Good morning, all. Thanks for attending, and a warm welcome to this presentation of Arion's Q3 Numbers. My name is Benedikt Gíslason. I'm the CEO of Arion. Following my presentation, you will hear from our newly appointed Chief Operating Officer before our CFO, Ólafur Höskuldsson, goes on in more detail through the numbers. We will, as before, end the webcast with a Q&A session, which will be moderated by our Head of IR, Theodór Friðbertsson. Now to the results. There is a continued momentum in our business, and we achieved all our main operating targets in the first nine months of 2023. During the third quarter, loan portfolio growth slowed down to 0.8%, reflecting easing economic growth in Iceland.
Normally, we would welcome healthy economic growth, but the task at hand now is to reduce inflation and interest rates, so reduced tension in the economy is actually a step in the right direction. High interest rates impact households and companies in Iceland, and consumption and economic activity, in general, have declined in line with the Central Bank's targets. However, despite the lower loan growth and less favorable economic conditions, our clear focus on more capital-efficient activities, capital velocity, and broad range of services which generate diverse revenue streams, combined with our focus on efficiency, delivered a stable and strong business in the quarter. One example of this is our bancassurance model, the partnership between Vörður and Arion, which has gone from strength to strength.
Together, we are constantly seeking ways to integrate our banking and insurance businesses so that our customers can get the most out of the services that we offer. It was good to see an increasing number of customers, both retail and corporate, recognizing the benefits of doing business with both companies in this quarter. The bank's capital and liquidity position continued to be robust, factors which contributed towards the bank's recent upgrade to an A3 rating by Moody's. Recent positive outlook reviews on the Icelandic sovereign are also a strong indication of the resilience of the economy. On capital management, we expect regulatory and rating capital thresholds to converge more over the medium term, which would enable us to continue normalizing our capital structure.
At the end of third quarter, the CET1 ratio stood at 19.4%, 50 basis points increase in the quarter, or 450 basis points above the regulatory minimum. And our LCR ratio was 179% at the end of the quarter, with a short duration of our liquidity portfolio and no held-to-maturity accounting. And the final but very important message on this slide, please save the date for first of March, 2024. That is when we are planning to have our third Capital Markets Day since we listed in 2018. It will be held in our headquarters in Iceland, where we will be providing an update on our key strategic initiatives and outlook. And now to the Icelandic economy.
After a strong GDP growth in the second quarter, the third highest among the OECD countries, there are now clear signs of slowing domestic demand, as seen in the payment card turnover and current account balance figures, seen on this slide. The strong foundations of our economy, which have been gradually built over the past decade, are intact, supported by robust export growth and healthy national saving rates. Leverage of households, corporates, and the central government are low in historical and international context. Also, as we have pointed out before, you can see how much the fourth pillar of the Icelandic economy has grown in recent years. By the fourth pillar, we are talking about growing industries in Iceland which are not tourism, energy, or fisheries related.
This demonstrates well the increased diversity in Iceland's ability to generate export revenues, which should contribute to future growth and economic resilience. This is where the value creation happens. With a ratio of one active company per six adults, Iceland exemplifies a culture of innovation and economic engagement. In Iceland's active business landscape, Arion plays an important role by tailoring solutions for diverse needs. On a group level, we have calculated that we have at least one touch point with close to 190,000 individuals, or 50% of Iceland's population, and we are now actively seeking to build a broader business relationship with those customers through innovation and customer-first focus, a key strategic initiative that we'll be elaborating more on in our upcoming Capital Markets Day.
In the quarter, we continued to work with our customers who are facing higher financial costs, as well as other increased costs. We have been reaching out to our clients and discussing the options with them. There are various ways of reducing the debt service, and we look into our clients' circumstances on a case-by-case basis, and seek to find solutions together. In October, we announced organizational changes at the bank involving the creation of a new division, Operations and Culture. The changes are designed to bring key units closer together, enhance operational efficiency, manage transformation projects more effectively, and bring a clearer focus to service and customer experience. Culture and risk awareness are critical to financial institutions.
The division will also play a pivotal role in the continued development and shaping of Arion Bank's corporate culture, and the division will be headed by Birna Hlín Káradóttir, who has served as the bank's general counsel since 2019, and has been a member of the executive committee since 2020. I now give the word to Birna Hlín, who delivers a recorded message to this conference call.
Good morning, everyone. My name is Birna Hlín Káradóttir, and I'm the newly appointed COO of Arion Bank, formerly the bank's general counsel since 2019. In late September, we notified the market of the establishment of a new cross-functional support unit called Operations and Culture. We have put together in this unit functions from the CEO's office, from customer experience, and finance. This is now one of the largest divisions within the bank, and with around 130 employees. So why are we doing this? We live in a challenging environment. Naming a few factors there, we have this complex, comprehensive regulatory environment in the financial market, and we don't really see that changing materially anytime soon. We see changes in customer and employees' needs and behavior, and we have the technology that is, as we all know, changing faster and faster.
We want to stay ahead of all these challenges and changes, and that's why we have to organize ourselves so that we can actually do that. And that's why we have established this new cross-functional division, and we are really embracing all of these challenges and even, even seeing them as opportunities. So we have put together human resources, business services, that is back and middle office, and typical operational functions, legal services, and transformations. And we are eliminating silos, and we are actually thinking about how the backbone of the bank and the COO can really execute the strategy in a efficient manner, and we believe that by doing this, we will achieve that. The transformation function will play a key role there, and will drive leading operational projects throughout the organization, obviously in really good cooperation with all other units of the bank.
We have culture now up there in the C-suite, and you don't really have to seek far in business literature to see that most of the experts emphasize that culture even plays a key role in for organizations to achieve their strategic goals. We are embracing that, and we want to put focus and emphasis on this part of the operations, and by doing this, we are going to make our good corporate culture great and fully aligned with our strategy. The CEO will consolidate support functions, providing central lead focused on delivering strategic goals, leading transformation, building strong corporate culture, and thus creating competitive advantage by improving ways of working and talent management. We firmly believe that this will positively affect our business outcome, our risk mitigation, customer experience, employee engagement, and attraction of new talent. We here in Arion, we have big ambitions.
We have clear strategic goals. We are doing these changes because we want to move forward faster and more effectively. We are a leading company, and we are moving that path even more forward for customers, for employees, and all other stakeholders. Thank you.
Good morning. Thank you, Birna, for a good introduction, and now looking more closely at the results for the quarter. So as I normally do, I start with the highlights. First, we conclude another solid quarter with a return on equity of just under 13%, concluding an ROE for the year of 13.9%, a strong result. This continues to be supported by the diversity and the maturity of our businesses, combined with a conservative balance sheet management and cost discipline.
Second, while the net interest income continues to be strong, we did see a slight reduction in this line item for the first time in a while. We expect the margin to continue to be robust, around 3% level, but we do anticipate more fluctuations going forward in the near term, with foreseen tailwinds as well as headwinds, which I will cover in more detail on a later page.
Third, the growth in the loan book has been slowing recently, and this continues in the third quarter. This is mainly generally driven by the slowing economy in Iceland, as Benedikt mentioned earlier, but also in response to the increased S&P capital thresholds, which were outlined in the last earnings call. Finally, our capital funding and liquidity position continues to be very robust. Our common equity ratio increased by 50 basis points during the quarter and now stands at 19.4%. It was then a very strong confirmation of our position to receive the upgrade from our credit rating of Moody's to A3 during the quarter. Now looking more closely at the income statement.
Net profits was ISK 6.1 billion, which take the net results for the year to ISK 19.5 billion and the ROE of 13.9%. The core income lines, net interest income, commission, and insurance grew by 2% between years, but were below the second quarter. For commissions and insurance especially, there is some general seasonal effect here, but I will discuss this in more detail on later slides. Financial income continues to be challenging with volatility in the capital markets continuing this quarter. This has impacted our investment portfolio within our insurance business, but also our market making business. Impairments in the quarter were slightly above last quarter at ISK 741 million, but cost of risk is still within what we see as through the cycle average.
Now looking more closely at the individual income statement lines. Starting with net interest income. In the quarter, as discussed, we saw a turn in what has been a continuous increase in interest income over the recent quarters. Within this quarter, both interest income and the margin slightly down. The net interest margin was 3% in the quarter and 3.1% for the nine months. I think, firstly, it's important to note that we will always have some fluctuations in this, in the net interest margin, and especially in a rate environment that has been evolving as rapidly as it has been in Iceland over the recent year. There is, for example, a timing difference between rate hikes on the asset and liability side, which always makes a comparison within three months period challenging.
But we also had some specific items in this quarter which were headwinds for the interest income in this quarter. We did see a lower inflation in Q3 versus Q2, and with a higher CPI imbalance, the inflation impact between quarters is an increasing driver of our interest income between quarters. This meant a reduction of ISK 200 million between Q2 and Q3. Growth in the loan book has also slowed, and especially on the corporate side, and this clearly means that growth in net interest income also is reduced. We also saw a significant inflow of FX deposits through our private bank during the end of the quarter, and this also has an impact in the short term on the margin.
As we have discussed in previous earnings call, we do see a tailwind for interest income over the coming year, especially from the reset of fixed-rate mortgages. On the other hand, we have also seen headwinds from the cost of deposits, which have increased steadily over the past few quarters. With policy rates above 9%, this is to be expected and was anticipated by us, and we continue to focus on being competitive in this regard, especially in terms of stable deposit categories and term deposits, which we see a stable funding source for the bank in the long term. It is also to be expected that there will be more fluctuations, as mentioned, in the margin over the coming year. Firstly, this will be driven by the growth in the loan book, which has reduced, as discussed.
Secondly, because of the increasing impact of inflation, like I mentioned earlier, where the CPI imbalance is increasing between quarters. And thirdly, because of the timing difference of the fixed rate resets on the asset and liability side, which will be in different time periods over the coming year. But we do anticipate that the margin will remain robust, and as we have guided to in recent quarter, we expect this to be around the 3% level over the medium term. Commissions were again solid in the quarter at ISK 3.8 billion. The third quarter is generally a seasonal low, and especially in the activity-based fee generating businesses in terms of lending and capital markets. But in general, that diversity in our businesses continues to support very good momentum in our fee generation.
Fees and commissions for the year is at ISK 12.5 billion, which covers 62% of our operating expenses, which is considerably up from 35%, for example, in 2019. The first nine months of 2023 remain a record fee-generating period for this business from a historical perspective. Assets under management pleasingly increased between years despite very challenging markets. And now stands at ISK 1,300 billion or just below the balance sheet of the bank. We actually saw a net positive inflow of assets under management during the quarter. In terms of our insurance results, I think we generally view this as being a pleasing result with the, and the progress we are making in the insurance business is in the right direction. This, of course, continues to be a long-term key strategic project for the group.
In terms of the top line, premiums were just under 19% up from the third quarter of last year, and we continue to see the bancas surance model supporting this business. For an example, on the corporate side, we see strong growth that has been achieved at low cost by utilizing the distribution network of the CIB business. The combined ratio for the quarter was just over 88%, with a cost ratio of 16% and a claims ratio of 72.6%. So looking at operating expenses, it is worth noting here that the, on this page, we present the operating, total operating expenses for the group, which include the operating expenses related to the insurance business, which are included in net insurance results in the income statement.
Total operating expenses for the quarter was ISK 6 billion and increased by 4% from the third quarter last year, compared to 8% inflation during this period. Total operating expenses, as discussed in previous earnings calls, we had some one-off items in Q1, and for the past couple of quarters, we have a better representation of the run rate cost base of this group. It is also, however, worth noting that Q3 is generally a low in terms of operating expenses from a seasonal perspective. So now moving on to the balance sheet and starting with the loan book. The loan book grew by just under 1% to around ISK 9 billion during the quarter. Growth has been slowing over the past few quarters, both on the retail and corporate side.
And we, in the quarter, we actually saw no growth on the corporate loan book. The main driver here is, of course, simply the general slowing of the economy and activity among our clients. It should, however, also be noted there is also a managed impact as a response to increased capital thresholds from S&P, as outlined in previous earnings calls. Out of the total growth in the quarter, around ISK 4 billion is a result of inflation impact on our CPI-linked lending, while there is also a reduction of a ISK 2.5 billion, billion related to FX impact. The total loan books continues to be very well balanced, 47%, in mortgages, 5% to other loans to individuals, and 47% to corporates. So moving on to loss allowance.
The total loss allowance at the end of the quarter is 0.75% of the loan book, and net impairments for the quarter were just under ISK 750 million. In general, the theme is the same as what I described in Q2, where we have seen a slight uptick in non-performing loans over the year, which is to be expected in the current rate environment. However, the size is still low from any historical perspective. As discussed during the year, we have prudently reflected the evolving economic outlook in our IFRS assumptions throughout the year. We continue to see through the cycle expected loss on the loan book of around 25 basis points based on the current loan book composition.
Deposit growth continued during the quarter, with an increase of 3% from the end of the second quarter and 9% from the third quarter of last year. Total deposits now stand at ISK 806 billion, or just under 60% of the total liabilities. Our loans to deposit ratio has therefore reduced slightly and now stands at 142%. As we have discussed, our strategy in this area is to be competitive, especially in the more stable categories of deposits, from clients which have multi-product relationship with the bank and in terms of term deposits. As we have highlighted on the top right chart of this page, all of the growth over the past year in deposits has been in these categories. Moving on to wholesale funding.
A key highlight in this area, of course, was the upgrade from Moody's to A3 during the quarter. This was a strong confirmation of the evolution of the group, and it was good to see Moody's reference the bank's sustained performance, the shift towards banca ssurance business model, while maintaining a strong asset quality, as well as getting a raise on, for the score in governance. The upgrade should support the wholesale funding efforts of the group, and it has been positive to see the secondary spreads in our Eurobond tightening in recent months. At the same time, of course, this means that there is now effectively a 2.5 notches differentiator between our A3 Moody's rating and the rating from S&P, which is an unusual position.
In terms of our funding profile, we have managed this conservatively over the past year and with a view, of course, of the general volatility in the capital markets. We issued a EUR 300 million senior in the second quarter, which prefunded our Q2 maturity next year. This means that we have a very strong MREL position with a buffer of over 12%, and this allows, of course, for very good headroom in terms of our issuance plans, where our next Euro maturity is in Q4, 2024. We also have a covered bond maturity in ISK in Q2 next year, which will be refinanced through monthly issuance in the domestic market. Last week, we then announced a call of the outstanding SEK 500 million Tier 2 bond.
As the total capital position of the group is very strong, this will not be replaced. We will continue to manage our funding position conservatively and aim to be active in the ISK market regularly over the coming year, as well as exploring opportunities in the other markets. So looking at capital. Again, our position is very strong, with a common equity ratio of 19.4%, which increased by 50 basis points during the quarter. The leverage ratio continues to be very strong at 11.8%. This means that our buffer above regulatory common equity requirements is now 450 basis points. This position, of course, as usual, includes a foreseen dividend payment corresponding to 50% dividend payout ratio.
Obviously, this is well above our medium-term management buffer targets, which we have set at 150-250 basis points. Based on these targets, we, of course, have a capital surplus of around ISK 15-25 billion. However, as outlined in our Q2 call, our capital planning near term is, of course, impacted by the S&P change in economic risk assessment, as outlined in the Q2 call. Again, this effectively, this move from S&P effectively increased the Tier 1 capital threshold for our business by 2.5%, and it corresponds to a Tier 1 buffer above regulatory targets of around 500 basis points.
This, of course, is a key driver for our capital management near term, but as Benedikt mentioned, over the medium term, we do anticipate that regulatory and rating agency capital benchmark should converge to a greater extent, again, as the Icelandic economy proves its resilience and or through other rating factors. So before I hand over to Q&A, I want to again highlight some of the key themes going forward. We conclude another solid quarter, strong first nine months of the year, where we are effectively meeting all our medium-term targets. The sharp increase in policy rates has started to have the expected impact of slowing the Icelandic economy, which has in turn slowed the growth of our balance sheet. It was a positive signal of the progress when it comes to managing inflation, that the Central Bank kept the rates unchanged in the last meeting.
Our diverse businesses and strong and mature market position in all key businesses, business unit, means that we continue to be in a very good position to navigate the current market conditions. This is further supported by very conservative management of capital, funding, and loan provisioning, as well as very ongoing cost discipline. The rating upgrade from Moody's in the quarter was a positive confirmation of this position and the group's operational momentum in recent years. It was also pleasing to see the Icelandic sovereign being placed on positive outlook from S&P and Moody's earlier this year, a strong signal of the resilience of the Icelandic economy. As discussed, our capital position continues to be very strong, as was further strengthened during the quarter.
The 450 basis point common equity Tier 1 buffer is again well above our medium-term targets, but as discussed, capital management near term is impacted by the S&P considerations. And finally, as Benedikt mentioned earlier, we look very much look forward to presenting our updated key strategic initiatives, as well as revised review of key operational targets when we host our next Capital Markets Day on the first of March next year. This will be hosted in our offices here in Reykjavík, and we hope, of course, to see many of you there. So thank you again, and I'll now hand over to Theodór Friðbertsson for Q&A.
Thank you, and good morning, everybody. As usual, we start with Q&A from the online participants and then move on to the auditorium. We have two questions, one on the insurance and one on the mortgage side from Tellimer. So we'll start. The insurance income has been weak in the several recent quarters, and claims grew significantly in Q3. Is the premium growth target encouraging you to take on riskier business? And what does the shift towards more corporate business mean for the long-term profitability of this division?
Yeah, if I start, and Óla, you fill in. Historically, the competition in the Icelandic insurance market has been such that when interest rates are high and performance of investment portfolio associated with that is decent. The market has been pricing its premiums with kind of higher combined ratio assumption and making most of its return on the investment portfolio. It's, however, good to see that from the results that have already been published that Vörður is actually posting a combined ratio which is favorable, lower, or comparable to the competition and is still well below 100%.
And whereas obviously the investment results are yet to be shown due to mark-to-market impacts from prices falling both in equity and bond markets. Óla, you want to add something?
No, I think answering the first question, you know, we're not taking on more risk. I think the key. One of the key goals with the bancas surance project is to increase the diversity within the Vörður business. Vörður has been very focused on auto insurance on the retail side and life insurance. We are now broadening the pillars of that business by growing, especially on the corporate side, in the SME space, especially. And we're able to do that at a low cost, a lower cost than our competition has been able to do. And this is the key driver.
So I think we're creating a more robust business for the future. And like you said, I think that we are pleased with both the top line and the actually profitability now on the insurance side. Of course, not on the market side, but you know, the combined ratio actually is trending in the right direction and is comparable to the competition in Iceland, strong.
Yeah. So we're diversifying the risk-
Yeah.
Mm-hmm.
- within the portfolio.
And then secondly, on the mortgages, for the forthcoming nominal fixed maturities, what type of products do you expect her customers to switch into? And, how will this impact your margins? And, secondly, is this transition expected to create any asset quality pressure?
Well, the recent trend has been that people are moving from variable non-CPI-linked mortgage product to either variable CPI- linked, or a fixed CPI- linked. It's common to have a blended kind of mortgage, 50/50 or some version of that. And we expect this trend to continue. We don't see this impairing the asset quality since the LTV average on the portfolio is from an historical standpoint quite low and has been lowering in recent years. And the fact of the matter is that this mortgages in general their average duration for the lender has shortened quite substantially. There's a lot of refinancing activity taking place.
The cost of refinancing is low. And so the challenge for us, obviously, is to manage the imbalances that this could create on our total NIM and our CPI imbalance. And as Ólafur mentioned, this is probably gonna result in a little bit more fluctuation in the net interest income line every quarter now. And it's a function of two things: the CPI in the quarter, and obviously then real policy rates, where they stand at on average in every quarter.
Yeah, I'll have much to add. I think, and of course, as we've said before, in terms of the margin impact, of course, I think we've said before, there is a tailwind in the over the coming year. Of course, these are the fixed rates are, you know, average non-CPI- linked around 5%, and they are, of course, resetting into a higher market margin product if they remain with the bank. So that is a short-term.
Mm
T ailwind for our NIM. Although I think you answered the longer term view.
Mm-hmm.
Yeah. And we do not have any other questions from the online participants. So are there any questions from the auditorium? No. Then I guess we can conclude this webcast. And, thank you all for participating, and also to the online participants. And, we'll see you in Q4. Thank you.
Thank you.