Hello and welcome to the DNB second- quarter call. My name is Jess, and I'll be your coordinator for today's event. For the duration of the call, your lines will be on listen- only. However, there will be the opportunity to ask questions, and this can be done by pressing star one to register your question at any time. If at any point you require assistance, please press star zero on your telephone keypad, and you will be connected to an operator. I will now hand you over to your host, Rune Helland, to begin today's call. Thank you.
Thank you so much, and hello, everyone, and welcome to DNB's analyst call for the second quarter. Here in Oslo, we are the CEO, Kjerstin Braathen, CFO, Ottar Ertzeid, Head of Group Risk Officer, Ida Lerner. Head of Personal Banking, Ingjerd Blekeli Spiten, Head of Corporate Banking, Harald Serck-Hanssen. Before we start the Q&A, Ottar will give you a short introduction. Ottar?
Thank you, Rune. In today's presentation, we demonstrated on slide 3 that Norway has been quite successful in controlling COVID-19. After the gradual reopening of the society, activity levels have picked up and growth in economy has picked up as well. It is visible through the revised estimates for economic outlook in Norway. We have received from the central bank and also the Statistics bureau Norway, pointing to the positive direction through the second quarter. They now expect a positive GDP growth for the second half of the year. The policy rate in Norway was reduced to zero in May, but only a month later, the central bank increased the rate path going forward, projecting rate increases again in the second half of 2022. Unemployment in Norway spiked at 10.4%.
That has come down to a level of 4.8% at the end of the quarter. We see that housing prices in Norway have picked up, and a lot of the positive sentiment is positively probably driven by the fact that most Norwegians have adjustable-r ate mortgages, and the rate on those loans has almost been halved through the rate actions of the central bank, increasing disposable income for households in Norway. Looking at the numbers for the second quarter, we see that net interest margin has declined and net interest income similarly in line with our previous guiding of NOK 1.25 billion effect from the level we saw in the first quarter, meaning that the numbers in NII for the second quarter is fairly representative for what we expect going forward.
We reduced rates on loans before we reduced loans on deposits, and that's the reason this is really fully reflected in the 2Q numbers. Looking at commission and fees, that was an area where the increased activity in Norway is clearly visible. Commission and fees are 5.6% lower than the second quarter last year, but more than 7% up from the first quarter. The pickup in activity is clearly visible in real estate broking. It was back to almost the same level as one year before. Activity in investment banking at the same high level as in the second quarter last year. Asset management fees are up both year-over-year and compared to the first quarter. Guarantee commission going nicely as well.
The only area we see a meaningful impact from COVID-19 in the numbers is money transfer and international use of cards due to travel restrictions, still limiting activity in that profitable area of banking service. Overall, activity and commission and fees have developed more positively than we expected three months ago. The significant negative mark-to-market effects we saw in the first quarter due to the weakening of the Norwegian krone currency and widening credit spreads have been largely reversed this quarter, with the opposite numbers visible in the second quarter numbers. Looking at impairments, they came in at NOK 2.12 billion, 88% of which is from the oil, gas, and offshore segment, and mainly within offshore.
In this segment, we saw migration, meaning that Stage 1 and 2 impairments decreased, while Stage 3 impairments total more than NOK 2.7 billion. Offshore constitutes less than 1.7% of the portfolio, but remain the most challenging segment. In the other corporate segments, it total impairments totaled NOK 168 million. We saw net reversals in Stage 3 and an increased impairment in Stage 1 and 2 as a result of negative migration for certain travel-related industries. Overall for shipping, the segment was stable. With regard to personal customers, the impairments were back to a low level of NOK 82 million, reflecting the robust portfolio.
All in all, we repeat that we still expect losses to be highest in the first half of this year and reiterate that the overall portfolio is robust and well diversified. Taking a look at capital, common equity tier 1 capital increased 50 basis points during the quarter. The headroom above the minimum requirement is now at an all-time high. The headroom is also 100 basis points higher than at the end of the last year. The proposed dividend of NOK 9 per share and also 50% of the profits for this year are not included in these numbers. To sum up, the cost- income ratio for the quarter was in line with our financial ambitions of 40%.
Return on equity and earnings per share are negatively affected by both higher- than- normal impairment provisions and also the central bank's zero policy rate. However, as I pointed to, the central bank indicated that they will start raising the policy rate again in eight quarters from now. Return on equity is also negatively impacted by higher average equity. Dividends are usually paid in the second quarter, while dividends for 2019 will be considered at the extraordinary general meeting in the fourth quarter this year.
Nevertheless, return on equity increased to 8.7% for the quarter, reflecting the strong pre-tax operating profit before impairments of NOK 8.4 billion, which is actually up more than 3% from the second quarter last year and demonstrates the resilience in earnings over time, which has been a point we have reverted to several times before. Earnings per share up 34% from the fourth quarter, coming in at NOK 3.06.
Thank you, Ertzeid. We'll open up for questions.
Thank you. If you would like to ask a question, please press star one on your telephone keypad. Please ensure your line is unmuted locally as I will speak to you individually, take your name, and introduce you to the call. Once again, that's star one if you'd like to ask a question. We do currently have a couple of questions in the queue, please stand by while I get the first caller's name. Thank you very much for standing by. The first question comes from the line of Nick Davey. Please go ahead.
Good afternoon, everyone. Thanks very much for taking my questions. I'll go with three, please. The first one on asset quality. I understand the comments about the robust portfolio and the general level of confidence. Just a stupid question about IFRS 9, if you don't mind just helping us to understand better the portion of your loan book that's sitting in Stage 2 at the moment, I think 9% or so. Could you help us understand the outlook on that chunk of the book? What sort of triggers have been hit for some of the migration into Stage 2 earlier in the year, and your confidence or not that the book could migrate into Stage 3 later in the year? Just 'cause that's obviously quite a big swing. Thank you.
The second question would be around capital return, I know it's early and there's no crystal ball. I just wonder whether you could talk about priorities for capital distribution in the next couple of years. If we think that the rate impact has taken away 2 percentage points of ROE, do you think for as long as rates are at this level, you have enough cash generation to pursue growth plus dividends plus buybacks, or do you think that's a bit too much pressure? Sorry, the third question then would be just quickly on exchange rates. At the current level of the kroner to, say, the dollar, could you help us with the impact on net interest income or revenues for the second half of the year? Thank you.
Should I start with the IFRS 9 then? I think it's important to highlight that when looking at the impairments in Stage 1 and 2, those are completely generated from a model-based approach. When you transfer a customer then from Stage 2 into Stage 3, we go into an individual impairment discussion and look at the actual situation we have in terms of security package as well. When we won't give any guidance in terms of outlook in impairments going forward. As we stated in Q1 and continue to state now, we expect the majority of the impairments to be taken in the first half of this year. Also bearing in mind that the IFRS 9 also stipulates that you should have a forward-looking assessment looking into the coming three years.
Really what we are taking upfront in Stage 2 should also be a re-reflection on what we expect going forward, transferring also into Stage 3.
I can address the second one, and then maybe Ottar can answer the last one. In terms of capital return and strategy and priorities, there are no changes as to our previous communication. I mean, firstly, capital generated through earnings contributes to a robust and resilient capital level in line with the requirements. That would be priority number 1. Priority number 2 is to invest back into the business in terms of organic growth, where we have said that we target both in the short term and medium, longer term, growth in the area of 3%-4% p er year.
Then, excess capital, under normal circumstances will be distributed to shareholders. Firstly through cash dividends, where minimum 50% of the results should be distributed in cash dividends. Any excess capital, we look to distribute that through share buybacks. That remains consistent. As you all know, I mean, this year is different, where the decision on 2019 dividend has been postponed until the fourth quarter. We won't have full clarity until then. We can also then remind you the statements that have been reiterated by the Minister of Finance, where they also after the statement that came from the risk.
European Systemic Risk Board.
The Systemic Risk Board in Europe encouraging institutions to hold back on dividends. The Minister of Finance referred back to their statement in March, where they encouraged institutions to hold back until the uncertainty is reduced. Of course, there is still a level of uncertainty, but I think we can fairly say that it's been reduced compared to what it was three months ago. Again, the decision won't be made until fourth quarter this year. The last question, I didn't see.
The last question was on the FX effect on net interest income. On slide 10 in the decks today, we show that the FX exchange rate effect on NII was NOK 118 million in the second quarter. In that quarter we had a 5.5% average appreciation of the Norwegian krone. What to expect going forward if the FX rates were to stay at today's level is actually 6% even lower, it will have a similar further effect going forward on NII.
That's very clear. Thank you. It's a negative, is that right? It's an offset.
Yeah. Yeah.
It's a reverse.
Yeah. Strong krone. Strong krone means a lower loan book, U.S. dollar loan book measured in NOK and lower NOK revenues.
Very clear. Yeah. Thank you.
The next question comes from the line of Antonio Reale. Please go ahead.
Hi, this is Antonio here from Morgan Stanley. Thanks for the presentation. Good afternoon, everyone. Just two or three questions and follow-ups, if I may, please. The first one is on fees, which of course, have been an area of strength pre-COVID. You were guiding to a 4% or 5% annual growth, I think in your plan. Obviously, the outlook has changed, of course, the quarter, however, has showed some signs of recovery. Could you perhaps walk us through what you expect for the second half of the year and beyond? Some of the activities are of course affected by some more structural drivers. I wonder how we should think about your ambitions here and also medium term. That's the first question.
The second question is on the cost side. You've reiterated your cost-income ratio target of below 40%. Could you perhaps walk us through the levers you plan to use and how front-end loaded do you expect this to be? Excuse me. If I remember right, I think you had a cost reduction of NOK 1.5 billion-2 billion from 2020, 2022. Could we have an update there on basically where you see more flexibility? The last point is on risk-weighted assets. They've been lower quarter-on-quarter, mainly as a result of lower credit and FX, if I understand correctly. From the credit side, you're guiding for a 3%-4% loan growth and started to see some credit migration.
I'm just wondering how we should think about risk-weighted assets, inflation in the second half of the year. Thank you.
Thank you, Antonio. I'll start, and I'll hand it over to Ottar. Just some comments on the fee side. Yes, indeed. I mean, second quarter has been a tremendously strong recovery in many areas that are matching the results of second quarter 2019, and that in a quarter where two of the months we were substantially impacted by lockdown. What does this mean going forward for the remainder of the year? I think just measuring by the current temperature, we can say that on the housing market, it continues to be very active into the month of July. Given the economic outlook, the level of confidence among consumers, and the activity, we believe that market should continue to normalize throughout the year.
In investment banking, there is seasonality, third quarter in general being a slower quarter than the second quarter. Given also a world that develops in accordance with the current outlook beyond the quarterly seasonality, what we see and read today very much supports a return to normal. The category that is impacted and that will continue to be impacted is banking services and money transfer related to less traveling activity abroad. That is usually an important source of income both in the second quarter and in the third quarter. Spending patterns in Norway are back to normal. The people travel less, and even though we are opening up in the midst of July, we expect less travel activity than normal.
That will be impacted also in the third quarter. Asset management, very promising development. Net inflow in all of the three months represented in the quarter. A very strong underlying trend. Of course the uncertainty there lies around the performance and potential success fees on the products that are managed, which is a bit too soon to say. Insurance on the life side, I would say, not so much impacted. Non-life insurance, it's been a turbulent start to the year. Much better results this quarter than the previous quarter. In terms of sales, it's at the same level as last year. We expect to build that up over time.
All in all, a big chunk of it is really showing promising development, back to normal with a strong trend. I don't think we can say that we're back to square one in terms of guiding for the year. I mean, first or second quarter are impacted, but it does look much better in terms of the outlook.
Yeah. With regard to costs, we launched a program at the Capital Markets Day in November, indicating accumulated cost reductions of NOK 1.5 billion-NOK 2 billion this year and the coming two years. Pointing to areas like automation, distribution due to digitalization, and also new ways of working. I think the COVID-19 experience has just confirmed the high relevance of all these initiatives. We are working on these initiatives, and will continue towards during the coming two next years as promised on the Capital Markets Day. Really, nothing new on top of that, I would say, other than confirming what we already planned for and those plans were highly relevant.
With regard to risk-weighted assets, I think there was some negative migration in the quarter, reducing capital by 20 basis points. Underlying RWA are negatively impacted, but the higher provisions have the opposite effect of actually reducing risk-weighted assets in Stage 3. But it's fair to say that with the negative migration in the portfolio, there will be some negative migration in RWAs. On the other hand, the numbers also demonstrate the contribution from the profit generation we have each quarter, adding to capital this quarter as well.
Thank you Ottar.
The next question comes from the line of Sofie Peterzens. Please go ahead.
Yeah. Hi, here is Sofie from JP Morgan. I just wanted to ask on loan growth. You reiterate your 3%-4% loan growth, but loans were relatively weak this quarter, partly because of FX. How should we think about loan growth going forward? The personal customer growth was relatively flat quarter-on-quarter, but we saw a decline in the corporate loan book. What are the trends that you're seeing here on the corporate side? My second question would be on consumer lending. How should we think about consumer loan growth outlook and also asset quality, especially in Sweden, where you have been growing on consumer or leasing side? My final question would be on the offshore book.
We saw almost a 30% increase in NPLs, and the NPL ratio is now over 20% in the offshore book, but coverage is only around 37%. Should we expect more provisions for the offshore book, or are you happy with the book as it is covered now? If so, what are the main reasons? Thank you.
Okay. Thank you for your questions, Sofie. Loan growth, yes, we reiterate 3%-4% without guiding specifically on the mix of the growth. We can share some comments on each of the segments. Personal customers, this was a relatively flat development in the second quarter, but it's important to highlight that the activity and growth picked up towards the end of the quarter quite substantially. We also have a high pace coming into the month of July. We do expect attractive and profitable growth in the sector for the year, however, probably somewhat lower than we saw last year.
SMEs is a bit better concealed now with corporate banking being as one, but SMEs saw a growth for the quarter of 1.8% and have attractive prospects for the year given the activity that we do see. With regards to larger corporates, it's an area where we both shed some regard to currency fluctuations as well as wanting to deliver on the strategy to originate and distribute, where we do sell off exposure after underwriting.
It is an area that is more lumpy, where we've managed capital relatively tightly, both in view of currency effects that leads to the growth year to date for the group, being 2.7%, and also in view of the uncertainty, and lack of transparency with regards to RWA migration, which has developed better maybe than we feared during the quarter, when it, when it started. Overall, loan growth, we reiterate 3%-4%. We do see profitable opportunity in all, three segments. In terms of consumer loan growth in Sweden, I think you're referring to car leasing activities. There has been some growth in the quarter, but we're comfortable with that book.
Low risk across that we view together with our exposure across that sector across geographies. Of course, we're following very tightly any exposure related to cars and the trends that we see in the market and have on several occasions in recent years adjusted on our appetite to take residual value, to just mention an example. Offshore coverage ratio 37%. Yes, I think what we can say is that the reserves that we currently have on the book reflect fully our view of the sector and incorporate considerations for an outlook where a positive move in that market is expected to be somewhat down the road.
Saying that, we continue also to highlight that the situation in the market is challenging and that there could be development in individual and specific situations, but we have fully reserved in accordance with our market view, for the sector, in our books as they are today.
Okay. Just on the offshore book, there have been some Bloomberg articles that you had, quite significant exposure to Chesapeake, that filed for bankruptcy. Have you fully reserved for that exposure as well?
I'm sorry, Sofie, we can't comment on specific names.
Okay. That's fine. Thank you.
The next question comes from the line of Ulrik Zürcher . Please go ahead.
Ulrik from Danske Bank. Two quick questions on the net interest margin, because you said it would be roughly NOK 5 billion hit on the 0% key policy rate. When also when you just sort of polish deposit legacy and in Q1, it seems like your NII is down NOK 1 billion. Should we expect in net interest margin, somewhat of a compression in Q3 again? Secondly, how stationary do you consider your new deposit level? If Norway now we don't get a second COVID-19 wave and so forth, will the deposit level decline again? How do you view the future mix between your wholesale funding and deposits going forward, or maybe two years?
With regard to NII, we showed on slide 10 in today's presentation that interest on equity and margins were down NOK 1,297 million compared to the first quarter, which is in line with approximately one quarter of the NOK 5 billion you referred to, which had the first quarter as a starting point. There's approximately NOK 5 billion of the effect of the customer repricing. There are also, of course, other NII effects like rolling growth on deposits and loans, could be other margin developments, FX effects, et cetera. NOK 5 billion was the effect of the customer repricing, the lower interest rates we have seen in Norway over the last few months.
On deposits, I think there are several trends to keep in mind when considering the increased deposit base.
One is a pure reaction to COVID. People and businesses want to stack up on their liquidity to be robust in meeting the challenges. The fact that we are getting so much of it, I think we should take some credit for in being very robust and having had a confirmation from both Moody's and S&P on our ratings. We also see that we are competitive and attractive for our international clients when it comes to attracting deposits. Second quarter is usually seasonally relatively high on deposits. I would expect some of the impacts of the immediate need to save if we continue in a positive direction that may level off to a certain degree.
The part of it may remain as we continue to compete for deposits as long as we're profitable and that is an attractive source both for funding and to make sure that we have a good deposit base to support our lending activity. For now, at least we are attractive, I think, beyond just the immediate trend of saving as we see it.
Okay. That's clear. Thank you.
The next question comes from the line of Riccardo Rovere. Please go ahead.
Yes, please. Good afternoon to everybody, thanks for taking my question. Three or four from my side. First of all, I wanted to better understand, again, on NII. When you mentioned the NOK 5 billion, does this number refer only to the downward repricing of the loan book, or does it include also any mitigating action on the deposit side? Just to be 100% sure I get it correctly. This is my first question. The second question I have is. On risk migration, if I understood it correctly, we stated that there was some negative risk migration in the quarter in risk-related assets. If I understood it correctly, should we expect anything more in the coming quarters or what we have seen so far, that's all?
Third question I have is on the shortfall prospective losses in the capital has constantly gone down. It was NOK 6.5 billion at the end of the year, then NOK 1.2 billion, then now it's at NOK 660 million. Implicitly, that this number is going down, to me, is telling that you are charging more than what your internal models would indicate. Is it, is it the right assessment or am I completely wrong? On the-- on, if I may, on the dividend, if the situation improves, let's say, particularly in Norway, without improving too much in the rest of the continent, in Europe, do you see Norway going solo in allowing a dividend payment, or do you think that would be just impossible if no one else does it? Thanks.
I can start with, NII. The higher bill and effect on less interest income is the net effect of both loan and deposit repricing. In the second quarter, we reduced deposit rates seven to eight weeks later than on deposits. That's why we say that the full effect of customer repricing is really reflected in the second quarter numbers, and you can actually use the second quarter numbers as a basis going forward.
In terms of risk migration, we are not specifically guiding on risk migration, but I think the learning and the experience we've had through the second quarter is an important point of reference, where you see some risk migration and the capital cost, if you will, of 20 basis points as a result of this. That's alongside future economic outlooks being revised to the positive. The uncertainty is substantially re-reduced compared to when we entered the second quarter. However, there can be customer-specific situation or changes to this picture that triggers migration for certain customers from Stage 2 to Stage 3, and this would, as a consequence, lead to risk migration. That needs to be combined with the general macroeconomic outlook.
In relation to the dividend question, I think the important reference is to go back to the statement from the Ministry of Finance early July, where they responded to, as I think I mentioned earlier, to the advice from the Systemic Risk Board in Europe that encouraged a full retaining from dividend for all banks. The Ministry of Finance in Norway just referred to their previous statements where they were not that restrictive, but encouraged institutions to wait until the level of uncertainty was reduced.
Today, I feel we can say that the level of uncertainty is reduced, and we do expect and believe that the level of robustness and solidity will weigh heavily on the regard of any dividend payment. I must stress that this decision will only be discussed in the fourth quarter, and then it will be up to the board. I'm not sure we grasped your question on short-term prospective losses and the numbers you
No, no. The shortfall, when you look at the capital, you have the shortfall to expected loss deduction, which was at the end of the quarter, NOK 655 million, and it was too negative, so a deduction of NOK 600. That was negative by NOK 2.5 billion at the beginning of the end of last year, beginning of 2020. The deduction you are having from the capital of the amount of provisions that you have not charged through the, let's say, through the P&L, irrespective of what your models would suggest, has constantly gone down in the first six months of this year.
Meaning that, if I understand you correctly, what has gone through the P&L in terms of credit losses is actually larger than what your models would indicate. That deduction has gone smaller and smaller. Is that fair assessment?
I think.
Should we expect this to go to zero?
I think, in this year, we have taken increased loan loss provisions, and those provisions have reduced the difference to the capital calculations. We actually had a lower capital deduction as a consequence of the higher provisions we have taken over P&L. That has reduced the difference and reduced the capital reduction, and that is part of the 10 basis points we show in today's presentation, explaining the 50 basis points improvement. We have 10 basis points lower deduction in capital, and that's partly coming from exactly the item you are pointing to. That's reflecting that they're taking huge provisions this year.
Okay. All right. Thanks a lot. Thanks very much.
The next question comes from the line of [Phil Juneau] . Please go ahead.
Good afternoon, and thanks for hosting the call. My question would be on bond issuance plans. Could you maybe give an update on which bonds you plan to issue this year, especially across the capital structure and also across currencies? Thank you.
The Minister of Finance this month granted our approval to merge the bank and the holding company, making bank the ultimate parent company in the bank. That means that it will be the bank issuing going forward. I think it's fair to say that we will, we are considering starting issuing senior non-preferred from the bank towards the end of this year, but only in a smaller amount this year. We have until the 1st of January 2024 to comply with the MREL requirement of having NOK 157 billion in MREL capital. We also plan to issue some covered bonds in the second half of this year.
The currency we will choose will depend on which market is most favorable at the time we will make, we will make it easier.
Following on subordinated `bonds, like Tier 2s, AT1s, any plans there?
No, no, nothing for AT1s and nothing on sub-debt. We raised, we refinanced the NOK 4 billion sub-debt in May, but no, there'll be no further issuance this year or sub-debt or AT1s.
Thank you.
The next question comes from the line of Jan Erik Gjerland. Please go ahead.
Good afternoon, Jan Erik Gjerland from ABG. I just wanted to confirm or check your volume side. You had a very strong volume growth in Future and Tech in the corporate sector together with the Ocean Industries. How much of that is really underlying growth, how much is FX? If it's not truly FX, how much of that will then be sort of a final take? Is the average a little bit higher than you normally would have done, or is this your final take in these kind of syndicated loans? That's my first question.
It's not currency driven, to put it that way, as the Norwegian kroner has strengthened through the quarter. I think it's fair to say that we have done some more business in the Future and Tech area than we've done in Ocean. There may be selected deals that there that are early phase in terms of underwriting and that we will syndicate throughout, but nothing to the extent that it's relevant to comment on that, I think, in terms of the exposure overall for the bank.
I can maybe just add a little bit, Jan Erik. It's Harald. You know, if you look at the-- We show in the Fact Book on page 27 and 29, we show the EAD development within the different subsectors. Obviously, if you compare with the end of first quarter, there's a lot of currency distortions in those numbers. I think the important point to make on the large corporate side is that we do have a lot of flexibility in terms of how we manage the overall portfolio, both in terms of the size of the underwritings we take, the proportion we syndicate, we also do other types of risk sharing now with life insurance companies and so on.
That gives us the flexibility to manage and calibrate the exposure and numbers on the large corporate side to take into account the currency migration, the RWA migration, as well as the growth potential we have on the SMEs and the personal banking side. A little bit back to what I think it was Nick. You've talked about the currency effect on the lending volumes in your first question. The thing is, we would have been able to grow faster on the large corporate side in the second quarter than we did. You know, we just had to manage the use of capital in a conservative way in order to build in sufficient buffer for currency and RWA migration.
We have the platform in terms of geography and industries to do, to grow faster than we have done in the first half if that should be desired.
Okay. On the deposit side on, in the personal customers, that was coming off very much. How much of the repricing did you do in deposit side in the quarter? Did you do anything? Why is everything is now coming in Q3, gaining your NII from here, if I understood the profile correctly?
Deposits were repriced in late May and then again at the start of July, and that is seven to eight weeks later than loans were repriced. On the other hand, the full effect, the effect of all deposit and loan repricing is equal to approximately the NOK 1.25 Billion, which is in line with the guiding we have provided. There should be no net negative drag from the repricing going into the third quarter. I think that's the most important thing to remember.
On the funding side, you pre-funded a lot last fall, I think, that has then sort of dragged the net interest income a little bit down from NOK 30 million to NOK 50 million the last couple of quarters. Is that still the case for the third quarter, or is then it back to zero, so to speak, because you are then coming into the third quarter of last year, which you did the pre-funding. Would you then gain on funding because you can then actually take away some prefund of earlier funded levels? Is that the case?
The funding, the senior funding we did in the fourth quarter of last year counts as MREL capital and will gradually be replaced by the new senior non-preferred capital. Overall, we do not expect any nominal increase in long-term funding costs as a consequence of this.
It's not another quarter of a drag in Q3 from this Q4 last year prefunding.
No. There might be some currency effects on that as well. There is, yeah, no new senior funding this year. There will be no additional effects from new funding impacting the third quarter number.
Okay. Two small finals then. Could you give us the split of the associated income, the Eksportfinans, Vipps, Fremtind, and Luminor? Is that possible, or is that something you don't give, you don't disclose at all? I haven't found it at least.
We don't disclose the details of that, Jan Erik. We give them as a group. What we can say is that Vipps is moving in the right direction. They've been able to more than compensate for the loss of revenue they had from less traveling. Fremtind, it's been a turbulent start to the year given the nature of this crisis that the world is in, but with a strong expectation for improved results in the second quarter. The Eksportfinans, I think there are some reversals of negative MTMs in the first quarter that are impacting the second quarter numbers. Just some comments on the direction, but we don't give the full details.
These companies will report numbers in a bit later than us. They have to report the numbers before we can provide more details.
Okay. Thank you. Finally, on the life side, is 80% solvency ratio for without transition rules a problem for DNB Life or not?
No. The life insurance company has a solvency ratio with transitional rules of 176%, and the transitional rules apply until 2032. That's not a problem for the life insurance company.
Okay. Thank you. That's all for me.
The next question comes from the line of Martin Leitgeb. Please go ahead.
Yes, good afternoon. It's Martin Leitgeb here from Goldman Sachs. Could I just have a couple of follow-up questions on the various comments on capital and capital distribution from here? Firstly, you mentioned in your earlier remarks that the headroom to capital requirement is not an all-time high. Could you just tell us at what kind of capital level you would be comfortable running the bank at? Is it 18% or could it be in a current environment, given the requirement is 15.7%, that you would be comfortable running the bank at 17%?
Given the number of comments made on a couple of P&L items going forward, I was just wondering, how do you expect the Q1 ratio from today's perspective to evolve for the rest of the year? Then finally, the third question, just in terms of reduction of capital distribution and the potential EGM in Q4 this year. Could you just tell us firstly, do you still need any regulatory approvals for such a potential distribution? Is it essentially just the EGM approval you would need, and how does the process look from here till the distribution? Thank you.
With regard to the 15.7%, that reflects the reduction in the countercyclical buffer we have seen in Norway this year. At the same time, we keep in mind that requirement can be increased again in the first quarter of 2022 by the earliest. Of course, we keep in mind that we probably at some stage need to be back at 110 basis points more than the 15.7%, or back to at least 16.8%. On top of that, we need some headroom for our dollar fluctuations and business opportunities. We haven't specified how close to that limit we should operate.
We've no precise amount, or headroom about that.
It's important just to remind everyone that 15.7% includes 100 basis points of Pillar 2.
Guidance.
Guidance. In terms of capital generation ability through the P&L during second half, I believe that was your question?
Well, could have been.
I think it's.
Okay.
I think it's a difficult one.
We're trying to get a direction here.
It's a difficult one.
Sure.
I think we'd like to go back to one of the key points we've made earlier, and that we repeated today, and that's resilience in earnings before impairments, where we now started to show the 12-month earnings before impairments. Even six months into this year, given the changes we've seen, you can see that earnings have been holding up. Yes, there is the rolling impact, but that's on NII, but that is fully reflected into this quarter's NII. Given the outlook we see today, and even that we in both first and second quarter this year have generated an aggregate of 80 basis points to capital, of which 40 have been reserved for dividends for 2020.
I think that should be a good reference point also for you to think about the second half and our ability to generate capital from earnings. Capital distribution, we don't need any approval. As long as we satisfy the requirements on the capital side that we do amply. There have been the statements and the signals that are out there that confirms the authority of the board to make the decision on making a recommendation to the general assembly in the fourth quarter. There's no outstanding approvals that are needed in order to pay out. If that's what you're looking for.
Perfect. Loud and clear . Thank you. Thank you very much.
The next question comes from the line of Jacob Kruse. Please go ahead.
Hi, thank you. Jacob from Autonomous. Could I just ask, I guess, three questions? The first one was, you talked about the Q2 NII level as a sort of a representative run rate. Do I take that to mean that the deposit lag repricing that you did, that you had in Q2 will not rebound with a positive effect in Q3? Basically, there is not an additional headwind that we have to compensate for in Q3 on that one. The second one on NII was just could you comment at all on what margins you're seeing relative to your back book on new corporate loans on the large corporate and on the domestic SME side? Finally, if you could say anything about the size of your U.S. and Canadian shale book. Thank you.
I can start with the NII. W e reduced deposit rates later than loan rates, meaning that that got an extra negative drag in the second quarter. On the other hand, we did not reduce loan rates from the first day of the quarter, so we didn't have the full effect of the loan repricing in the second quarter. These two elements, they cancel each other out, meaning that the net effect of both loan and deposit repricing is similar to what we expect to see in the third quarter as a result of repricing of loans and deposits. That's why we say that we can use the two as a starting point.
In our oil and gas portfolio, we have a geographical split of two-thirds related to the North Sea and one-third related to the U.S. Of that, we only have a very limited exposure towards the shale.
Sorry. When you say limited, that's less than a third or something like that?
Well, Overall, in terms if you look at the oil and gas, a third is related to the U.S., and a limited part of that third is related to shale.
Yes, exactly. If I take that third, when you say limited, that's less than half or less than a third of the one-third book that you mentioned.
We have a few producers that have a part of their production related to shale. It's difficult for me to quantify that more specifically. If you say that one producer, for instance, have 70% based on another, say that they have roughly 30% to shale. We don't have a very few or no customer that is purely shale.
They have a proportion of the production related to shale.
Okay. Thank you.
It's Harald , Head of Corporate Banking. We have taken a very careful approach to shale, both for environmental reasons and because we know that they are much more vulnerable to the short-term fluctuations in the oil price. As we stated, on the oil and gas side, it's really the North Sea basin that's our home market, where we concentrate most of our resources. Yeah. You also had the question with regard to the potential repricing on corporate banking. I think it's fair to say that we've seen a certain repricing, in particular in the U.S. market and in Europe. Obviously, there's been a stronger repricing in sectors such as oil-related and shipping, where there are fewer banks competing.
In the Nordic market, the repricing has been somewhat lower, driven by what I would call the relationship banking approach of the Nordic banks. There's been a flight to quality, which means that there has been less repricing potential. We do see in average, on similar risk, a higher average margin on the front book than the back book.
Just could you quantify that at all, the sort of blended benefit that you're taking on the front book relative to the back book?
No, I can't really give any concrete evidence because it's also been a very fast-moving target, to be honest, you know, that we did deals maybe in April, beginning of May, we did deals that would be maybe 50, 75, 50- 75 basis points higher than what we would have seen before the corona crisis. Then margins came down again moving into June. As I said, there's a wide discrepancy between the difficulties in the different industries. It's hard to give you any more exact figures on that.
Thank you.
The next question comes from the line of Nick Davey. Please go ahead.
Oh, hi again. Just a couple of quick questions to follow up, please. The first one, Harald, just listening to one of your answers earlier, you were suggesting you're operating with some sort of capital cap, maybe in the corporate customer business. I just wondered if you could talk a bit more about that, just so we can understand the extent to which it might hold you back from growth if you sit with slightly higher levels of risk-rated assets. Just wanna make sure I understand that one. The second question, just to understand rate sensitivity in both directions, just in case your central bank has another change of heart and starts to bring forward the date of a potential hike. Could you just help us understand the NII that you get off your allocated capital?
What's it sensitive to? Does it need an actual base rate hike for the interest to come in higher there? Or is it sensitive to NIBOR or some other market rates? Just any more clarification on that would be helpful. Thank you.
I can start with the latter question. We have very little direct interest rate exposure. Any rate changes from the central bank or in NIBOR will have very limited P&L effect on the bank. The almost all of the effect comes from changing the customer prices on loans and deposits. When the central bank, when they move these loans and deposit rates, we have historically seen an effect of approximately NOK 1 billion for each 0.25 percentage point rate changes. Again, it only materialize when we change the customer rates on loans and deposits.
When it comes to the growth, the volumes, I mean, the starting point is that both for strategic considerations as well as due to historical return on equity, we've decided to give priority to the personal customer segment and the SME segment in terms of capital allocation. That basically means that we have no restrictions on as long as it's profitable growth, we allocate capital there. In order to reach the bank's overall growth targets, we can use the large corporate segment as a way to calibrate our overall volumes. We can do that by how, you know, both based on how much new business we take in and how much we distribute.
Obviously, in an ideal world, we would have a distribution capacity that meant we could take in as much new business as we could generate. When the situation, circumstances are changing as rapidly as they've done in the first and second quarter, we've had to be somewhat careful in our use of capital on the large corporate side to make sure that we have kept a buffer even if there were wide fluctuations in the currency rate, as well as the uncertainty with regard to risk-rated assets. As our Group CEO said initially, the reduction or the migration on the risk-rated asset side has been somewhat lower than we had feared going into the second quarter.
I think it's fair to remember that in March, we saw a significant depreciation of the Norwegian Krone currency, boosting lending volumes in Norwegian Krone terms quite significantly, as reported in the first quarter account. On top of that, there was uncertainty with regard to the utilization of revolving credit facilities, overdraft facilities, which were also increasing at the same time. Both of these have now been reversed during the second quarter. The Norwegian krone has reverted to a lower, to a stronger level, and utilization of these overdraft facilities and RCFs are back to the same level as the start of the year. This is reflected in the development of the loan volumes in May and June, and also the reasoning for our earlier comments.
Okay. Thank you.
All right. Please.
We have one more question in the queue if you're happy to take it.
Yeah. We'll take one more question, please.
Thank you very much. The final question comes from the line of Riccardo Rovere. Please go ahead.
Thanks. Thanks for taking my follow-up. On consumer finance, in Q1 you charged more than NOK 700 million.
The explanation, if I remember correctly, was that the unemployment in Norway was going through the roof. 300,000 people registered for unemployment in the Norwegian Labour Welfare Administration. Most of them were on temporary layoff, if I remember correctly, the so-called permittering. The registered unemployed people have halved. The last number I have in the back of my mind for June is 130,000, maybe 135,000. If the trend goes on like that, should we expect DNB to start having reversal out of the NOK 700 million you charged in Q1? This is the first question. The second question is on the AT1.
If the level of AT1 you have today is fair, if, you are okay with that, and if the cost of AT1 impacting your, overall profitability is, what we have seen in Q2, and we can assume that to remain more or less unchanged for the next two quarters. Thank you.
I can start with the AT1. In March, we had a maturity on U.S. dollar AT1. We refinanced that in late November at very attractive prices. That's why the AT1 interest rate cost is lower in the second quarter than in the first quarter. In the first quarter, we have sort of a double set of costs. Going forward, the first quarter numbers is representative, and we have no plans for additional AT1 capital raisings this year.
When it comes to the consumer finance part of the portfolio, I would like to just highlight that we haven't seen any negative development in credit quality in that portfolio during the quarter, rather the opposite, actually. One the reason why we still have those impairments related to consumer finance is also that, of course, we need to take an active approach in what seasonality and what we expect in terms of usage going forward in the coming. That's related to IFRS 9, Stage 1 and 2. It's important to highlight that we do not see any negative development at all in that part of the portfolio.
Very clear.
All right. We have to stop there. We would just like to thank you for your good questions and your participation, and we would like to wish you all a very good summer. Thank you.
Thank you for joining today's call. You may now disconnect your line.