Good morning, everyone, welcome to this conference call for the Q1 2014. Joining me today, I have Mikael Hallåker, Head of Investor Relations, Lars Höglund, Head of Debt IR, and Jörgen Olander, Group Head of Accounting. The slides used for my presentation are, as usual, available at handelsbanken.com. I will again start by showing you the familiar slide of the bank's value creation from a shareholder's perspective, slide two. Also adding the Q1 2014 equity per share, including dividends, continued to grow by 15% annually. This is in spite of the fact that the bank has again continued to build capital with the core capital ratio now reaching 19.5% in fully loaded CRD IV terms.
Return on equity for the Q1 was 14.1%. The bank distributed SEK 10.5 billion at the end of Q1, corresponding to a payout ratio of 73% for 2013. The bank's very stable quarter-by-quarter development is a reflection of the Handelsbanken unique business model, combining high organic growth with lowest risk. Going forward with new regulation such as bail-in, the potential measures resulting from the Liikanen Report, EMIR, et cetera, we believe the bank's very stable business model will prove even more robust also in the relative perspective. On slide four, you can see the profit and loss account. Year-over-year, operating profit as well as profit after tax improved by 13% for the group. In the home markets outside Sweden, the operating profit rose by 30%.
Net interest income rose by 2% for the group and by 13% for the home markets outside Sweden, most profoundly in the U.K., the Netherlands, and Finland. Net commission income grew by 10%, driven by higher asset management and card fees. Net gains and losses on financial transactions more than doubled. However, here you should, of course, adjust for the extraordinary capital gain of SEK 306 million made on the reallocation of the bank's shareholdings that was announced in March. Except this item, net gains and losses on financial transactions rose by 36%, mainly as a result of higher client activity in the foreign exchange business. In total, revenues increased by 8%, while total expenses rose by 2%. Other administrative expenses were down by 3%, while staff costs increased by 4% due to the continued expansion and the annual salary increases.
Loan loss ratio was seven basis points. The credit quality remains solid. U.K. had zero loan losses. Denmark and the Netherlands had net recoveries. Let's turn to slide 17, where we analyze the development of net interest income in the Q1. The three-month STIBOR rate fell by almost 20 basis points in the Q1. This has a direct negative impact on deposit margins in Sweden, reducing net interest income by SEK 32 million, while increased deposit volumes in Sweden added SEK 2 million. Lending margins in Sweden improved slightly, which added SEK 35 million. Our mortgage margin increased by three basis points to 91 basis points. Somewhat higher mortgage volumes compensated for a slight decline in corporate lending. Lending volumes in total contributed SEK 9 million to the net interest income development.
In home markets outside Sweden, higher business volumes added 66 million SEK. Margins reduced net interest income by 12 million SEK, and here higher corporate lending margins in the U.K. contributed positively as did deposit margins in Norway and Finland. Lending margins in Norway, on the other hand, fell somewhat as did margins in Denmark. The benchmark effect, together with the fact that the first quarter had fewer days, reduced net interest income by 81 million SEK. Other effects had a negative impact of 99 million SEK, and part of this was due to a lower interest on the bank's equity, which is financing assets with short duration and thus was affected by the lower short-term rates.
As you know, the bank issued a subordinated Tier 2 loan in early January, which compared to senior funding, carries an increased interest cost of roughly 25 million SEK for the quarter. At the end of the quarter, the bank also called a hybrid of 2.9 billion SEK, which was issued in the first quarter of 2009. On slide number 11, we show the earnings contribution from the home markets outside Sweden. 32% of total home market branch office earnings are now generated in the home markets outside Sweden, compared to some 19% two years ago, and that's on a rolling 12 months basis. This quarter, operating profit in the non-Swedish home markets increased by 30% compared to first quarter 2013. Net interest income improved by 13%, while fees and commissions increased by 28%.
The wealth management business in Heartwood contribute almost half of the growth in fees and commissions. Loan losses in home markets outside Sweden dropped sharply by more than 60% compared to the first quarter 2013. In all, six new branches were opened outside Sweden in the first quarter, and since lending margins in general are higher outside Sweden, the continued expansion, and that's both in existing branches as well as in newly opened, is supportive for the group profitability. In the first quarter, all home markets outside Sweden, except Finland and the newest one in the Netherlands, are on par with or above Sweden when it comes to return on allocated capital. That's of course, in spite of the investments made in new branches. Now let's turn to slide number five to touch a bit about the current credit market behavior.
The slide shows the spread between sub-investment grade or high yield CDS and investment grade CDS. As you can see, that spread is now back on pre-crisis levels. A similar pattern can be seen if you compare spreads between high risk and low risk banks such as Handelsbanken. The reason for this development, as I see it, is the huge excess liquidity in the market, spurred by central banks who, for a long time, have provided almost unlimited liquidity. At the same time, the supply of new bonds from issuers continues to be muted. The result is that investors seem to chase whatever yield there is in this ultra low yield environment, more or less nearly regardless of the riskiness of the asset. Apart from the obvious risks in the real economy, not least geopolitical, there are a few potentially important themes in the funding market in my opinion.
One of them is, of course, the bail-in that now has been decided by the European Parliament with the notion that senior bondholders and corporate depositors will actually lose their money if the bank in question gets into trouble. This will, of course, benefit the very strongest bank with the least likelihood for any scenario where bail-in could materialize. Another theme is the potential implementation of what was the Liikanen proposal, now developed and adopted by the European Commission, and the impact that may have for funding costs of those banks affected. Handelsbanken is not at all affected by this proposal since we are well under the 10% threshold. The third theme is around collateral, which for some banks will, in my opinion, become scarce resource with a more profound cost attached to it.
Also here, Handelsbanken is in a very good position since we keep a very high degree of non-encumbered assets in the balance sheet to shelter all unsecured creditors. On slide number six, we show the financial position of the bank, which has continued to strengthen further. Core equity ratio increased to 19.5% from 18.9% at year-end. Here, earnings for the period contributed 0.4 percentage points with positive rating migration of existing customers as well as positive volume migration also contributing to the improved ratio. The total capital adequacy ratio improved to 24.5%, up from 21.6% at year-end. The Tier 2 issue made in January here contributed by 2.9 percentage points. As can be seen here from the slide, our long-term capital development has been very strong.
In 2009, the bank had a return on equity of 12.6%, with a core equity ratio of 9.4% at the end of the first quarter. Today, that ratio has more than doubled, and we have a return on equity, which is above 14% for the first quarter. We have not been below 12% return on equity any single quarter during the crisis, in spite of the very strong capital buildup that has continued also in the first quarter. As you also probably have seen, there is a lot of different liquidity ratios, either in the current or the future regulatory world, as well as other ratios used by rating agencies. We have therefore here provided a summary of the most frequent ones. As you can see, regardless of what ratio you look at, we are compliant or very close to be compliant on all thinkable ratios.
To be compliant on these ratios is therefore not an issue for Handelsbanken when and if these ratios becomes part of the regulation. Also, the liquidity ratio, total liquidity reserves divided by total lending to the general public is above 50% for Handelsbanken. On slide number seven, you can see how the Basel Committee views the ranking in terms of stable funding in their revised NSFR proposal. The most stable funding sources are capital as well as bonds with a maturity of more than one year. Understandably, all sorts of deposits are deemed as less stable than long bonds. Large corporate deposits only receive a 50% stable funding weight. I think this makes a lot of sense, especially now that the European Parliament has decided on the Bank Recovery and Resolution Directive, implying that bail-in will be in force from the 1st of January 2016.
Large corporate deposits will, from this date, be subject to bail-in in a resolution situation, pari passu with senior bondholders. This means that corporates have to be much more careful in where to deposit liquidity, and also as soon as a potential problem for a bank is underway, the deposit base will be quick to leave the bank in question. I think it is safe to draw the conclusion that importance for a bank of having a soundly matched balance sheet will now increase considerably. On this subject, looking at slide number eight, you can here see how we have worked on this subject since 2006. As you know, we started off already early in the crisis to prepare for a tough market and for new regulation gradually coming in, being alone in not funding ourselves through central bank aid.
With constant, continuous access to the funding market throughout the crisis, also for long senior bonds, we have chosen to even further increase the match funding of the balance sheet and increased our share of bond funding from 23% up to the current level of 40%. At the same time, the share of short-term instruments and borrowing from credit institution has halved. This is in spite of the fact that we have built up our massive liquidity reserve during this period, including the equivalent of more than SEK 400 billion that we have now placed overnight with central banks. This position, together with liquid bonds, means that we could immediately pay back all our short-term instruments and credit institution funding maturing within a year if we should wish to do that. There is thus no reliance whatsoever on short-term funding in Handelsbanken.
In foreign currencies, our currency reserve is in fact on par with the entire currency reserve of the Sveriges Riksbank. We still enjoy the lowest funding costs of any European bank, but the difference has narrowed, though, because of the enormous flood of liquidity in the market and of course, the chase for yield. This will normalize to much larger differentiation between banks again once the market starts to digest the new landscape in terms of various regulations. To slide number nine, which shows our non-encumbered assets. This is another important area for banks going forward and one area where regulation, again, will increase focus after AQR is done. Collateral will be a scarce resource for weaker banks, and the price of collateral will reflect that, I believe. Corporates will demand collateral from weaker banks in order to make deposits in the bail-in world.
Many banks today write mutual collateral servicing agreements, CSA, also with corporates, stipulating that the bank needs to post collateral to the corporate for negative derivative exposures. The new framework, which will be gradually implemented, means that non-cleared derivatives will demand also an initial margin or upfront collateral in addition to margin collateral. Last but not least, the very extensive use of central bank funding that demands huge volumes of collateral for banks that have had to use this type of funding. In Handelsbanken, we don't have mutual CSAs with corporates. We have a very small derivative book compared to other banks, and we certainly don't use any central bank aid funding. We keep our collateral to the benefit of senior bondholders.
36% of all our mortgage loans are kept outside the covered pool, non-encumbered, in spite of the fact that they are eligible to include in the covered pool. Altogether, non-encumbered assets cover unsecured funding by almost 230%. The quality of those assets, as you can see, has for decades proven to be of the very highest standards. On slide number 12, an update on our U.K. operation. The development continues to be very good, as you can see, with revenues up 28% and operating profit up 53% in local currency compared to the first quarter 2013. Net interest income here increased by 30% and fees and commissions more than doubled, to a large extent, thanks to Heartwood, but here also higher payment fees contributed. Looking at the volume development, we see the same pattern as we saw throughout 2013.
More and more of the growth comes from existing branches, adding more and more business with their customers. Compared to the first quarter 2013, average lending volumes in local currencies were up 14%, and average deposit volumes rose by 126%. Margins continued to develop favorably with a slight margin increase in the corporate lending. Credit quality remains excellent, and there were no net loan losses at all in the first quarter. Five new branches were opened the first quarter in the U.K., and another seven branch managers have been appointed to open new branches. We continue to be very optimistic about our opportunities in the U.K. To summarize, shareholder value measured as equity per share, including dividends, continued a steady growth of 15% per year since the start of the financial crisis in 2007.
Operating profit increased by 13% year-over-year, and for home markets outside Sweden, the increase was 30%. Non-Swedish home markets now contribute 32% of the earnings in the total branch office operations. In spite of the continued investments in expansion outside Sweden, most of these home markets are now on par or better than Sweden in terms of return on allocated capital. Return on equity for the group increased to 14.1%, and the bank continues to build capital. Core equity ratio improved to 19.5%, and that means that we have even further continued to improve our starting point for deciding a new capital target when the Swedish rules are clear.
The credit markets currently are flushed with liquidity, chasing yield, and are nearly not at all differentiating between very low risk, such as ourselves, and high or even higher risks. This, I believe, will change again to our benefit when the market starts to price the impact of the new regulation that I talked about and the regulation that will keep coming over the next few years, such as, for instance, bail-in regime. With that, I conclude my presentation and open up for questions. Thank you.
Ladies and gentlemen, if you'd like to ask a question, please press 01 on your telephone keypad. Our first question comes from Mr. Omar Keenan from Deutsche Bank. Please go ahead.
Good morning. Thanks very much for taking the question. My first question is on the mortgage margin in the Swedish branches, which increased to 91 basis points. I noticed there was an increase in the capital allocation towards the Swedish division, among others. Could you discuss, please, how your capital allocation calculation has changed quarter-on-quarter and what you believe drove the margin increase, given that we're expecting margins wouldn't go up until we actually got the 25% risk weight come in? What's the fully applied CRR leverage ratio on Core Tier 1?
Just the second part of my capital question is that, even if we know the Pillar 2 outcomes in the next month and you're able to set a Core Tier 1 hurdle rate for Handelsbanken, could you discuss any kind of second or third capital constraints we should be thinking about, such as corporate risk weights or leverage ratio, for example? What role the transitional rules and Basel I floor staying in place and RWA will have on your thinking on capital? Thanks.
Thank you very much for those questions. We have not changed any allocation principles between Q4 and Q1. As you probably know, the capital allocation principle is that each area, first of all, gets exactly what they need from as a minimum capital charge according to the external rules. Then, of course, we after that allocate the extra capital that we have above the minimum capital requirements. That allocation is then spread through the different parts. The analysis that you try to do to talk about the mortgage risk weights and see if that has gone into the margins or so on from a capital allocation, nothing has happened on that side between the quarters here. More profoundly on that, three basis points is not a huge difference.
Actually, if you take away the rounding up of the figures, it's more maybe than two and a half or something like that. I don't think you should overestimate these 3 basis points. Second question, if you're interested in leverage ratio, I'm very interested to hear your views on what definition one should use. If you look at our Pillar 3 report, we have a section there where we do all sorts of calculations for the leverage ratio according to different ways to define the measurements. Of course, the change between the quarters are not immense when it comes to how the leverage ratio develop. If you have any problems with taking you through those figures, you are very welcome to call our IR department. If you just give us your definition, we will give you the number.
Second part of that question is, of course, a very interesting one. How about leverage ratio? Will it come into effect? How about corporate risk weights? Will there be a second round of that as we have seen on mortgage risk weight in the Swedish Pillar 2 proposal? I think both on leverage ratio and on corporate risk weights, I think this is very much now not a Swedish question initially, it's a Basel question. As you know, Sweden is of course participating in those negotiations and the view that is now Basel has to formulate. Then, of course, the last step would be the implementation in Sweden. My feeling when talking to regulators, authorities is that Sweden is not very keen at all in principle of having a leverage ratio as the guiding principle.
Sweden likes the risk weight principle. Then have a lot of capital instead. Then with that thinking, if it's possible for Sweden, I think it would be a high likelihood that the leverage ratio would be more of sort of backstop thinking on that. We have to see what comes up.
Okay. Thanks very much for that. How should we think about the RWA transitional number going forward?
The transitional rules, as you probably have heard in Sweden, will still be there. The old Basel I floor transitional rules. I think that probably will be in effect until all has been said about leverage ratio and corporate risk weights and all risk weights. I think you shouldn't expect that rule to disappear. That's my guess. I'm only guessing here, but from what I hear, I think it's a high likelihood that will be in effect for a couple of more years until the full answer on leverage ratio on corporate risk weights is clear.
Okay, thank you. That's very clear.
Our next question comes from Mr. Jan Wolter from Credit Suisse. Please go ahead.
Yes, good morning. I'm Wolter , Credit Suisse. Just a follow-up question here. I think you said earlier, about a 20% total capital could be necessary on the new regulatory regime. Earlier today, it was mentioned on the presentation that about 20% could be necessary. Is that mainly a function of lifting the core capital hurdle, or rather the bank's ambition to increase the additional tier-one component in the capital structure, please?
I think you should interpret it as a general statement saying that if you add up the new regulation that is now coming into force, also bear in mind the importance for a bank to be prudent in capital planning. Because of bail-in, because of the resolution regime, et cetera, because of how the funding markets will react in a world where the central banks have taken back the large flows of liquidity, et cetera. In a more normalized world with the new regulation, it's a good thing to have a good capital situation. Therefore, if you add up the numbers, it's very easy to draw the conclusion that 20% total capitalization is certainly something that you should have and be above. That was also mentioned today, we have to see on the new rules and implementation, will there be more on top of that.
Thanks a lot for that. Just to follow up there, when do you hope to update the market on new capital targets, please?
As we said before, we need to know the rules. As to what I've heard, there will be a lot of information coming out during May. The Swedish FSA, it has been said that they will come out with something on the 8th of May, I heard today on the press conference. Also there is a meeting in the Stabilization Forum. As you know, I think that is the 23rd of May. Probably we'll know more about May, and we, of course, will follow this very closely. As and when we think that we have the full information needed, we will of course come back with feedback on that.
Okay. Many thanks for that.
Our next question comes from Mr. Anton Kryachok from UBS. Please go ahead.
Good morning. Thank you very much for taking my questions. Just two questions, please. One on capital and one on the P&L. Starting with capital, please. If we do get more clarity on capital demands in Sweden this month, would you expect to quickly adjust your capital base to new capital demands? Or do you think it's going to be a gradual process which you would execute probably towards the start of next year? The second question please, on the P&L. I've noticed you have changed the cost allocation policy to Oktogonen. I was wondering what is driving that and whether this is a sustainable cost reduction, or would you look to reverse it back at some stage? Thank you very much.
Right. Thank you very much for those questions. First question, if we would find ourselves in a situation where we would have too much capital when there is clarity on the rules, and there's no need to have the amount of capital that we have at that moment. There are, of course, two ways you can go about that. One is buyback, which is something that can be done rather quickly. The second thing is, of course, dividend. Then, of course, that's a shareholder meeting question, so that is a longer process. This is just my technical answer, and I don't want to give you any sort of guiding on whether I think that it's likely that we will have too much capital or not.
The jury is really out and a lot of uncertainty now about the Swedish implementation and also the other questions we touched upon. From technical side, that are the two means. On Oktogonen, over the years, the Oktogonen system is, as you probably know, very old. It was initiated in 1972. Over the years, there has been adoptions. The adoption, of course, has to do with the fact that the dividends and the increase in dividends has been rather rapid, one must say, over the last years. Therefore, the hurdle when we fulfill our company goal of having higher ROE than the average of our peers, there is a maximum amount that can be set off even if the difference is huge in terms of profitability between us and the peers.
There is a maximum, that has been 15% and has now been anticipated for being 10%. This is a decision which is totally discretionary from the board side. For calculation purposes, I think you should use the 10% going forward for these coming years. Then, of course, one had to think about what is the likely dividend going forward and how do you look upon the difference between our ROE and our peers in your projections. I never do projections, as you know.
Excellent. Thank you very much. Very clear.
Our next question comes from Christoffer Rosquist from Barclays, please go ahead.
Thank you very much for taking the questions. First one is on margins in the foreign operations. You mentioned before in which countries the direction in the development of each of the countries. Could you please perhaps comment a little bit on the reason behind the decline? I appreciate that you're a very decentralized organization. There might be as many reasons as you have foreign branch managers. Perhaps if you could pick on some of the key underlying reasons for the decline in margins abroad. The second question is really on your sensitivity with regards to deposit margins in Sweden. If in the next quarter we would have a similar decline in short-term rates in Sweden, would you then see another SEK 32 million decline, or are you now more sensitive as we are in a lower interest rate level?
if you could just comment on, I think credit losses in Sweden increased, albeit from a low level, but if you could just comment on perhaps what's behind that. Thank you.
Credit losses in Sweden, to start with, it is not any sort of trend or doesn't say anything about any change in the credit quality in the portfolio. As we say in the report, the number is to a large extent affected by a single event. On deposit sensitivity, we had some lowering of the interest that we pay to the clients early this year, which of course has affected the number you're looking for. All other things being equal, I think the best proxy is to say it's linear. Of course, you have to filter in how are we reacting towards the clients. We are still, of course, paying some interest rates also on deposit on part of our accounts.
There is still some room, although, as you point out, as you come down to zero, the room also gets zero to do something about it. I think for calculation purposes, at this range it's pretty linear. You had a question about margins and why does margin go down in the other countries outside Sweden. I think the starting point here is to understand that we are not in any of those markets price leaders. We're not the price leader even in Sweden. That has to do with the fact that in our structure, as you know, it's the branch office that sets the price, and therefore we are always the follower. We take the market price. What has happened here is that it's the market price that has gone down. It's not on the funding side, it's the market price.
I think if you take Norway, for instance, the large two banks there increased the margins and the price towards the clients very much when they stopped taking money or were forced out of the central bank there and then they tried to compensate that. You saw that last year, and our margins, of course, then went up very sharply because we have never taken any central bank money, subsidized money. We got the full margin pickup. This year, competition has increased, and they have lowered the price towards the clients. Not at all, of course, back to what it was before they started the exercise, but a little bit the trend has been down. That is what you see from the figures.
Thank you very much. That's all clear.
I'll remind you if you'd like to ask a question, please press 01 on your telephone keypad. We have a question from Mr. Riccardo Rovere from Mediobanca. Please go ahead.
Good morning to everybody. Just a couple of questions from my side. Is it possible to have an idea of the reasons behind the collapse
In corporate risk weights in this quarter, down another more or less 2.5 percentage points in just three months. Is it also possible to have an idea of the corporate risk weights in Sweden, U.K., and the Netherlands? Last thing I wanted to ask you, what is your reading about the FSA? Let's say, the regulators in general are willing to maintain the transition rules, instead of eliminating them from your capital calculation.
Thank you very much for those questions. Transitional rules, as we touched upon, I think in all likelihood, they will be kept for quite some time until the whole new regime is safely implemented. For instance, the questions about corporate risk weights is settled, and also leverage ratio question and so on. I'm only guessing, but from what I hear, I think it's reasonable to assume that the floor rules will be here for quite some time.
Okay, I understand. Why? Why are they keeping it?
The Swedish authorities are firmly believing that it's a very good thing that Swedish banks should have a very high capitalization. You have to understand that it's not so very long ago that the government had to implement a lot of rescue resources for three out of the four banks. Of course, they don't want to be in that situation again and want the Swedish banks to cater for their own needs, as we have done all along in Handelsbanken. It's a high pressure from authorities to say that Swedish banks should have a very good capitalization, and part of that toolbox are the transitional rules. To what you refer to as a collapse. That sounds very dramatic to me. I wouldn't describe it as a collapse in risk weights for corporates, but you are indeed right. They have gone down slightly. That is a fact.
It's a mix effect, but more profoundly, as you know, in CRD 4, there is a rebate when it comes to risk weights for SMEs. It was implemented in the very last stages before the regulatory framework was decided. That is the SME effect, that you get an SME rebate.
SME supporting factor is what you're referring to, right?
Yes, in the framework, as you know, in the risk weights, it was in the last minute decided that the risk weights for SME would get a rebate.
Yeah. Okay. Fine. With regard to the, let's say, a kind of breakdown of this 26%, Sweden, U.K., the Netherlands. Is it possible to have a rough idea?
We get out a lot of information on our books in the Pillar 3 report. I would suggest that you look into that, and then you can get a very good view of the different portfolios. As you know, we have the same strategy and the same credit process in all countries, and therefore, you will over time see actually the same kind of very low credit loss levels regardless of country. The difference could be, of course, that we have a longer history in Sweden than in some of the newer countries. There you have a difference.
If you look at the actual losses over an extended period of time, you will find that they are not very much a function of geography, which is, of course, proving that we use the same credit process, and the way of looking at credits in all our markets. Look in Pillar 3, have you more questions, don't hesitate to call our IR department and we'll try to resolve it.
Will do. Thank you. Thanks.
Our next question comes from Mr. Omar Keenan from Deutsche Bank, please go ahead.
Hi. Sorry, just a follow-up question to Chris's question. Did you give us a figure for interest rate sensitivity? I might have missed it. Thanks.
My answer to that was, the question was, if we have a downturn in, more specifically, a question regarded Sweden, and here we had a downturn in STIBOR rates of 20 basis points on average for the quarter. If we would have another 20 basis points, would we see the same pattern? My answer, in principle, is yes, it's linear, but you should also keep in mind that we did some lowering of prices on what we pay on interest-bearing accounts in Sweden earlier this year. That has offset it slightly. Otherwise, I think it's a good assumption to say it's rather linear. Of course, when you approach zero, of course you can do nothing, in terms of paying less. We have already come down so very far, so that journey is not very long to go, I'm afraid.
I thought there was some sort of discussions in the past that the sensitivity to 100 pips was something like SEK 1.6 billion. Is that still the case, or is that a ballpark figure that's right, excluding any impact from deposit repricing that can be done to offset that?
I would refer you to two things. First, you should look at the slide that we provide some quarters where you can see STIBOR, and you can see the margins on deposit and on lending over time. There you can very clearly see what type of sensitivity we have in our banking book, our lending, and deposits. Then on top of that, you have, of course, the fact that we have our equity is from a financing point of view, placed in short-term assets. That is, of course, coming in when you look at the analysis of the difference in the net interest income in the slides, you will see that there is an item, other, and the largest part of that other is the fact that, of course, the equity financing effect, of course, is worth less when the interest rate goes down, so to say.
Look there, and why don't you give Mikael Hallåker a call afterwards if you have any problems?
Could I just ask a quick follow-up question on the deposits? If we get another interest rate cut-
Yep.
-do you think there's space to do more deposit repricing down, or do you think we're pretty much at the floor? One of your peers has been saying that over the past couple of years, competition from niche players has increased quite a lot, particularly in the deposit gathering business. Do you think there's space to reprice more if we get a rate cut or not? Thanks.
I think there's a little bit you can compensate in a rate downturn, but there is not much interest rates left, actually, to play around with. When you talk about the competition, yes, there are, of course, banks that are competing for deposits because they think they're important. We don't do that. As you know from our liquidity planning process, you have to realize that deposit is not a terrifically good thing when it comes to funding your balance sheet. You have to be very careful. Now, with corporate deposits being object of possible bail-in in the new rules, of course, that will not be sticky.
We view deposit as something that, yes, it's part of the product range we offer for clients, and we love to do everything for our clients, but you have to be extremely careful when you look at the balance sheet, not to make the assumption that if there comes a very rainy day, that the deposit will be sticky. Some other banks are working in other ways, and of course, then I have seen examples where they are paying up for deposits. We don't do that.
Okay. Thank you.
Our next question comes from Mr. Christoffer Rosquist from Barclays, please go ahead.
Yes, thanks. Just one more question from me, and it's on capital. You describe in the report how some of the increase in your Core Tier 1 ratio is due to the new loans are of higher quality than old loans. I'm just trying to understand how long that trend might last, how much more high-quality loans are there that you can win? Also how this works logically, because I understand that credit policy is one of the things that are centralized in Handelsbanken, and I also understood you as a very consistent bank. How come there now are corporate clients that are of a higher quality? Have your stock turned out worse than expected, or have you become more strict in your underwriting standards? Thank you.
Thank you. I have only looked 42 years back when we adopted our credit policy, and you can see the same pattern over these years. It's not rocket science. 30% of whether credit will become a credit loss or a bad credit or so on has to do with the initial decision. 70% of the outcome has to do with how you handle the credit over the lifetime. That is one very important difference in how we handle credits and some other banks handle credits. That means that our branches look through their whole portfolio each and every quarter. If they find a credit that is below average, they have to take action, talk to the client, and see how we, in a mutual way, can make the risk comes down, because that is often what the clients also want, and act at a very early stage.
If you do nothing, if you just take in credits and put them in the vault and just wait, you will always have a deteriorating portfolio. That's a natural law. You have to work very active with your portfolio because when you take in things, of course, although you have all the information, things tend to happen and some things turn out to be not what they were from the beginning. It's extremely important, and this is part of the explanation why we have consistently have the lowest loan losses of all banks over time. It's not rocket science. It's hard daily work from people that are in total responsible for the credit quality out there and that are sitting extremely close to the client.
Thank you. Perhaps I misunderstood the driver here, because it sounds to me, very simply put, that you're now chasing, let's say, triple A clients instead of double A clients, which you have done previously.
It's not that. No. It's a constant thing that you take in clients that are better and the ones that are leaving the balance sheet, they are, on average, of lesser quality than the ones you take in.
Okay.
Of course, if you work like that actively with your portfolio, you will of course have a positive effect. Even in a situation where you might have a negative migration on the whole stock. Of course, exchanging less creditworthy credits with better credits gives you a mix effect that will put you in a better position. It's not that we have changed policy, that we have changed focus, that we have changed our view on which customers we want, et cetera. It's same. It's a constant factor that we work over time.
The question in this is, the corporate clients that turn out to be of lesser quality than you'd hoped, which other bank takes them, or do they go to the bond market?
In this environment today, there are many banks that love to take clients also if they are not top quality. We are back to a situation where the risk willingness is immense and covenants and all these restrictive things are getting out of fashion in the banking system. There are plenty of money out there. You can see that in the private equity deals that are done now on a high leverage and without covenants and so on. We are obviously not participating in this. If you look it from a market perspective, there's lots of risk-willing money out there.
Very clear. Thank you so much.
Our next question comes from Mr. Matthew Clark from Nomura. Please go ahead.
Good morning. A couple of follow-up questions on capital. Firstly, the FX translation seemed to be quite a beneficial impact this quarter. I was just wondering if you could remind me of your policy there and your tolerance to FX, either risk or benefit within the capital ratio, how you look to hedge or minimize that or whether you're willing to have that move around quarter to quarter. Just coming back to the last question on this mix effect from inflow and outflow of higher and lower quality customers. I get that you're consistently looking to improve the quality of your customer base, but in terms of the impact that it has on risk-weighted assets, am I right to think that this will be cyclical?
That in order for there to be this differential between good and bad customers that comes through in the mix change, you have to have first had a deterioration of customers that were better quality when you took them on in the first place. If that's right, how long should we expect this beneficial mix shift to contribute? Because clearly it's had quite a significant impact on your capital ratio growth year-on-year. Can we expect that impact to come through in a similar magnitude over the next 12 months? Thank you.
Thank you. On the last question, I think it is very hard to say. Theoretically, you're right. If all clients are tip-top and so on, there is nothing to work with. That's what you say. Even though you look at the portfolio each quarter, you will find only top quality and nothing to do. It's a very theoretical situation, of course, you're right in the context that the worse time you have, the more important this work is. I give you that. I think in all normal circumstances, you will have a mix effect and so on. Also, collateral here is, of course, part of this work to take in more collateral. I think there we are looking forward to a very interesting development, which I touched upon when it comes to collateral handling from banks, both giving collateral and taking collateral.
I can't see, you're looking very short term when you say, will this stop in one year's time or so on? It's much more long term than that. I don't anticipate this as a very temporary effect that we see. It's a constant effect in normal times. You talked about the FX variation that we got in capital, and you can see here that year-over-year it was 0.4, it was 0.2 in the quarter. We have some match funding in our capital when it comes to the hybrids and Tier 2 instruments that we have issued. Of course, now we have a situation, as you know, with a lot of our capital is core capital, and of course, by law, we have to hold that in Swedish kronor. Of course, the equity we hold in our activities outside Sweden is in foreign currencies.
That is a hedging element. We are trying over time to get as little volatility as possible in these items. There are also problems from a tax point of view. You're not entitled to hold whatever capital you want in a foreign entity, et cetera, for tax reasons and so on. It's technically not totally easy. Then, of course, we have to also admit that we are not doing any budget. Of course, as you can see from the results, the proportion of profits that's coming outside Sweden is just increasing and increasing. This is, of course, very positive from other perspective, but I give you that you get a little bit of volatility in the capital measurement here.
Can I just follow up on the first part when you mentioned collateral playing an important part? Am I right to think then if simplistically you're shifting your business mix out of, say, unsecured consumer lending into mortgages, then that mix shift in risk-weighted assets would show up in that inflow/outflow line item that you disclosed this quarter, or would that show up in a different line item?
I was more referring to when this constant work, the quality work that our branches are doing each quarter and referring to a question regarding, for instance, corporates and so on. Then, of course, taking in collateral, additional collateral, if you have a more problematic situation and so on. Of course, there are mix changes, as you say. For instance, bank loans as opposed to loans with security in real estate. You have seen more of real estate-backed loans than loans without any pledges. There's been some sort of trend. That is not something that we are sitting central and deciding. That's just a function of the market because that's how the demand from the clients have been, so to say. Of course, as you know, a lot of Swedish corporates nowadays have a lot of money themselves.
They are in a very good liquidity position. They don't necessarily have very big investment plans yet, although they are now starting to look at their future investments because of a bit more positive climate, one must say. The loan demand on the corporate side has been weak, as you can see from the general market statistics in Sweden from the corporate side.
Okay, thank you.
That concludes our Q&A session. Please go ahead, speakers.
Thank you very much for participating. As usual, don't hesitate to call us if you have any more questions. As we say in Sweden, Glad Valborg. Thank you very much for participating. Bye.