billion of risk weights in that scenario. There's sort of lots of ways to sort of think about it, but there's just a few ways to try and triangulate around that sensitivity, and hopefully that's helpful.
Thanks, Andrew. Our next question comes from Jonathan Mott from Barrenjoey. Jonathan?
Yeah, I've got a question about the institutional bank, if I could. I note you said there was big growth coming through in that 1st quarter. If you look over the last, you know, half and also the year, you can see the loan book in the institutional business is up 23% and 12% in the last half. If you look at the margin excluding markets, it's fallen from 203 down to 184, so over the last year. Down 19 basis points in the year, 14 basis points in the half. Also you're seeing huge increase in the amount of allocated capital going, so over AUD 1 billion. I wanted to sort of get your feeling on why you're lending so aggressively into this sector because the returns don't appear to be coming through.
Are you covering your cost of capital on the new activity, the marginal activity? I know you mentioned some sectors and some growing sectors in there. Are you covering your returns on this, or are you planning on selling down, just given this massive growth that you're seeing in the institutional business?
I'll make a few comments and Nathan, just jump in as you see fit. I mean, it's very deliberately anchored around the customers we have and the sectors where we are, if you will, positioned at the moment. That growth isn't, if you will, us just choosing to grow, Jonathan, and just chase growth. It's been anchored around the fact that a stack of our customers in sectors such as infrastructure, energy, generation, mining, resources, data centers, et cetera, all growing rapidly. We've just been banking them. About 70% plus of all of what we've done is just with existing customers. Point number 1.
Absolutely, the priority is when we deploy that capital in those loans that we are aiming to get to the return target we have for shareholder. I can confidently say that we are delivering on that in terms of the loans that are being originated. I do acknowledge also that, you know, one of the interesting aspects of what we're doing there is many of these customers are really highly rated. Hence the margin is a little narrower just because they are very, very strong investment grade, and they are very high quality risk classes. The other thing I'd just call out is that, you know, what you see in the institutionals business is sort of those, that feature where market's moving, you're supporting your existing customers, there's a lot of growth in a very concentrated period, banking certain themes, then it dissipates and it slows.
It's important that we do follow our customers in that setting. The other thing I'd say is, given the ratings and the position of many of these customers, they'll end up taking a lot of that debt down in the form of going to capital markets. Then we'd obviously anticipate, given that support we've provided, that that gives us opportunities in the capital markets, debt capital markets, risk management opportunities. I do feel like it's aligned with how we want to support our customers and how we bring the bank to bear for those customers, given what we're doing for them at the moment.
Thanks, Jonathan. Our next question comes from Tom Strong from Citi. Tom.
Hi, Tom.
Great. Thanks for the chance to ask a question. Nathan, I just wanted to ask about your comments. I mean, you noted that the funding gap had widened modestly in the half, and we're almost at the point of realizing the RAMS funding with that deal closing. How do you sort of think about funding your growth from here, and will we see the above system growth be sustained across mortgages, business and institutional, or will the growth be a bit more targeted going forward on the asset side?
Thanks Tom for the question. We've been deliberate, and I made some comments just about how we're structuring the balance sheet in the lead-up to RAMS that, you know, we've probably done about AUD 15 billion of short-term funding, and then we were quite deliberate with some institutional TDs just to give us a little bit of flexibility around the settlement date. There's some learnings from sort of how we manage things around the TFF that we're sort of applying there. When that washes through, you know, we'll obviously, you know, be back to sort of a more normal deposit loan ratio in the bank, and then sort of expect that that'll continue to sort of grow proportionally.
As it relates to our posture in terms of growth more medium term or over the second half, I think we've tried to be a bit clear as we go through the pre-prepared remarks. I think Anthony's covered institutional well. There's, you know, some long-term macroeconomics here that are, or macro trends that are really driving credit appetite and investment. We continue to want to participate in that. We growth moderated in institutional in the second quarter off a really strong first quarter, but we would continue to expect to support customers to the extent they want to participate in those macro themes. In business, we've still got some appetite to take share, and we would expect to continue to do that. In mortgages, we've been pretty consistent, and I think consistent's the word we'd like to stress here.
You know, we want to be at or around system in those books, and we think we can continue to do that. If that means sort of 0.8 or 1.1, you know, we'd call that in the margin of error on those books, Tom. That's what you should expect from us going forward, and that's what we'd be able to do with the balance sheet we've got post RAMS.
Thanks, Tom. Our next question comes from Andrew Triggs from JPMorgan. Andrew.
Thanks, Justin. Good morning. Just a follow-up on margin growth, balance. I mean, are you sure you're getting the balance right there? The NIM fell quite appreciably in every division. Connected to the question, what's the sort of decision tree you have on re-engaging with the buyback or paying a special dividend rather than persisting with a above system growth? Maybe if I could just push more luck, it's been really strong, offset balance growth across the industry, which is weighing on average balances, in the average interest earning assets and the average balance sheet. Could you sort of set out whether that should be expected to continue at current levels, please?
That's 3.
Yeah.
Is that it?
Maybe I could start and Anthony can sort of jump in. I maybe, you know, I think the essence of the first part of the question, Andrew, was really around sort of how we going on lending margin, and I think that, you know, you'll do the work on that. I, you know, I suspect the 3 basis points in the half was pretty much as we expected. You know, we came into that period thinking that we had, you know, a much more moderate compression in lending margins than what we've seen in, you know, in prior years in particular, and we were expecting sort of a gradual decline there. We've had 3 basis points over the half. It was 2 in the first quarter, and it was 1 in the second quarter.
It's a little bit of a moderating trend. Mortgages has been pretty consistent, and business has been pretty consistent, just edging lower. Then we had a little bit more in institutional. I think, you know, I don't see anything that's sort of out of the ordinary in terms of the lending compression that we're having there relative to peers. I think, you know, it's consistent with us participating in the market as you're seeing. You know, as I said, with that posture that we've got around, at around system in mortgages, we want to continue to take a little bit of share in business bank, but with a bigger push into more in proprietary. Then in insto, we're really just following some of those macro themes. I think, you know, 3 basis points was pretty much as we expected for the half.
The only thing I'd just add, I mean, the quality of the cohort that we've been particularly active in institutional and in business bank is very high quality. As you'd expect, lower margin. I think the other thing, and this is what we are working on and we must get better at, is we need to do more in small business where there's clearly a better margin. We're just not where we want to be there, but we're making progress. I think also there's a few product components that we really haven't got right, and we've only now got the means to do that, Andrew.
For example, working capital and invoice financing and the margins there, you know, we're now got the best, what we think is one of the best platform capabilities in the market, and that's been growing nicely, but we're just very small at the moment in that, and so we've got some way to go. I just feel like that will, in time, help balance any idea or risk or worry that we're not getting the margin right in terms of the growth we're pursuing.
Then maybe the second question, I think, Andrew, is just around like capital management and how we think about that relative to growth. I think, you know, we tried to lay out here some sort of cascading principles that we would think about and, you know, as you know, we've put, you know, investing profitably in the business is important to us. So, you know, we start by wanting to make sure that we've got a strong balance sheet that can be there to withstand the shocks that we might have. I answered Andrew's question to try and give some of the sensitivity as to where asset quality could go on risk weight. We obviously carefully watch things like that. We want to be able to support the growth in the business.
You know, you know, Anthony's spoken about that, and we've talked about that. When we get down to, you know, what we do when we balance out, you know, capital returns, it will be only after we're really comfortable that we've got those first two right and that we're, you know, that's the best use of capital in our belief, that investment in the franchise.
Yeah. I want to just add 1 sort of emphasis there. It's not just a picking growth and just trying to grow the sheet. You know, as you, and as is flagged in my comments and previous question, we're supporting our existing customers, and they're just a very active moment in the institutional at the moment, so we've just got to be there. That is the right way to deploy our capital in terms of supporting our existing customers, and we are generating the right return on that capital and that's how we think about it, as opposed to just some myopic focus on growth.
Thanks, Andrew. Our next question comes from John Storey from UBS. John.
Yeah, thanks very much, Justin. Morning, team. I guess quite deep into the call, hasn't really been much spoken about in terms of asset quality yet. I thought, like to switch gears and get your views. I mean, Westpac's definitely got one of the more bearish views on the underlying economy in terms of your forecast. You know, how do you guys think about growing at the rate that you are into what, on your expectations, is going to be quite a steep kind of deterioration in terms of the economic outlook? How do you square that off with a through the cycle credit charge, just given the change in your business mix at the moment?
Well, look, I think first and foremost, you know, John, on this point, I'll continue to emphasize, there's a moment at the moment in institutional space where those customers are pursuing those macro themes that are very very attractive and very much on strategy. It was just critical that we support our customers. Likewise, you know, when I look at business bank and the growth we've had, it's all been at the larger end of the business book, and particularly ag, with the theme there, healthcare and professional services. We feel like supporting those existing customers in those particular areas has been, first of all, the right thing to do for the customers, and secondly, the right risk orientation because there's obviously very strong underlying thematics that support those growth opportunities.
That's what's driving the way we're going after growth. I do think, though, with the environment that we're in with the Middle East conflict and some uncertainty, that you're likely to see some areas pull back, and there will be less growth just because customers are just gonna sit by and sort of wait until that uncertainty clears. I don't think we'll see a sort of a headlong rush of ongoing growth into particular challenges because already people are just pausing and tempering what they might do, what might be their investment plan. As a result, I think our growth will reflect that. The only area that I'd say is an exception to that is I think the institutional business, particularly with the large corporates who are very focused on, for example, infrastructure or power generation transmission, renewable power generation transmission.
You know, that investment thematic underpinned by the government is one that I think will continue and we'll obviously look to make sure we do that thoughtfully and as we have been doing over the last 24 months.
Maybe one point to add, which just as a reemphasize, I think it's unlikely, John, that you get all of those things happening at the same time. I think if we walk into an environment where the base case scenario plays out, you are going to have lower growth in credit and that will just be a reality. We're seeing that. Anthony made the comment in his preprepared. We're seeing that a little bit in mortgages. You know, our growth in applications in April relative to the second quarter was down quite a bit. The last time it was down or comparably down like that was in 2023 where we had the last rate tightening cycle.
You know, we're seeing the early signs of that. In business credit, we probably came into the year thinking business credit might grow at something like 7%. It got to the first quarter, we thought that it would be. It felt like it was growing at something like 10% and, you know, we would expect now, even though pipelines are really high, you know, pricing inquiries are really high, so it feels like there's good activity there. You know, that could easily be something like 5% or 6% now. We're expecting that slowdown as that base case. Sorry.
Thanks, John. Our next question comes from Matthew Wilson from Jarden. Matt?
Yeah, thanks Justin. Good morning. Matt Wilson, Jarden.
Hey, Matt.
... the opportunities from IT innovation appear exciting. When we look at your net interest income, around 20% of your net interest income or 30 basis points of your margin comes from customers lending you money for free. In the context of, you know, digitization, AI, and other innovations, how sustainable is that business model? You know, you've got new competitors, new technology changing the fundamental nature about banking.
Yeah. Matt, you know, thanks for the question. I agree. I think banking is changing. I think new competitors, new ways of competing will put pressure on those ways that we have or those ways we've assumed and those approaches we've adopted in the past. Definitely acknowledge that. I think a couple of truths though that are foundational, which is, you know, a deposit is a very privileged thing to provide and obviously to receive. Therefore, an institution which is very well capitalized, very well rated, and highly trusted is sort of foundational to how we want to position ourselves in the marketplace with deposits.
Things like the digital offering and then other forms of value stores such as digital assets are all of what we must improve on and are planning to deliver on over the course of the next 2 or 3 years to ensure that we can compete and definitely offer the customers what they want, where and how they want it. I do acknowledge that also, the introduction of AI and agentic programs mean customers will likely have the means to move and identify best pricing all the time, real time, and we understand that, emerging challenge and are definitely working to make sure we can meet that challenge. I think it's something that, you know, in a funny old way is already in place. If you think about our institutional business, we take deposits from our customers there.
We're still able to generate a good return for shareholder, a good margin for that business by dealing with very sophisticated customers who can move their deposits and check price, check at all times. I think that's likely the future for banking at some point more broadly. Therefore, we've just got to make sure we've got the offer, the means and the tools to be able to provide that to our customers and serve them in the right way and meet that competitive challenge head on.
Thanks, Matt. Our next question comes from Matt Dunger from BofA Securities. Matt?
Thank you very much, Justin. Anthony, if I could please just follow up on the questions about balance sheet led growth. You've previously talked to the market share opportunity at Westpac on the non-interest income side from deepening customer relationships. The growth in markets income doesn't appear to have matched the volumes. You've called out the product capabilities in FX. When should we expect to see this opportunity converted to market share gains across non-interest income?
Thanks for the question, Matt, and spot on. We definitely have seen some real progress in our non-interest income in, I think, about over the last 12 months. There is so much more for us to do, and it all comes back to where we are as a bank and what we've got to do, which is to continue to lift and get that service offering and get that, if you will, execution of how you run a bank day in, day out, right. One of the things I'd call out is that we do feel like, for example, our FX offering in consumer is starting to improve, but there's so much more for us to go there.
We definitely feel very underweight in what we're doing from, for example, an FX perspective, in the business bank. There's more for us to do on that front. We're equally cognizant that, you know, we're not doing anywhere near enough trade finance, invoice financing, working capital style solutions in the business bank, which will all contribute to, you know, non-interest income opportunities for us. Just acknowledge that we're working with what we've got now. We're executing well with what we've got. What we need to do is, and what we have done, is start to invest in and expand and make sure that we're prioritizing, so that we do grow that non-interest income.
It is the case that I think, you know, the growth in deposits and lending as it sits here today, at least that's the cornerstone of that relationship with our customers. How do we graduate and provide much more to our customers over time? That's very much how we're going after it.
Yeah. Maybe just one quick add, just Matt. I think all the points Anthony said, spot on. There is a little bit of volatility half on half, so just be a little bit wary of that, like, in terms of our credit trading business and in DVA. You know, I think some of the underlyings might be a little bit better than that, but not taking away from where Anthony was going, that the opportunity ahead of us is material.
Thanks, Matt. Our next question comes from Carlos Cacho from Macquarie. Carlos?
Thanks, Justin. You had this slide where you discussed kind of the AI opportunity ahead of you. You've had obviously quite a bit of change in the leadership around AI in the bank over the last year or so. I was just wondering, you know, if you've had any changes in the approach there, and what, if any, additional investments in infrastructure you think are required to really leverage that? All we've seen from some global peers is investing in large orchestration layers that can be used across the group and already handle a lot of the admin. If there's something like that ahead of you, or if it's a bit more piecemeal, or if you already have the infrastructure in place that you think you need.
You know, great question and one we could wax lyrical on for hours, Carlos, and maybe we should at your conference tomorrow. Definitely, first things first on AI, the focus for us is to get the right people in the right seats. While it is a wonderful technology, a wonderful tool, ultimately it's only as good as the people we've got using it. We've been very focused over the last 9, 12 months to really get the right people, and I think we've put the best team on the street together, and we're up and running. The second thing is then making sure that it is adopted by everyone in the company, and that's what we've done.
I think we're one of the first to ever say, let's have every single employee, no matter what role, access to Copilot so that they can, if you will, start to immerse themselves in it. 'Cause the real unlock for us, the real opportunity for us with AI is that it challenges you to be far more open-minded about how you do things and asks you to think about doing things in a different way with far more productivity, far more speed, far more consistency, and far more service consequence for whoever you're working with as a result. It does require a bit of a mindset shift, Carlos, and that's what we've really focused on, and I think that's what we've now got. I feel like we've got enough momentum in the company to now go after it.
What we're doing, and we're under Andrew McMullan's leadership, and we're gonna do a day on this later in the year where you can really see how we're doing this, we are building those capabilities which allow people to utilize those AI engines, those AI tools to do things faster and more efficiently than they ever have done. More importantly, we intend to provide more of that capability to our customer-facing roles, and then in time to our customers so that they have full access to what we represent and what we want to represent from an AI perspective. So, yeah, we're up and running on it. I think we've got the right people in the right seats. I think we've got the right embedment program in the company.
I think more importantly, we're now starting to see tangible outcomes. It's all about how do I have everybody using it? How do I have everybody ambitiously using it in a way to reinvent and refresh how they do their job and deliver better outcomes internally and for our customers?
Thanks, Carlos. Our next question comes from Brendan Sproules from Goldman Sachs. Brendan?
Good morning. Brendan from Goldman Sachs. Nathan, I just have a question on the impact of higher cost deposits on your NIM in the second half. I notice in the business division and in institutional, you've seen a big pickup and fastest growth of customer deposits has come in TDs. Yeah. Also noticed that you're pricing TDs a lot higher across retail and business bank, over 5% now on the 12-month special rates. To what extent is this going to impact NIMs in the second half? And is this a function of this really strong credit growth that you're seeing across business and institutional, that you're having to lean on these more expensive sources of funding?
Yeah, thanks, Brendan. I think if I just isolate sort of outlooks on margins for deposits in the second half, I guess it's probably one of the line items when you walk across the NIM bar that's got a few moving parts in it. We will get the benefits of the higher cash rate, so they'll flow through. We have had qualification rates in our savings product, which has, you know, been a really strong growth product for us in consumer. They've been ticking up, and in this half we had some impacts from higher qualification rates. I think, you know, we spoke about that at the quarter and at the full year where we'd gone from sort of 84% of our customers qualifying to 85%.
That's actually plateaued that half, so this half, so I don't expect that that'll be a continuing headwind on deposits going forward. As you said, we've had, you know, higher growth in TDs at the back end of the half, which will be a NIM drag as we go into the second half. You know, that'll. When you put all that together, you've got a couple of benefits, and then you've got the replicating portfolio coming through, and then you've got some of those higher priced deposits coming through. I also expect that we'll have more growth in those higher rate sensitive deposits.
It's just, you know, when you go back in history, Brendan, which I'm sure you've done, you know, when you think about rate cycling, you know, rate tightening cycles, you do get more growth in those more rate sensitive, deposit-type products. We certainly saw that in the business bank. I think in institutional we were a little bit more deliberate. It was much more about, we'd had very steady sort of TD growth in institutional, not particularly strong growth at all. We were very deliberate just towards the end of the period just to grab a little bit of that, as we said, as more of a funding trade into RAMS.
I don't expect that continues, but we would expect that we'll continue to see, you know, growth in the higher yielding products in business and in consumer as customer preferences push that way.
Thanks, Brendan.
I think that's a really detailed answer. Thank you, Gavin. I could sort of ask a second question. I just want to clarify your comments on business lending growth. I mean, it's been very strong in the period. You said it could drop down to sort of 5%-6%. Given what you're seeing in your pipelines now, I mean, how realistic is that gonna happen in the short term?
Yeah.
You know, are we still gonna see these, this macro wave flow through and then maybe into 2027 you see a slowdown?
Yeah. Maybe I'll just start with a couple of comments, and Anthony will have a good sense of the market with his conversations with customers. I think there's one thing I think, Brendan, it's just worth calling out, is we've already seen a real bifurcation in the system here in business lending. Even to date with the strong growth we've seen, it's been really pushed towards the top end. You know, you haven't had huge amounts of growth in SME and small, but you've had very significant growth in the larger corporate sector, which is in our business bank and then in the domestic corporates in institutional. We've seen that skew, and the first point is we think that skew continues.
You know, that will suit our existing book mix. As Anthony said, we're largely lending to existing customers here. In terms of pipeline and things like. There are lots of stats I could throw at you, Brendan, that would tell you that it's not gonna slow down. You know, pipelines have been building in the second quarter. They are stronger than they were 12 months ago. They've really rebuilt over the last little while. We were talking to the pricing desk yesterday. We've got pricing inquiries this week, which are above the 12-week average. There are lots of front of funnel activity that we could tell you looks like it's going to continue.
We just also know that in our conversations that, you know, when you've got this rate increasing cycle and the level of uncertainty that we've got, we're just expecting that that will take longer to pull through, and we're gonna have some slowing of that. You know, our judgment on this, as I said, was that if we came in thinking we could have 7% business credit growth, we certainly are in a period in the first quarter where it felt like we were tracking much higher than that. We have to be in an environment now where we think that slows and that it's not gonna grow dramatically. 5% business credit growth would still be, you know, a very healthy number. I don't know if Anthony has a-
Oh, look, I think that bifurcation's the key point. I think the small business men who were coming into this year navigating things. They were not sort of, if you will, a robust disposition around what they're gonna do and how they're gonna grow. That was active, but I think that's the one that'll slow and maybe arguably is already slowing a little bit now. The larger end is very clear and I think very, very much of the view at the moment, notwithstanding the uncertainty, they can see a way through it. They feel they can absorb and/or pass on the price or other disruptions that are following from the Middle East. They're, if you will, pretty robustly going after it.
I think the one to keep an eye on for all of us is just simply, you know, those knock-on effects of a disrupted supply chain and, a whole host of, impacts that will have on broader economic activity. We've just got to keep a close eye on that over the next three months.
Thanks, Brendan. We've still got quite a few questions to get through, so just a reminder, if you can limit it to one, we appreciate it. Thank you very much. Our next question comes from Richard Wiles from Morgan Stanley.
Good morning, Anthony. Good morning, Nathan. I think in your overlays, you addressed energy intensive sectors. I'm not sure you included agriculture. ... in that overlay. Could you explain why you didn't? It's a very diesel intensive sector. It also has high reliance on fertilizers. I'd just like to get your thoughts on the outlook for that sector, please.
Yeah. I'll just give some comments on what we did, Richard, and then maybe offer an opportunity for Anthony. I think what we did here in terms of the overlays, Richard, is probably as you would expect, but there's a little bit of top down, there's a little bit of bottom up here. You know, I think as it relates to the overlays, we've certainly been working in the business looking at all our sectors. We've ended up with overlays on a small number of sectors that got identified through that work. But rest assured, you sort of look at the whole portfolio. You start with the whole portfolio. You start to look at where we've got you know, higher proportions of energy imports, and so they'll be more subject to it.
Then you sort of narrow down as to where do we then think that we've got the potential for losses. We narrowed in on the industries that we've landed on. I guess the point being, you know, rest assured we looked at agri, but for us and where our current book is and what we're expecting to flow through there, what the teams when they did that bottom-up detailed work came up with, is that's not one where we expect losses in our portfolio. That's not to say that we don't expect that that's an industry that's gonna have some challenges with higher input costs and, you know, all the other things that will flow through there. It's just for us, when we did the work, it wasn't one where we thought that that would translate into needing a specific overlay over and above what we're holding.
Yeah. I mean, Richard, the agricultural sector, the farmers, the cattlemen, they are the best risk managers bar none. I mean, I've had a few conversations, and I don't know if anecdotes get in the way of evidence, but you know, they are well ahead in terms of organizing themselves on diesel reserves and storage, well ahead on fertilizer. You know, I've got some farmers saying, "Maybe I might start selling some of this diesel just to capture the price opportunity at the moment." I don't wanna be flippant about it, but it's remarkable their ability, and where they're at. We feel very confident about the position of our book. That doesn't mean that there won't be some challenges there.
Certainly, as we sit here today and with what we can see and are working on and with them over the next six months, so many of what we're working with are in a position where they'll find a way through. I would also just you know, it is the case that I think the government's done a very good job on this front, which is making sure the diesel is prioritized in the right way, that ensures the Australian economy keeps ticking over and that rural Australia continues to have what it needs. Likewise, has also done an excellent job on that fertilizer and the prioritization of that acquisition and bringing into the Australian marketplace. I do think, you know, while agri is one we're very focused on, it does feel like at this point it's in an okay spot.
I probably should have just said one thing. Sorry, Richard, to just jump back in. It's just to say it's also been a sector where we've seen utilization rates are down. You know, we have seen, you know, them come into this particular little bit of shock with pretty low utilization rates. That's a little bit seasonal, but that's also played into some of the thinking.
Yeah. Thanks, Richard. Our next question comes from Brian Johnson from MST. Brian?
Thank you very much. Just a question. The only thing that really matters from an asset quality perspective, really, in a crisis is housing.
Yeah.
If I have a look at slide 68, I can see that overall the housing actual loss rate is up a little, 9 basis points, whereas the other banks are saying it's zero. When I have a look at slide 74, the investor, I can see it gapping up quite markedly to 1.8 basis points. Both of those numbers are after basically the lender's mortgage insurance. Is there something I'm missing here? Why is Westpac's housing loss rate higher? Can we just get some comments basically on the outlook for that going forward, given that we've got higher rates and you've got this kind of sharply worse outlook going forward under the base case?
Yeah, thanks, Brian. It might be one we can pick up online and just go through. I must admit I haven't looked at where peers reported this over the last couple of days. We can have a look at that and where the trends might be slightly different. I think where we would look at in terms of the outlook for housing credit is back to the basics. You know, it is all about unemployment, and then when you have the unemployment, it's all about where the asset prices are. We do come into this, you know, even with the economic forecast that we're Lucy's put through, which, you know, one of the other questions was it did feel like it was a bit more severe than where others were.
We saw unemployment ticking up to just under 5%, which is, you know, in historical level, still really low. You know, I think when you think about that asset quality outlook for housing, it is gonna be all about that. Where we should be concerned is sort of the obvious spot. We know that to lose money in mortgages, it's in the tails, and that will be people who are, you know, earlier into their home buying journey. They haven't had the opportunity to build up the buffers, and then they have a life event, whether that be unemployment, an illness or something like that, and that's when they get into trouble. You know, it is all gonna be about that unemployment number really, as you think about the outlook.
Yeah. Thanks, Brian. We've got some questions from the media ready to go. Stephen Johnson from Seven West Media. Stephen?
Yes. Good morning. I'm from The Nightly, which is part of Seven West Media and The West Australian. Luci Ellis, your Chief Economist, is seeing three more interest rate rises, taking it to an 18-year high of 4.85%, the cash rate. Anthony, how concerned are you about surging mortgage stress and the prospect of a recession in Australia?
Luci's forecast, yeah, we're certainly forecasting rate rise in May today, and then 1 in June and likely 1 in August. I think the rate rise, if it was the case today, would then return us to where we were about 18 months ago. Moving beyond this, I think, you know, the next 2 rate rises take us into territory we haven't been in for a period of time. The other thing I'd sort of want to sort of acknowledge is that, you know, while we have, you know, the employment levels that we have, and even with a higher unemployment level from here, there is still so much more capacity and ability for the economy to absorb any potential future rate rises and therefore potential impact on our mortgage book, for example.
I think that at the moment we don't forecast a recession, but you know, people who talk with absolute certainty today in this environment I think are misinformed because it's an unusual environment in which we're in. There's no doubt that there's a lot of competing forces here, on the one hand increasing interest rates looking to slow the economy down, you also have actually increased input costs, increased pressures coming through to the consumer with the Middle East conflict, et cetera, which also could have a dampening effect on demand and may therefore facilitate or help in the slowdown that the Reserve Bank is looking for, and thus maybe the future rate rises don't need to be as much as has been called or suggested. We've got to watch and see how that plays out.
I do think, you know, the uncertainty is the bigger issue here, because the thing that I'm more worried about, I think we are more worried about, is that businesses and investment decisions are put on hold, or it's impossible to make an investment decision that you will build or you will invest in, or you will construct something, you know, and you won't start for 6-9 months. You just can't make that decision at the moment because of the uncertainty. The risk is that no decision today, or a delayed decision today is in effect a no investment opportunity. As a result, activity will fall off in that forward setting of 3, 6, 12 months out.
That's the thing that we just want to stay focused on, is that, investment decision and activity is still, if you will, able to think about future investment, future plans which ensure that the activity levels which are helping us through at the moment will sustain, and thus I think that's the worry in the context of potential recession. Having said that, we remain, you know, at this point with our forecasts. I think there's a way through this, and it'll obviously also be dependent upon another input of uncertainty, which is the federal budget next week and its role and contribution to both helping Australians through particularly interesting times and also potentially what it will do for future economic activity will be something that we'll work out over the course of the next few weeks.
Thanks, Stephen. Our next question comes from James Eyers from the AFR. James?
Oh, thank you. Just to the last two questions. You called out some softening activity in the mortgage market in April and also hardship sort of applications increasing modestly. Could you just talk a little bit more about that, please, Anthony? Like if we do get, you know, these 3 rate rises coming through or even just 1 today, do you expect these conditions that you saw in April in the mortgage market extending through to May and June?
Yeah, look, I think, you know, what we saw in April was something that was anticipated. It wasn't more dramatic than was otherwise to be expected, you know, as a result of, you know, the two previous rate rises. Frankly, you know, the signaling both from government, from regulators, from Reserve Bank about a need to slow down and the idea that we may increase interest rates further. I don't think we sort of can also tie any of what we saw in April necessarily back to Middle East conflict, et cetera. We definitely have seen a couple of things which I think we just need to be cognizant of, is consumer sentiment has really fallen off. So the drop in consumer sentiment is an important indicator. Alongside that, the
It's only 1 month sort of, if you will, result, but, you know, the drop in business confidence is just another indicator that things are slowing. Those are the things that we're currently cognizant of. We also noticed that, you know, auction clearance rates are a little bit lower. We've also noticed that people's expectation of price is being a little bit more tempered. We also noticed that turnover is slowing. Things are slowing. In many ways, James, that's exactly what the Reserve Bank was looking for, which is to see things slow and moderate and bring, if you will, activity to a point where we get inflation back into that target band. Hopefully, I've given you some reflections and some inputs there that you're looking for.
We also feel that it's a little early to be calling things and talking with absolute certainty. Because the other thing that we just need to keep in mind is with employment levels as they are, and even if there's an increase in unemployment, as I say, there's still plenty of capacity there in terms of what it provides for the economy. Also notice that, you know, when the constrained consumer arrived into 2026, you know, the prepayment levels, the buffer levels on the mortgage book were at 85%, you know, where people are at least one month or more ahead in their payments. There is quite a bit of buffer in the economy as we sit here today.
Yeah. Thanks, James. Look, we've still got quite a few callers online, but we are out of time, unfortunately. We'll be available over the course of the day to take your questions. Thank you very much for dialing in.