Earnings Call: Q3 2018

Oct 25, 2018

Thank you, and I'd like to welcome you all to this call, SCB's Q3 Financial Report. I thought we'd do this today, that I'll give a 3, 4 minute summary of the key messages from the report, and then we will open up for Q and A not flick through the presentation, which I assume you all have in front of you. To start with, to characterize the quarter, we've seen that we a solid result despite the seasonal weakness one would expect during the Q3. It was primarily driven by higher corporate activity coming from 4 different areas. We saw it in M and A or investment banking. We saw lending fees and lending NII developing quite strongly, healthy growth in the payment and cards areas amongst corporates. Relative weakness came from the markets area, which seemed to have had struggled a bit. And mortgages, household lending was growing but at a very modest pace in 3rd quarter, around 2%. We say also the margins have been fairly stable across the board during the quarter. Some of the financial metrics. If we isolate the Q3, income came up at 3%, profit before items affecting comparability was up 4% with strong cost control in line with last year and in line with our communicated cost cap target of EUR 22,000,000,000 I'll also say that NII was particularly strong from LC and FI. So the wholesale division contributed in a good way. We also talk about the net fees and commission when you look at advisory in secondary markets. And to my initial point, we saw a quite large discrepancy with nice growth from the fee generating parts of the wholesale banking up 22%. However, it's a very small number, and markets contribution through secondary trading was down 9%. We got a bit of help from strong equity markets in Q3 and a modest inflow of new assets under management resulting in a year to date. We've got SEK 47,000,000,000 in AUM, but it helped the results from custody and mutual funds on fee and commission and payments, cards, lending, etcetera. These also performed well. We actually don't have any positive contribution to speak of from the deposit taking, which is up SEK 200,000,000,000 from the end of the year. However, in the results today, there's been a roughly SEK 200,000,000 change between funding and other and the deposit income because of a change in our internal transfer pricing model. On NFI, we're down 13% year to date compared to last year. That is predominantly explained by a very strong Q1 2017 that we did not replicate in the Q1 of 2018, and we were helped approximately $150,000,000 from valuations of our inventory, the XVAs as we call them. I think I'll just stop there and see if Masi would like to add anything before we open up for Q and A. No, that's good Q and A. So operator, then we're ready for Q and A, please. Thank you, ladies and gentlemen. We will now begin the question and answer session. And our first question comes from the line of Matti O'Harkas. Please ask your question. Yes. Good afternoon. Matti Halkers here from Danske Bank. Looking at the large corporate financial institutions business, your wording is quite positive altogether. And then again, the Q3 figures, lending was down a bit and also seems like the margins were down a bit. Was there something specific in that the lending book decreased in the Q3 in the LCN 5? And where the margin is actually stable? That's my first question. Yes. I would characterize the margins as actually stable. And when I say that, I mean, I look at the average price one would extract from shipping, real estate, corporate lending, LBOs, etcetera. However, the mix might change when you look at it from a financial result and do the kind of averages. And I think we mentioned in the Q2, we had a little bit of an extraordinary, call it, event related bridge financings that sometimes are higher than the average and they, of course, fall off quite recently. But the underlying trend on what we actually price our balance sheet in wholesale, there is no meaningful change. And if we look at the kind of 7% year on year growth rate in LCFi, In your opinion, is that kind of a sustainable run rate for the foreseeable future? I don't make any predictions, but I would note it's a relatively high one. So if you about where we bank our big clients, we have close to 100% penetration. We're kind of all over the Nordic large caps. Normal GDP should be in my book the kind of the baseline for where this should go. And I would also point out my kind of previous comments up until 3 quarters ago where we were very surprised for a long time this did not grow despite nominal GDP growing healthy. So there's, of course, always the question if this is a bit of a catch up effect or if it's a real investment cycle very late that it's actually kicking off. But I'll make no predictions on that. Thanks. The second question is regarding the cost outlook for 2019 2020. How should we look at that? You should just look at the 22 for 2018 and to our updated call later this year or beginning of next year. Very good. Thank you. Our next question comes from the line of Adrian Cheeky. Please ask your question. Hi, there. This is Adrian Cheeky from RBC. I have a few questions, please. On fee income, a very good quarter, again, following a very strong Q2. I'm just trying to understand the sustainability of this going forward as I have previous questions. But is there any lagging booking for deals that have happened in Q2? Or do you see this sort of an underlying base going forward? And then on capital, earlier today you mentioned that the 3 10 basis points buffer you have does still not contain any excess capital, but you'll update us as of Q4 as to where you stand. Do you expect any regulatory updates between now and Q4? Is there part of a broader rethink of the business model and plan? Thank you. Thank you. I'll start with the fees and hand over capital and regulatory update to Matti. We are not saying anything about the fee generation in this quarter being of temporary nature. So implicitly, there's nothing that stands out on the positive. And there are and I wouldn't say even that the kind of lag effect that you typically have is different from what it normally is. The summer is a very slow period. And of course, in the beginning of the summer, you actually booked some of the stuff you did in the latter half of Q2. However, I would say that there are some fees coming through in the payments and card area, which is more a recurring type of business. They should not be mixed up the pattern for M and A, ECM and Investment Banking, which is a more lumpy type of profile. So there, at least there is some support unless you think the economy will come to an halt that is a little bit sticky. Okay. And on capital, I mean, obviously, being at 310 basis points, we do have excess capital relative to the long term target of above 150 or around 150 basis points. Now this year, that buffer has been built through different things. S and P expansion, the sale of that is one of those things. And going to Q4, you asked about regulatory changes. You're going to have one change, which is the mortgage risk ratio move from Pillar 2 to Pillar 1. That has a negative impact of about 50 basis points or slightly below that. So that's a regulatory update. Otherwise, I mean, we don't adjust our capital base throughout the year. By the end of the year, the Board is going to make their decision on the dividend. So obviously, they're going to look at our capital position and they're going to look at whatever future outlook you have on regulation as well as the new business plan that's going to be presented. So you're going to just have to wait for Q4 and hear the response on that from the board. Thank you very much. Thank you. Your next question comes from the line of Paulina Fekolaeva. Please ask your question. Hi. I have 2 follow-up questions. One is just coming back to the large corporate demand this year. Could you please maybe give your opinion on what you see as the most important drivers of this demand? And if possible, could you give us an outlook into 2019 on whether these drivers are going to continue? And then another follow-up on the capital position. So as you just mentioned, at 3 10 basis points above the minimum, you do have excess capital. I was just wondering if you're open to the possibility of share buybacks as a way to calibrate your capital level back to your target. Thank you. Thank you, Paulina. I'll start with LCNIFI. I mean, the if you divide LCNIFI up into the balance sheet deployed to corporates and the payments corporate do it through our cash management, that's really where the demand for our services has been the strongest, coupled with parts of the Investment Bank. We did have a very slow start on fees and commission in Investment Banking during Q1, and it came back in Q2 and Q3 a bit. And we are saying the activity level to be judged from the pipeline we see is constant. So we're not guiding up or we're guiding down. There has been a clear shift in the composition of the advisory services that we perform away from IPOs into M and A. So of course, we are relatively strong in both and hope to capture, if this continues, the opportunity that arises from that. Otherwise, it's really the market side, which is struggling, and we would love to see the return on equity come up also for having less of a drag from our markets. And it's not the client facilitation or the client driven flows. It's the inventory, the market making and the risk side, which has been quite tough for us to get up to an adequate profitability. I also would add that volumes do differ. The margins on investment grade lending are very low. We're not saying they're changing, but they are very low. And as you know, that's a low return on equity business. So we really don't see that we are right now firing on all cylinders. We would love to see the markets area, equities, fixed income, commodities and derivatives, all of them, they have to pick up a bit. Okay. And going back to capital. I mean, the general response is this, that we would like to deploy the capital we generate into businesses that return higher than the cost of equity. That's sort of our basic principle. We're going to present a new business plan, and we're going to have to look at how that looks like. If we see very strong sort of growth potential out there, obviously with a high return, it's better to deploy it there. If that's not the case, then we'll kind of have to come back to how we then distribute the excess capital we have to shareholders. But again, it's a Board decision and it's going to come in Q4. We do like the fact that we have more capital at this point than our financial target. It's a good point in the cycle to have that. So in that sense, it's a sort of position of strength for us, but again, back in Q4 on that. Okay. Thank you very much. Thank you. And our next question comes from the line of Ricardo Rivera. Please ask your question. Good afternoon to everybody. A couple of questions, if I may. The first one is a general one. In general, do you see, especially in revenues, anything that you could classify as nonrecurrent, maybe by nature or by the magnitude in this quarter? The second question I have is on credit losses. We have seen a pickup in large corporate. Is it due to maybe single names? Or do you see anything that is changing in the asset quality, some first signal of deterioration maybe? And very, very last question, if I may. Risk weighted assets have gone down this quarter. Is it fair to assume that going forward, we should not see major improvement in RWA due to migration and so on? Because I find a little bit they struggle to understand why credit losses going up and RWA going down. Okay. On your first question on nonrecurring revenues, we always have nonrecurring revenues. You always have the small sales or divestments of somehow. You have valuation effects. I would say it like this. We don't have more nonrecurring revenues this quarter than a normal quarter. So you don't really have to adjust on anything, I would say. On asset quality, you see an uptick from very low levels to a more normal level, I would say. It's driven by very sort of isolated events, 2 or 3 different events. They are not cyclically driven, I would say. There's nothing with the current economic environment that has driven those events. So they're isolated by nature. And then connected to your last questions on RWAs. RWAs are down this quarter mainly driven by FX. So FX, Swedish krona was stronger by end of Q3 than was 1 point 8 by the end of Q2. But you also see a positive impact from asset quality improvement. So risk weighted assets went down SEK 6,000,000,000 due to asset quality improvement. And you can have both. You can have higher losses from very low levels to more normal levels and at the same time see a general improvement of asset quality. And that is what we saw this quarter, We've seen that throughout the year. We've seen a reduction of risk weighted assets of SEK 16,000,000,000 so far this year because of improving asset quality. So yes, both things happen at the same time. Thank you. And our next question comes from the line of Sophie Pendersen. Please ask your question. Yes, hi. So here is Safi from JPMorgan. So I wanted to ask about your new business plan. What should we expect from your new business plan? And will you have a separate day when you give details on what you plan to do? Or will you just announce it with your 4th quarter results? And then if you could just comment on the money laundering cases that are pending or or people are talking about in the Baltics and also the cum ex issue, what your take on these two topics are? Thank you. Okay. On the business plan, we have been working throughout the year, I would say, to try to understand what we think is going to happen with this market going forward. So we have had a vision 2025, and we've done what we call a refresh of that vision. So what do we have to adjust based on what's happened in the last 3 years when comes to our outlook of how the banking environment is going to look like by 2025. Based on that basic view, we decide as a bank what we want to target, where we think we can grow, where we think we can make a difference and where we think there's going to be some profitability for us to gain from. That work is ongoing. We've done that work for quite some time, but it's ongoing. And by the end by Q4 at the latest, with the results of Q4, we're going to present the conclusions from that work. And you're going to have a plan of how we target sort of growth and profitability going forward, what kind of business lines, in what way, what geographies and all that. So that's basically it. It's been extensive work, and I'm sure you're waiting for it and so are we to present it to you. Just quickly on that, I mean, in general, what's your kind of view of the market over the next 7 years then? Do you think we will have a downturn in the next 7 years? Or do you think the bull market will continue? Well, I mean, when looking at the market, it's not just a discussion of sort of the cyclical changes of the market. It's more about sort of structurally what's going to happen with the banking sector and especially where do we think as a bank we can make a difference. So it's not about sort of trying to predict the next recession. It's about trying to understand the long term development of banking. So that's what we're thinking about. We're not doing this for sort of the next year or so, more about the long term. Okay. Then I think I could just address the Estonian money laundering and the cum ex. I think I'll do a fairly short version of what we did this morning, and then you can just ask follow-up questions. But the short story on AML and money laundering in Estonia is really driven about the general interest for parallels being searched for subject to the Danske Bank situation. And I think most banks, including ourselves and the 2 other in this part of the world who are active, has gone out with similar data to say, it's really not for us to be worried about. So we feel very comfortable that what we've done from 2,008 up until today doesn't have any real red flags we need to worry about in the comparison. Secondly, there has been since Wednesday last week, quite a lot of media in Sweden where SEB has been mentioned as a bank, partaking in the very aggressive dividend, call it dividend transactions around securities finance in Germany in the past, so called cum ex. So today, we have just clarified that SEB has not been participating in cum ex. It's not been an offer that we give to our financial institutions clients. And to our best best to our knowledge, we've never done any of this in the light of what media has reported. However, there is an individual in SEB who we learned in July 2018, a former employee who is part of an investigation conducted by the prosecutor's office in Koln in Germany. And that's all we know. But media has made a very large reporting cycle around this in Sweden and pointed to SEB being one of the many banks mentioned in these reports who systemically and systematically used this dividend this dividend treatment in conjunction with this. That is not the case. All right. Thank you. Thank you. And our next question comes from the line of David Bennington. Please ask your question. Hi. Thanks for taking my questions. I have one to start with. You're growing a bit slower in Sweden in the mortgage space than the markets. Could you maybe share some extra color on that, the dynamics you're seeing? And maybe also on margins in that space, please? Okay. First, just to recap. Up until a couple of quarters ago, we had 8%, 9% mortgage growth in the market and we've been around the 4%, 4.5% mark. And we've talked about a year and a half or so that that's not satisfying, but it's not a catastrophe. We are slightly different. Lately, since the house prices stopped increasing since August, September last year, we've seen that the growth numbers for mortgages as a whole has come down and probably approaching the 6% level. But we come out now, I guess, around 2%. So 2, 3 potential explanations. One is that we are relatively speaking very exposed to Stockholm. We are the largest mortgage provider amongst the large banks. And in Stockholm, you have a slightly different characteristic than you have for the average of the country. And that is that the house price fall has been somewhat more accentuated in Stockholm. And when prices fall 10% or a bit more than 10%, so does the demand for mortgages. It's almost a one to one relationship in the short run. And as we are more exposed to that type of market, growth, therefore, will be more shown in our financial results. The other potential explanation I say potential because it's hard to validate these things is that we do have a relatively tight underwriting standard. We are having 7% interest rates in our mortgage calculation to accept the mortgage. We also have the housing co op financial metrics included. So we do rate sensitivities based on both your personal disposable income, ability to service the debt, but also include a monthly fee increase in your housing co op as rates go up. And I think we are 1 or if not the only pretty much the only one do that. So we know these are two reasons why we have lost out from the market on average. We're not happy with this. This is not where we want to be. So right now, we can see the price is not the issue. Margins are stable in this quarter. We did lower the price and the margins a bit last quarter. And right now, we're just working organically and operationally to make sure that our service offer is tipped up. All right. Thanks. Thank you. Your next question comes from the line of Jacob Kruse. Please ask your question. Hi, thank you. Just a couple of questions. Firstly, just on the NII, your average volumes in customer lending sorry, your endpoint volumes in customer lending were down in Q2. So just how should we think about growth of volumes into Q4? Because I guess with that slowdown, your average volumes will, by nature, be down all else equal in Q4, and I guess your NII would be pushed down on that. And secondly, on the NII, could I just ask about your front and back book mortgage margins? And then I just wanted to ask, with respect to the strategic plan, a lot of the other banks in Sweden have invested quite heavily in IT and compliance, while you have been able to keep your cost target flat. So how married should we consider you to be to this fairly long running EUR 22,000,000,000 cost target? Or do you think it's a place where you might look at cost income or something like that as an alternative metric? And then if I may, just lastly, the commission expenses were quite low in the quarter relative to income. So I just wanted to see if there was anything specific happening there. Thank you. Okay. So four questions then. On NII, I mean, the reason you have a lower lending by the end of Q3 versus Q2 is mainly the bridge loans that we mentioned that we had in Q2. So elevated levels of bridge loans that come off the books in Q3. Obviously, we don't know exactly what's going to happen in Q4. So I mean, whether you're going to have sort of bridge loans or other type of lending that's going to increase, it's very difficult to sort of predict how you should think about that. But obviously, the impact, the negative impact from the bridge loans running off, you have now seen in Q3. On the mortgage margins, we said in conjunction with Q2 that front book margins are about 10 basis points below back book margins. Now moving forward, 1 quarter, nothing has happened to the front foot margins, and the back foot margins have now come down by 1 basis points, driven by that change or difference we had in Q2. We now basically have approximately 9 basis points difference between the front and back book margins. On the commission expenses, generally, I mean, if you look at it on an annual basis, commission expenses are sort of a static percentage of commission income. But between the quarters, you're going to have some volatility. If you look at it, I think in Q1, for example, you had higher commission expenses relative to commission income than the average level throughout the full year, because some of the commission expenses are fixed expenses. You pay them once a year. You might pay some more sort of in the beginning of the year and you pay less of that sort of later in the year. And then most of the expenses are variable expenses. So I would say if you look at it through the whole year, you're going to see that expenses versus the income is pretty much unchanged versus the income is pretty much unchanged versus previous years, but they are lower now in Q3. I would still view the net commission line as sort of the best estimate of how the bank was doing on that line this quarter. On the cost level, I mean, what we tried to say with our cost cap is that you should not forget where we came from. We started about 10 years ago with a cost income ratio of 65%, and most of our peers were way below that level. So we weren't as cost efficient as our peers back then. Now we have had this cost cap and we've come down to 0.48, I think it's right now, which is more in line with our peers. But at the same time, a couple of our peers actually moved down from those levels that they were at 10 years ago to lower levels today. So it's actually possible to become more cost efficient. We believe that we have done the IT and the compliance investments in the last 10 years that we should have had should have done. We're doing about SEK 2,000,000,000 worth of IT development investments every year as we speak. That number has gone up in the last 10 years, I would say, and it's possible it's going to continue to go up in the future. If that's the case, then you might have to become more efficient elsewhere. When it comes to compliance, I think our compliance function is at least twice the size of 10 years ago. So we're definitely investing in that area as well. So we don't feel we're underinvested. We feel that we came from a different position than other banks, and now we've managed to sort of come closer to where other banks are in terms of efficiency for the last 10 years. Okay. Thank you very much. Thank you. Our next question comes from the line of Ricardo Rivera. Please ask your question. Thanks again for taking my follow-up question. On Cluster Funding, very recently, given trade tensions, Brexit, budget law in Italy and all these political uncertainties, are you seeing any increase in your potential cost of funding recently? Well, yes, I mean, if you look at the spreads on the secondary market, you can see that spreads have gone up. So the market value of our senior bonds have come down. So spreads are going up by 10, 15 basis points on our senior lending, more for some banks and less for other banks. So that's something that is happening in the market. Now for us, we have about SEK 90,000,000,000 of different bonds maturing this year. We've done SEK 83,000,000,000 of issuance this year. We have had larger deposit inflows that we planned for this year. We have very little funding to do for the next 6 to 9 months. We don't have to do anything really if you don't want to. So in that sense, we're in a good position, but yes, spreads have gone up. Normally, that sort of if you have to do funding with the higher spreads, you pass that on to your end customers. And so in that sense, it's not an issue. But yes, there's been a change. We've had a very long period of spreads coming down, and you've seen a change for the last 3 or 4 weeks, maybe to a more sort of healthy level, I don't know. But yes, we've seen that, but it doesn't really impact our funding costs for now. All right. Thanks. Thank you. And your next question comes from the line of Bruce Hamilton. Please ask your question. Hi, good afternoon guys. Thanks for taking my question. I just wanted to ask or remind myself on rate sensitivity and how you're thinking about that as we move towards Riksbank Heights. Which parts of the asset side of the loan book do you think can be sort of repriced quickly? And how are you thinking about the stickiness on deposits or whether you'll need to pass through any of that on deposits? Obviously, one of your peers is talking reasonably optimistically about scope to get some benefits. So I'd be interested to hear your views. Yes. So I mean we updated our rate sensitivity to Swedish krona in Q2. We said it's about SEK 3,000,000,000 if rates go up by 100 basis points, just to be clear what that SEK 3,000,000,000 is based on. It's based on the fact that we have about SEK 140,000,000,000 worth of equity that we don't pay any interest on. So you have a one to one sort of linear exposure there. If rates go up by 100 basis points, then you make SEK 1,400,000,000 more on that equity basically. Then you have sensitivity on deposits. Some of deposits you pay interest rates on when rates go up, others you don't. We've included all of that in the SEK 3,000,000,000 guidance. We also included the LIBOR and STYBOR floors you have on the lending side. So that deposit equity is all included in the $3,000,000,000 What is not included is any implication higher rates could have on any type of lending. It could be corporate lending, it could be mortgage lending. We have basically said that you have to make your own assessment of what you think will happen with lending rates and lending margins when rates go up. So that is basically our guidance. We guide for the things that we can measure and calculate, then you have to make your own assessment for everything else. Okay. Thank you. Thank you. And our next question comes from the line of customer driven NII declined quite meaningfully quarter on quarter and you signed that performance to markets NII and the change in the FTP. Is this in part driven by developments in the U. S. Money market funds? And do you assume this to be a fair run rate going forward? Thank you. Yes. No, it's not driven by the U. S. Market. It's driven by the IFP changes and it's driven by the sort of short term NII, strong elevated NII we had in markets in Q2. Thank you. And should we assume this going forward? I would say that we had an elevated level in Q2. The level is now normalized in Q3. Perfect. Thank you very much. Thank you very much. There are no further questions at this time. Johan, I pass the call back to you for closing. Okay. Then I'll thank everyone for dialing in and wish you all a very nice afternoon. See you soon. Bye bye.