Good morning, all, and welcome to this investor webcast of Aireon's First Quarter Results for 2021. My name is Benedikt Gislason. I'm the CEO of Arion, and I will go we'll be going through this quarter's results along with Stefan Petersen, the CFO. This was a particularly good quarter, our best quarter in 4 years. And the bank's revised strategy continues to deliver.
The return on equity was above 10%. And if we look at our optimized equity, the sort of the target equity that we intend to use in our business, the ROE is much better, around 15%. We continue to deliver on income growth in this quarter of 4.2% and also a decrease in OpEx of 3% from the same quarter last year. What is impacting this quarter as well are positive impairments. And this is not due to any tinges in our IFRS models, but has to do with the fact that our clients are doing better.
Many of our companies that bank with us have navigated through this pandemic in a good way and show increased financial strength, and that merits improved credit ratings. And also for our kind of troubling loans. We've seen impairments being reversed due to payments on these impaired loans or increase in collateral value. This was a very active quarter in terms of trading in our shares and a really strong performance, outperforming the Olmecs Iceland and the large and mid cap Nordic peers, which was particularly pleasing because in this quarter, we saw 2 of our largest shareholders selling completely out of its holdings. And through this, we saw an increase in number of shareholders from 7,400 to 8,250 or 12%.
But majority of shareholders continue to be Swedish investors. We in this quarter, we paid out SEK 2,900,000,000 in dividends and bought back around SEK 11,900,000,000 of market value of our own shares after having received the permission from the regulator to do so. But we continue to enjoy one of the highest capital ratios of European banks, with leverage ratio which is significantly stronger and still a SEK 41,000,000,000 surplus capital plus another SEK 3,000,000,000 of retained earnings that we intend to pay out as dividend. That's from our Q1 results. Now we are seeing the light at the end of the tunnel, and Iceland is now navigating better than ever out of this pandemic.
And we now expect all residents, 16 years and older, to be vaccinated before the 30th June. And by that time, we will probably see all domestic COVID restrictions lifted. And that is when we will start to see our offices fully return to normal, which will be good for culture of collaboration and innovation for our firm. The outlook for One of our larger export industry tourism is looking better than people were hoping this spring. Bookings speaking to our clients, we hear that bookings are up quite a lot.
And It's clear that this is going to be driven by vaccinated tourists, primarily from the U. S. And U. K. Probably.
And so the forecast for this year of 600,000 visitors is Actually, maybe not that optimistic, but what is important to note as well is that the shift that Iceland took to move into more lucrative tourist activities had already started to happen in 2019 2020 on the back of the collapse of Wawer. And this, we think, is set to continue when travel and tourism resumes. So Iceland is moving away from the model of more tourists, the better to one of the higher expenditures, more nights and premium tourists. And you can see that actually from the hotels that are set to open this year. These are high end hotels and tailored to this particular client base.
And what is good to see is that a number of airlines have already either announced that they're taking our flights to Iceland or have already staffed it, like DASPA, which brought the 1st U. S. Tourists vaccinated to the country last weekend. And this is clearly going to have an impact to the economic recovery of Iceland, and we Probably more optimistic about that now than we were a few months ago. And I think it's fair to assume that we won't see any further reduction in the policy rate as inflation is now hovering around 4.6%.
And it's rather a matter of when we start seeing rates hike. We, however, do not expect the inflation to be long lived. And we will see, If tourism starts really picking up, this is going to probably impact the exchange rate and imported inflation will not be an issue. Now Digital Solutions have impacted our customer interactions and sales significantly, and we continue to increase our sales through digital channels. And have also taken up digital interactions in new ways like video conferencing.
So our clients do not have to sort of book meetings at the branches and can book meetings online. But what we're also very focused on now is to optimize the customer journey and service excellence. And We're looking to beef up engagement, improve conversion rates and process efficiency and gain better visibility to risks and friction areas. And to that strategy, we rolled out 2 new services Recently, the pension fund solution and onboarding system, which has won already won an award as an outstanding digital solution. But secondly, we have recently rolled out as a minimum viable product, a premium service, which is tailored to the high value core client base that require more personal banking services.
And this is something that we see as a major growth opportunity for us. Now we've also incorporated Werder into our customer journeys and intend to do more of that going forward. And as you can see from this slide, Verdel is enjoying healthy Growth in market share, it's one of the better performing insurance companies in Iceland. And We believe that we can continue to grow this business and improve profitability further and make it a Tier 1 operator within the insurance base. In April, we We completed one of our largest IT investments so far, which was an upgrade of our core banking system called SOPRA.
This is a key milestone in supporting Open Banking journey and reducing IT costs in the long term. And some of the future benefits of this is going to be this is going to help us in our open banking journey. And this will shorten the development cycles for our digital products. And we see because we're sunsetting a number of systems against this, our IT architect is going to be simplified greatly. We see this as an opportunity to reduce operation costs further and reduce the technical complexity in our operations.
This was an investment of SEK 4,000,000,000 and will be amortized over the next 10 years. That concludes my section of the presentation. And I now hand over to Stefan Petersen, CFO.
Thank you, Meredith, and good morning, everybody. It's a pleasure to be here. As Brendan said, we had a Very good quarter, in a way, a quarter where everything worked out nicely. I mean, we saw core returns up 4.2% year on year. We saw OpEx coming down and we saw other items pretty much all being favorable.
And to note on that, we met Pretty much all of our financial targets during this quarter, and that is something that we are obviously striving for every day, our return on equity being 12.5 exceeding the 10% financial target. Our return on equity, assuming the 17% CET1, Way higher than our target at 16%. Operating income over REAs at 7%, exceeding the 6.7% target. And then cost to income being at 46.2%, slightly over our 45% target. So in a nutshell, a very good Quarter.
If we look at the income statement, then it's just reflected in the statement. We see that Net interest income is up from the same quarter last year. We see net commission income being very strong as is insurance income. The net financial income is in a way transforming itself from the Q1 of last year, obviously, when COVID hit us. But we have had both our equity and bond positions have been actively managed and are yielding very good results.
So operating income is up from 46% year on year. We have been able to continue to lower our operating cost by some 3%. So and we will continue to work on that. Impairments Maybe as a bit of a surprise, they are positive during the quarter, as Ben thinks said. It is not because we are changing our models, it's because of Activities actually in our own book, where our customers are actually doing better than we would have anticipated, some of them.
And we are seeing increased collateral value and payments of loans that were in Stage 2. So earnings before income tax are almost SEK 7,800,000,000. Income tax is basically as we would expect. So earnings before from continuing operations at just under SEK 6,000,000,000 and we have a substantial change from the last quarters really in the discontinued operations line. You may remember that we said after the Q4 last year that we expected this line to sort of turn into neutral to positive this year.
And we are very happy to see that this is turning out sort of in line with our expectations during this quarter, meaning that we have net earnings of just over SEK 6,000,000,000. It is not all easy, truth to be told. And we are fighting a defensive battle when it comes to our net interest margin. It drops by 10 basis points from last year and there is a substantial drop from the Q4 of last year. In a way, what is happening is that the extremely low interest rate environment is sort of really taking effect.
And in a way, we had sort of we were sooner to react on the funding side, And now the lending side is sort of catching up. Obviously, we should also add to that. There are changes in our loan book. Firstly, we are seeing an increased portion of mortgages in the loan book, which should weigh on NIMs. But also, we are seeing a shift in the domestic Market when it comes to indexation of loans.
So our indexation imbalance is reducing. And so we are seeing less impact Of the inflation from what we saw in sort of the previous quarters. This also feeds into net interest income over REAs Sorry, over average credit risk, an indicator that we follow very closely. That is slightly down from the previous quarters. And we, in a way, expect to Our expectation is that whilst we have the super low interest rate environment, we will be sort of in the 2.6 to 2.8 NIM range.
Fees on commission and insurance income, they have been improving in line with our strategy. We are improving on pretty much every front when it comes to commission income, with the exception of collection and payment services, where in a way we feel that glass is Half full instead of half empty. Clearly, sort of tourist related turnover still has or we expect that to come into our business when the economy picks up. But we are particularly pleased to see how the merger of Corporate Banking and Investment Banking has resulted in increased activity in the merged CIB. And it's interesting to see that we are not seeing growth in the corporate loan book during the quarter.
But we are seeing Massive growth in sort of corporate loan book activity and capital velocity. So and that is feeding into fee income. On the insurance side, the best quarter for Werther ever, very solid combined ratio for Q1 and we have high hopes for whether to continue into the year. On the OpEx side, Then we have been hovering around the 45% costincome ratio during the last few quarters. We continue to reduce the number of FTEs and we see that continuing.
We're always trying and aiming to rationalize. We are also seeing a reduction in other OpEx. IT is still by far the biggest expenditure item. And we hope that the Sopra core system will help us rationalize on that front and we have aimed for that. But then at the same time, we should acknowledge that there are cost items which are unusually low during or have been during these last few quarters due to the pandemic.
The balance sheet, as before, is strong and simple. Loans to customers are around 71% of our total assets. And as you can see, they are evenly spread between individuals and corporates and actually the individual side Well, the mortgage side, more specifically, has been increasing in our portfolio. And as I said before, When we say that mortgage lending is up 3.7% and we say there's a reduction in the corporate loan book, That is not because the corporate activity is low. This just that we both sell and syndicate our corporate loans.
Our liquidity position is strong. The LCR is 192%, 153,000,000 in Icelandic kroner. So the bank is in, both from a capital and liquidity perspective, in a very good position both to distribute capital and to support the Icelandic economy with through lending activities. On the liability side, as Ben de said, the capital position and the equity position is very strong, leverage ratio of 14.7 percent, balanced funding profile with sort of Deposits increasing in the funding mix. And we have been during the Q1, We have been distributing capital, as Binta said, both through dividends and share buybacks.
And I think we were the only I don't know of another bank in the European Economic Area, which was allowed to buy back own shares during the quarter. And we feel that's a testament of our financial strength that the regulator was willing to allow us to do that. Finally, on capital, the capital ratios are super strong as ever, 26.9 percent. Total capital, 22.4 percent in CET1, up 10 bps from the end of the year. And in this, we have already calculated the buybacks that we had left at the end of the quarter and 50% of net earnings for the quarter.
And what this means is that we have SEK 41,000,000,000 of surplus capital right now. And that comes on top of a very healthy Management buffer of SEK 26,000,000,000 And as you may remember, the countercyclical buffer that was lifted, We include that in our management buffer. So where do we stand? We feel that we aimed with a very solid strategic vision. We will strive to build on the positive progress that we have had so far during the last few quarters.
We expect the economy to pick up in the 3rd quarter. That will obviously offer a number of opportunities for the bank. And as Ben had said, our expectation for recovery has been, in a way, moving closer rather than further out, which is a very positive thing. When it comes to the development of the loan book, mortgages sort of when it comes to building the loan book, Mortgages will be on the sort of will be in focus as well as our increased Focus on ESG. But then we will continue our activity on the corporate side, both when it comes to lending as well as managing position for customers with their interest in mind.
We feel that the reduction in economic uncertainty allows us for improved visibility on asset quality, €94,000,000,000 or €11,200,000,000 of 11.2 percent of our loan book is sort of affected by COVID. Most of that is very solidly collateralized and our risk allowance hasn't moved during the quarter. So this improved visibility is very welcome for us. We are obviously committed to our capital release strategy, and hopefully, we will continue to work on that. And in a way, we don't see anything prohibiting us from releasing up to SEK 50,000,000,000 of capital over the very near term.
So having said that, I think I hand the floor over to the moderator.
Thank Our first question comes from the line of Martin Ludkett Dorf, Goldman Sachs. Please go ahead. Your line is open.
Yes, good morning. Thank you for taking My questions and congratulations to the strong quarter. I have four questions, if I may. And the first one It's on NIM and the market decline in the Q1. And I was just wondering, is there any one off impacts Impacting that progression down in the Q1, which may have explained the comparatively large move.
And I was also wondering If the impact of lower rates and the smaller inflation linked book is now fully fed through, is that what gives you the confidence That the margin will stay within the 2.6% to 2.8% range. Secondly, loan growth It seems to have been strong in the quarter, the base of CFS 7% annualized. Is that a good guide for the run rate going forward? Just given your earlier comments in terms of the economic recovery in Iceland, I was just wondering if you could address the, what the scope for loan growth is in particular this year and next year. Thirdly, on fee income, I was just wondering how to think about lending and guarantees contribution to fee income going forward.
This Seems to be comparatively stable and on an increasing path. Were there any special impact in the Q1 for the print? Or is this essentially your work done and we can expect that to continue? And lastly, for Flik, just to pick up On your comment on capital return just a moment ago, so nothing to prevent you in principle to return. How long do you think could it take to normalize the capital structure?
So to return the excess capital, is this something which would take multiple years? Or is there a potential
Thanks, Martin. I think we've written down all your questions, very good questions. If I could start by answering your last question on the capital return. I think we this is somewhat a function of our capital generation and profitability. If we continue to deliver quarters like this.
I'm sure that we will be in a position to accelerate the capital release further. But In the near term, I would say, means that we would within, I guess, the next 18 months, we want to have a normalized Capital base with everything else staying the same. But as I said, if the capital generation continues to be so strong as it has been in the last few quarters, This could give us an increased sort of optimism to do it quicker. I'm going to refer the NIM question to Stefan, but talking about the loan growth and fee income and lending guarantees, maybe answer it sort of a bit together. So as we stated in our Press release, even though we didn't see any growth in the corporate loan book, the activity was quite tight.
So there's a lot of credit going through our CFP unit and doesn't end up on our balance sheet or is sort of short term financing. And that is actually part of the revised business strategy that we presented in November 2019 in London. And that is resulting in much higher fee income and from the lending and guarantees line item. And that is something that we and which it's to continue. This is a strategy that we are very pleased and happy about having adopted.
And we have and We see there is a market out there for this and this is one of our ways of gaining competitive advantage and being able to offer our clients better terms with financing from 3rd parties. So the loan growth primarily comes from the growth in the mortgage book. And it's Currently tracking a bit ahead of our kind of budget for the year. And we've said that as long as the policy the real policy rates remain negative. They are obviously massively negative at the moment with CPI running at 4.6%, the policy rates at 75 basis points.
But As they continue to be negative, we have a competitive advantage towards especially the pension funds. So we expect This is to continue and at this rate, yes. And we're seeing So massive activity, almost half of our mortgage book was refinanced last year. But the good thing that we're seeing now is we're adding on new clients. And this is very sensitive to interest rates, and we are now currently offering probably the best interest rates or among the best in the market.
And that is so it's our intention to continue to grow this book. We see This is conservative asset class. The LTVs are relatively low compared to, let's say, rest of the Nordics. And it offers good return on capital because this deploys less capital than some of the riskier credit exposures with 100% risk weights.
If I take the NIM, as I said, I think it is a defensive battle. I think our belief is that we are bottoming out and hoping to sort of manage to stay above the 2.6% level in NIMs. I mean this obviously is massively affected by the base rate, which is at 75 basis points right now. We feel that there is clearly our deposit base is more or less at 0. So room for maneuvering our funding costs Lower in a rate cut is minimal.
However, looking forward, We feel that the risk of a further rate cut is extremely low as we see it now. And we are starting to believe that the bias is on the flip side that the Central Bank will act In the not too distant future, I think I would put it that way. And that is definitely positive for our NIM.
Yes. There is a much higher proportion of our credit book now on variable non CPI rates, which means that we have better control, I guess, of sort of the pricing and and managing our net interest margin.
Thank you. Thank you very much. Very clear.
Thank you. Our next question comes from the line of Johan Strom of Carnegie. Please go ahead. Your line is open.
Thank you. Two questions from me. First, thanks for the presentation and congratulations with a great quarter, Benedikt and Stefan. With the outlook of increasing Interest rates are at least in that direction. Should we expect competition from domestic pension fund to increase as well?
And then on costs, Stefan, you mentioned lower activity related expenses in Q1. Just curious on where it is hitting the P and L. This quarter, I've noted a very low other operating expenses in particular. So should Should we expect an increase in this with the gradual reopening and more people at the office? Thank you.
Thanks, Johan. Let me start by answering your first question on the Competition with the pension funds, as I mentioned earlier, the pension funds are very sensitive to inflation. Their sort of asset versus liability calculations do account for inflation. And that's why sort of when the nominal rates are in the kind of negative territory From a real interest rate level, they opt out and they've certainly done so in the last 12 to 18 months. And whilst that remains, we won't see them In our opinion, we won't see the pension funds actively competing for markets here in the market space.
And What we rather foresee is that their investment allowance abroad, which is now currently capped at 50%, would be increased. And they will continue to diversify out of Iceland and invest into other asset classes outside of Iceland. This pension fund system is has outgrown the banking system and is set to be grown further in the next 15 to 20 years before it sort of Max is out in size, and this diversification is really needed and welcomed as Our export industry, if they start picking up, again, that could put pressure on the exchange rate appreciation of the krona, which is something that I'm sure the Central Bank is worried about. So yes, we're hoping to continue to enjoy this kind of advantage in the market space for some time to be. Yes.
And if I talk about the cost side, I mean, as I discussed, we are obviously Focusing heavily on IT as there's a big cost item. We also feel we are doing well on the housing side. And basically, we are working on the cost side. But I mean, there has been very little human interaction over the last Year or so. So when it comes to marketing, when it comes to traveling and so forth, I think we should expect to see that creep up a bit over time.
It won't tilt anything. It's just I mean, I think it go for every corporate in the world that we'll see an increase in that in the coming quarter. In a way, I hope we'll see an increase in that in the coming months.
Yes. We have a kind of To support our 45% cost to income ratio, we have a cost rationalization program in place, which we are tracking every month and very firm about sort of keeping a lid on costs going forward.
Thanks very much for the color. Benedikt, just back to your comments on pension funds. Just to be clear, they have mandates and there are no restrictions for them to focus their investments a little bit more on international stuff? Or It seems very good. It seems like you're in a very good environment for continuing a strong and profitable growth within mortgages.
Just really curious about hearing your comments, which I really appreciate.
Yes. I mean currently, their Foreign investment portfolio is just over 40%, 41%, 2% or so, if I remember correctly. And the current legislation stipulates 50% maximum exposure abroad. But the sort of the public discussion has been to Increased that. I mean, we've seen if you look at the Norwegian Oil Fund, it's solely invested abroad.
And there are good arguments for diversifying further out of Iceland. And This mandatory and voluntary pension scheme is the 3rd largest now in Europe in terms of GDP per capita, But this is actually probably the fastest growing as well because we have now between 15.5% to 20% of salaries going into the scheme every month. And the demographics are still very favorable. So you won't to see outflows exceeding inflows until for most funds for the next 12 to 15 years.
And it's not only public discussion. I mean, the Central Bank government came out on this. So it's gaining momentum.
Great. Thank you very much. I'll hand it over.
Thank you. And we've got a follow-up from Martin of Goldman Sachs.
Just one follow-up question in terms of capital return. Could you just clarify, if you were to do another buyback, do you still require an EGM approval for that? Or is that within the So essentially that the buyback could only be subject to Central Bank approval as opposed to dividend, which I think, understand what would require an AGM? Thank you.
Yes. So we obtained on AGM approval in our last AGM for a permission to buy back up to 10% of our own shares. And in April, we canceled 70,000,000 shares. So we currently hold around 3.5% or 3.4% of our own shares. So the only kind of approval that we need is an approval from the regulator.
In the case of buybacks, we do need that approval and then just forward approval, obviously, to reinstate a buyback program.
Clear. Very clear. Thank you.
Thank
you.
Okay. So it seems no further questions come in through on the phone, so I'll hand back to the speakers in the room.
Thank you. Thank you very much for joining us for this presentation and for your good and comprehensive questions, Martin and Johan. And we'll see you again in 3 months' time. Thank you.
Thank you.