Good morning, everybody. It's my great pleasure to introduce our next speakers, César González-Bueno, Chief Executive Officer of Banco Sabadell, and Leopoldo Alvear, Chief Financial Officer. Now, before we begin, I need to make clear that due to the passivity to which they're bound, neither César, Leopoldo, nor I will be able to discuss the proposed takeover of Sabadell by BBVA. So please do bear that in mind if we have time later to do audience Q&A. First of all, thank you so much for coming to the conference and for doing this session today.
Pleasure.
Pleasure.
You recently announced your commitment to generate and distribute EUR 2.4 billion of capital. How comfortable are you with your current levels of capital? How do you plan to distribute that capital, recurrent dividends, excess capital distribution, and how does the countercyclical buffer impact your assessment of excess capital?
So yeah, 2.4 billion—Good morning to everybody, by the way. EUR 2.4 billion capital distribution on the back of 2024 and 2025. That's the commitment that the board has made to its shareholders. And where does this come from? Well, it comes from a very simple fact, which is the budget that was approved in January, and that has been unchanged, irrelevant of later events. So it's an unbiased, an unbiased, estimate of that distribution and an unbiased commitment to that distribution. What does that mean?
It means that, our capital will remain above 13% post-Basel IV, and it takes into account, because we already, when in the fourth quarter, we established, that the board established that that 13% post-Basel IV threshold, it already took into account the high probability of something that has happened afterwards, which is the countercyclical buffer of 100 basis points. That countercyclical buffer affects us in around 60 basis points, 64 basis points, and therefore, we leave our MDA buffer that will come, down from 440 basis points to above, 360 basis points. So a very comfortable, very, very comfortable level. What does this mean in terms of, capital distribution? It means, more or less a 25% of the market cap of Banco Sabadell.
And, we're very confident that it will be delivered, because as the board mentioned, when it disclosed this number, which, as I said before, was already decided in the budget and was already implicit in the commitment to distribute above 13% for post-Basel IV, it comes from budgets that, in the words of the board itself, they said, "Well, we trust very much this budget, because first, you have always over-delivered over, over your budgets. Second, the macro environment, especially the interest rates, are more benign after the approval of those budgets in January 2024, especially because the interest rates will go down slower.
But furthermore, Q1, with an increase of 50% of the net profit and performance in all the lines of the P&L, clearly demonstrates that we are in the good path for delivering or maybe over-delivering in the budgets that we approved. So we are very comfortable around all the elements of this 2.4%.
Clearly, capital generation is closely linked to your expected profitability. You currently expect a Return on Tangible Equity of 12% in 2024, a further increase expected in 2025. What's driving that expected increase in the returns level, and what sort of level do you consider to be sustainable through the medium term if we think about, as you mentioned, a terminal rate in the sort of 2%-3% range?
Yeah. After Q1, the update, of the consensus has been an improvement of 15% of the profit of 25 and an increase in value of 25%, which is not bad, just for a quarter. Actually, we have seen that the trend of improvement of, the consensus all along. And usually, and this is not a complaint, it trails behind our guidance. It stands now, the consensus, at 11% return on tangible equity, when we have guided, as you very well say, at 12% for 2024 and above 2024 for 2025. This is driven by a number of facts, but.
And we will cover probably later on in more detail with Leo or now, if Leo prefers to do so, but it is driven by NII, which will grow by more or less 3% in 2024 and will remain flattish in 2025. And why are we saying that it will remain, that it will increase this year and will remain flattish next year? Because we see a single digit increase in the NII in Spain for 2024. We see a low single digit decrease in NII for TSB in 2024. 2024 is a transition year for TSB, with cost reductions and a further improvement of the caterpillar in the subsequent years. And in 2025, we see that effect reverse.
We see low single digit decline of the NII in Spain, but mid-single digit increase in the U.K. in the back of Caterpillar and also other factors. So in general, we consider it's going to be flattish, but 2025, we'll see a continued reduction in the cost of risk, as we have seen over the years, as we will see in 2024, and as we will see in 2025. And in 2025, we expect a marginal increase also in the fees and commissions, more in line with inflation. And overall, that will combat inflation and even be better than inflation, all those factors yielding to an improvement of our return on tangible equity in 2025.
Very clear. Now, if we were to focus in on loan growth, in particular, how are the lending dynamics progressing across your different sectors? And to what extent do you see any support from the widely anticipated interest rate cuts?
As we said at the beginning of the year and end of last year, we were very optimistic about the impact that the rate cuts would have in volumes. But I think it's much more important to realize that when we came on board, the new team, three and a half years ago, we realized that we had a structural disalignment in terms of risk costs. All the management actions that have been taken during these last 3.5 years have been conducted to improve that cost of risk by improving the methodologies. We have a network that is fantastic, in the sense that it is very close to clients, especially in SMEs, where it's especially relevant because it's a business of proximity. But we realized that we had some elements to improve in the risk cost. What have we done?
What we have done is that we have calculated the probability of default of each and every customer in the SME sector. Let me cover first the SME sector. What have we seen in Q1? We have seen a reduction on working capital of 4% on new production, but that's just because of seasonality. But nevertheless, it's flattening out. The working capital had grown very fast during 2023, but it's coming to a stabilization, and that 4% is just a reflection of seasonality. But much more relevant, what we have seen is an increase of 30% of the medium and long-term lending to SMEs. That is excluding the extraordinary elements, because otherwise we would go to 45% increase quarter-on-quarter. And this is in the back of investments.
Investments have been held back by uncertainty and by the rapid rise in interest rates. And of course, interest rates already have reduced, that despite that the central bank might reduce or will probably reduce interest rates today, it has been reduced in terms of, for example, the major metric, which is your IBOR 12 months, no? And in the back of that, there's healthier demand. But what we have done is, in the calculation of that PD, customer per customer, and in SMEs, you have to take into account that we owe one in two SMEs in Spain is a client of Banco Sabadell, and that measure, just looking at the fiscal codes of all the existing ones and those that are clients in Spain, or you can also look at it through Inmark, which is the declaration of clients. So what are we doing?
We are increasing our share of wallet in those clients of. But we are increasing our share of wallet on the back of specifically calculated probabilities of default. And that is what is driving growth, because it is much more focused in really delivering to the clients that can provide healthy growth, not only volume growth, but healthy growth. Furthermore, what we are implementing as we speak, and that will yield the results during this year and the year to come, is a new methodology that I think is quite powerful. And in that sense, I think we have leapfrogged our problems with cost of risk, and we are hopefully becoming best in class. Because what we are calculating is, manager by manager, we are calculating their value creation quarter on quarter. And how do we calculate this?
It's the income they generate, minus the direct costs, minus the cost of risk based on the probability of default, so forward-looking, minus the cost of capital. That gives a number in euros, in which every manager is compared to its peers and to its previous quarter. This is what is going to be in the back of what we hope, and depending also on the macro environment, in what is going to become our growth in SMEs, in the years to come, and hopefully already in 2024 and 2025. If we go to mortgages, in mortgages, we grew by 20%, the new production in Spain, compared to the previous quarter. This is in the back of much better segmentation, pricing segmentation, but especially on the specialization in the production. The funnels are improving tremendously, and our conversion rates are improving very, very much.
In consumer lending, again, at 3%, in the stock, not in the new production, 6% in the new production, quarter-on-quarter. And although this is a small element in terms of volume, in terms of profitability, it's very significant because of the margins. And we're doing very well there, and we expect that to grow again by double-digit this year. And finally, the mortgages in the U.K. The mortgages in the U.K. in Q1 grew by 14%, the new production.
and for the first time, over the last year and a half or two, we have grown in the stock value of those mortgages. So I would say that we are optimistic because we see that the underlying macro conditions provide an environment to grow in investments. Before, it was the growth in consumption, and that growth in consumption led to very strong growth in working capital for corporates and in cards and terminals, points of sale, and all the consumption. But we are seeing a shift. Although that remains stable, we are seeing a shift to bigger investment, and I think we are especially ready to capture that opportunity.
Very comprehensive. So we've gone through a lot of the volume dynamics there. You mentioned the underpinning of NII for the medium-term returns picture. But if we think about protecting NII through the medium and longer term, you have a nearly EUR 30 billion ALCO portfolio, a GBP 20 billion structural hedge with TSB. In that context, are you comfortable with your current sensitivity to changes in interest rates, or is that something you'd look to balance, further balance the interest rate risk?
Yeah, I want to cover that one. So basically, we work on the sensitivity of NII through the ALCO and the wholesale funding, basically, you know? So, in previous years, we were preparing the bank for interest rate hikes, and what we did is to increase the part of the ALCO book, which was floating, and to increase the part of the wholesale funding book, which was fixed, and this drove to pretty good results. We are number two in Spain in terms of NIM, you know, and we remain to be so. Now, since the middle of last year, when we started to see that rates were going to come down at some point, we started shifting and doing exactly the opposite.
So what we're doing is we're increasing the duration of the ALCO book, which still fairly low, 2.1 years, by increasing the part of the book which is fixed, all the renewals are being fixed, five year fixed, and by increasing the part of the wholesale funding book, which is floating. So again, we have been shifting that through the best part of the last 12 months, and we keep on doing so. That way, we have reduced the sensitivity to NII significantly from -6% for 100% parallel shift this time last year to less than around 2.7% today, and we'll keep on increasing that or lowering-
Yes.
As we keep on shifting the portfolios. We currently have around EUR 28 billion of alco book. Our natural number is around 30, so it could be that we can grow a little bit the book in the coming quarters, should we see an opportunity there. But certainly, what we're going to keep on doing is to increase the part of the alco book, which is fixed, and increase the part of the wholesale funding book, which is floating, no? And this is basically what drives, it's a part of what drives the evolution of NII, as César was mentioning before, no? So basically, we have three buckets. There's the first bucket, which is the commercial margin ex-TSB. That one's going to be positive this year for certain, because floating loans are still positively repricing.
And it's going to be negative in 2025, if we attend to our budget. Our budget, by the way, as César was mentioning before, was done in autumn last year, so I think right now is reasonably conservative. So to give you an idea, we were taking into account seven rate cuts between 2024 and 2025. So that brought us to an average Euribor for 2025 of 2.6%. If I look at the forward curve today, the average Euribor in 2027 is 2.6%, no?
Yeah.
So the market is expecting that, the reduction in rates is going to be much, much slower. And we were not taking into account volume growth, which is what César mentioned, no? For 2024, we were taking into account a decrease in the average outstanding balances, and in Q1, we're already flat, and I think in Q2 we're gonna grow, so that's going to change. And for 2025, we were only taking into account 1% increase in volumes. So there is a chance that that, as I'm sure, is also a little bit conservative as we stand today. Second bucket is the capital markets contributions. That's ALCO book, plus excess liquidity, minus wholesale funding costs.
As I said, that's going to be positive in 2024, and it's also going to be positive in 2025 because we are, we keep on changing that sensitivity through those two buckets, you know. And the third bucket is TSB, and TSB is going to be negative this year because, the caterpillar, we're only going to roll EUR 2 billion out of the 4 billion, because last year, we reduced the caterpillar from EUR 24 billion to EUR 22 billion. And then we still have headwinds coming as, well, from demand in terms of mortgages and a lot of competition in spreads. Spreads are still just below the backbook, and there's still some rolling of the mix of, liabilities, and therefore, the cost will grow, no? So that's what's going to lead us to the low single-digit decline this year.
But then for next year, for 2025, we're very optimistic because we will have GBP 4 billion of Caterpillar rolling over. We have around GBP 22 billion, with a backbook of 1.5%, while the frontbook is a five-year swap, so north of 400 basis points. In other words, we have EUR 22 billion times 250 basis points to be renewed in the coming three and a half years.
So that's a delta of around GBP 150 million per year in 2025, 2026, 2027, no? So the basis of all this, positive growth in consumer customer margin in Spain, plus positive contribution coming out of the capital markets, plus negative contribution coming out of TSB for 2023-- or 2024, sorry. That drives us to an increase of 3% NII, 2024 and 2023. And then negative contribution from the commercial margin in Spain, plus positive capital markets, plus positive TSB, it would lead us to the flattish assumption of NII on 2025, taking into account that, well, as we stand today, some of the assumptions included within these numbers, especially rates and volumes, may be a little bit conservative if we look at how things are going here.
Very clear. You referenced earlier some of the outlook on cost of risk, but you posted 50 basis points in Q1. You've guided for below 55 basis points for 2024 overall, with that positive trend expected, as you mentioned, to continue through 2025. How relevant in that thought process or in that guidance is the path for interest rates? How do you see the quality of the book overall currently as well?
Well, the macro environment can only help. So if the starting point is healthy, with this level of interest rates, when interest rates go down, that is only a tailwind, no? But furthermore, I think, further and above that, there are the management actions that, as I said before, have been the focus for the last 3.5 years to overcome an original shortcoming of the performance of Sabadell.
I think what we've seen in the cost of risk, and I think we all had a lot of doubts on how the asset quality could perform in this cycle, you know, especially with the very steep hike in interest rates, yeah?
So, for example, for 2023, when we were budgeting for 2023 in the autumn of 2022, basically, the models were telling us that, you know, asset quality was going to improve. And models were basically based on three levers: GDP growth, unemployment, and price of real estate. And all those three levers looked fairly well for 2023. But then at the time, we had two newcomers, if you wish, you know? One was inflation, which we hadn't had in the best part of 20 years, and the second one was rates, you know, which, again, we hadn't had in 10 years. So basically, we put some management overlay, and we budgeted thinking that NPLs were going to grow, and therefore cost of risk. The outcome for 2023 was completely different.
Actually, we ended the year with a difference of EUR 800 million in NPLs, so NPLs went down instead of up. And, also, we reduced our cost of risk, you know, while increasing our coverage, you know? So I think everything worked in the right direction. So in 2023, basically, our coverage increased by 400 basis points, while our cost of risk decreased by 10% and our NPAs decreased by 5%. Why has this happened? And by the way, it's the same trend that we're seeing in Q1, you know? And on top of this, sorry, in 2023, we saw a decrease of Stage 2 loans of north of 15%, or EUR 2.1 billion, basically going back to Stage one, most of them related to hospitality services or tourism.
What we're seeing in Q1, it's exactly the same. We saw a decrease of cost of risk of 10%, from 55 basis points total cost of risk to 50. We saw a decrease in the NPL ratio, and we saw an increase in coverage, so the trend continues. Why is this happening? Well, I think, the first reason, it's a starting point. We have gone through, in Spain, through a huge deleveraging exercise of the private economy in the last 10 years. So the big problem in Spain 10 years ago, or, 12 years ago, was basically the leverage of the private sector, not the leverage of the public sector, which at the time was reasonable. Today, obviously, it's much higher because of deficit. But since then, we've seen a huge deleverage of the private sector.
For example, households used to, at the peak, were levered as much as 86% of GDP. Today, it's 45, so almost half of that, you know? And the average in Europe, by the way, it's 54, so we are below European Union's average. And when we look at SMEs and corporates, the peak was 140%-something, and today we are in low 80%s, while the average in the European Union is around 100%. So we've all done our homework in these 10 years, you know? We have all restructured, not only banks, but the companies-
and the households. So the starting point is very healthy. It's actually at minimums in the last 20 years of leverage. On top of that, I think inflation is no longer an issue. It was an issue in 2022, for certain, and we lost some capacity, if you wish, you know? But in 2023 already, wages were above the inflation, and in 2024, wages are above inflation. And then there was the uncertainty regarding rates, because rates have gone up very high. But then again, when we look at SMEs and corporates, it's fairly clear that most of them have, or all of them, has surpassed both inflation and rates.
We see them in our day to day, when we go to the supermarket, when we pay our electricity, when we pay our gas, when we go dining, when we go holidays, you know, it's pretty clear. When we see it inside the bank with the increase or the good evolution of the ratings of the companies, because the companies, as we file the new accounts, what we see is an increase in profitability and increase in liquidity. So this could lead us to believe that the problem could be with households or with individuals, yeah? But then again, when we look at the individuals book or the mortgages book in Sabadell, 40% of the book was originated before 2011.
In other words, it's a book which has been amortized in principle for the best part of 13, 14 years, plus the value has skyrocketed. In other words, they had a, an average of EUR 150,000 as a principal when they originated the loan. Today, it's EUR 50,000. So yes, interest rates have gone up, but the principal is 1/3. And by the way, this book was able to pay through an employment rate of 27%.
So for me, this is basically a triple A book, you know? There may be some situations, but it's. I cannot imagine how they can become statistically significant. It's just not gonna happen. And then the remainder of 60% of the book was originated since 2016 because of this deleverage exercise that I was mentioning before. And in the case of Sabadell, and this is probably a little bit different from other peers in Spain, 80% of this book is fixed. So basically, 60% of our mortgages are fixed rate, and therefore, rates have not had an impact in the cost of risk origination.
This was a drag in terms of NII, and that's why our NII grew less than some of our peers last year, because we have less sensitivity to rates, because we have more loans which are fixed. This should be good in terms of NII when the rates start to decline, because our sensitivity should be also lower than other peers, but it's certainly going to be good in terms of as a quality formation, no? And for SMEs and corporates, two-thirds of what we have is actually fixed also, no? So we are fully that together, the macro is very benign, unless something breaks, which we cannot foresee now. The numbers in terms of GDP are better than expected—significantly better than expected, both in 2023 and 2024. Unemployment is going very well, much better than expected also.
There's no issue with the price of real estate in Spain, because we didn't have a bubble in the last few years. So the macro is good, the starting point is good, and then there's all the management actions that César mentioned, which I think we're starting to see through. So for example, when we got into the bank, we stopped doing consumer finance because the pre-scorings were not working, and we had very significant NPL ratios out of the production that we were doing. We worked out all those pre-scorings, and we started doing consumer finance at the end of 2022 again, and the vintages now are giving us pretty good numbers. So that's already in the cost of risk number. That's why one of the reasons why cost of risk has gone down.
And then we've been doing the same in the last, whatever, 15 months on the SME and corporate space. So we have not yet seen those new vintages coming through, but we are going to see them in the coming quarters, no? So the combination of all these three things, no, macro, the starting point, and the management actions, it's what leads us to believe that, the evolution of cost of risk is going to continue the trend that we have been seeing in the last three years, no? Which is a decline in cost of risk while we reduce our NPLs, and probably the coverage now, it's within peers, so not necessarily has to go up very much.
And that's what makes us very confident with the fact that cost of risk, it's going to be below 2023 and 2024, already was in Q1, and it's going to be lower in 2025. And those two issues, the NII and the cost of risk, it's what basically drives our guidance for return on tangible for both 2024 and 2025.
Okay, one question, final question from me before I open it up for the audience. Thinking more about the bank strategy, right? At the first quarter results, as we've discussed, you upgraded your profitability guidance for this year, further improvements is expected in 2025. In that context, are there business areas where you're currently most—which are the business areas you're currently most focused on as a management team? And sort of a follow-on to the points you were just making, does the fact that we're likely heading into a lower rate environment change your strategy at all, or how you think about, at the margin, where to put capital to work?
I think, our strategy is very simple: It's around delivery, delivery, and delivery. That's what we have done during the last 13 quarters since we joined the bank, and that is what we plan to continue doing. To begin with, with a constant perimeter. Alterations of perimeter usually create a lot of confusion and use a lot of management action. I think improving what you have is most relevant. Our strategy is to continue to with this new path and increased path, now that we have reached level of capital, which we are very comfortable that we are generating capital, that we are generating profits, with a distribution of those 2.4%, or maybe more, capital distribution on the back of 2024 and 2025.
In terms of specific areas, it's quite simple because it allows us to do multiple things at the same time on the back of the new organization. There's a lot of specialization. When we came in, we distributed in different business areas the responsibilities, and therefore, we have banks within the bank that can drive with a lot of confidence and with a lot of autonomy, within reason, forward, no? If we look at it per segments, I think the jewel of the crown is, is SMEs in Spain. That's the jewel of the crown. It's the one that has the highest Return on Tangible Equity. It's the one in which we had, as we, we have, as I said before, one in two relationships in Spain, out of which we can grow. Our focus now is in profitable growth.
We are ready now to grow that segment by providing a much more proactive approach based on the knowledge of the risk situation of those clients and knowing their needs, and in the back of that proximity that is so important around SMEs, to just handhold and to go along with our clients. Second, in mortgages, I think we are going to maintain our activity. We see the pipelines full, and we think that the specialization that we have driven, the price segmentation, the cost of risk improvement in that segment is also going to help. In consumer lending, we have already mentioned. TSB. TSB is undergoing a reduction of its structural costs that will place it in a better position as a specialized lender.
It's a small bank for the U.K., but at the same time, it is tremendously specialized with a number one valuation from the key players, which are the brokers, which provide 80% of the production, no? I mean, the back of the caterpillar, so that's going to go well. And if you allow me a last mention, I think we are in a sweet spot from a size perspective, in a very sweet spot, because we have a size that has allowed us, without any disruption, to become fully digital in the retail area. And that is not so costly, because front-ending, once you have the back end that is in place, analysis extremely robust, and our infrastructure, IT infrastructure is, I think, state-of-the-art.
But what matters in terms of delivering in retail is the ability to combine teams in an agile way that allow you to digitalize and to make things simpler. And that is not so expensive; it's just management, because the front end is incomparably less expensive than the back end. And then, therefore, our size allows us that proximity to the SMEs, but furthermore, what it allows you is to grow without cannibalizing yourself. So I think, in that sense, from a strategic perspective, we're in a very sweet spot with that ability to combine selective growth with profitable growth, with focus in the different areas and in the different needs of our customers in a very flexible way.
Very clear. I think we probably have time for one question from the audience. There's just three reminders from me. One, if you could wait for a microphone to come to you. Two, if you could say your name and which institution you represent. And then third, obviously, if you remember the—what I said at the beginning about our inability to talk about the deal. Any questions from the audience? Right in the middle.
Hi, Andrea Puccini, Fideuram. I have one question on the sustainable finance. Of the EUR 4 billion that you have mobilized in the first quarter, and concerning the EUR 21 billion, that is the target for-
Can you talk a little bit?
Okay.
All right.
Of the EUR 4 billion that you mobilized for sustainable finance in the first quarter, and the EUR 21 billion that you are going to mobilize in 2000 up to 2025, how much is strictly related to renewable projects, like wind project and solar projects?
Did you get that?
I don't have the numbers at the top of my mind. We are number one player in renewables in Spain. We are very strong on that line of business. I would have to get back to you on those numbers, but I would assume it's not immaterial within those numbers, because if-
Do you have an idea of the exposure to the PPA and the spot price for the electricity?
Not at, not from the top of my mind. I'm sorry.
Thank you. Thank you.
Okay. I think, on that note, first of all, thank you both for giving up your time, spending time here discussing with investors. We appreciate you coming and participating in the conference. Thank you very much.
Thank you.
Thank you very much.