Welcome to the UBS second quarter 2018 results presentation. All participants will be listening remotely, the conference call is being recorded. After the presentation, there will be two separate Q&A sessions. Questions from analysts and investors will be taken first, followed by questions from the media. You can register for questions at any time by pressing star 1 on your telephone. Should you need assistance during the call, please press star 0 to call an operator. The conference must not be recorded for publication or broadcast. At this time, it is my pleasure to hand over to UBS. Please go ahead.
Good morning. It is Caroline Stewart here, Head of Investor Relations. Welcome to our second quarter results presentation. This morning, Sergio will provide an overview of our results, Kurt will take you through the details. After that, we will be happy to take your questions. Before I hand over to Sergio, I would like to remind you that today's call may include forward-looking statements. These statements represent the firm's belief regarding future events that by their very nature are uncertain and outside of the firm's control, our actual results and financial condition may vary materially from our belief. Please see the cautionary statements included in today's presentation on the discussion of risk factors in our annual report for a description of some of the factors that may affect our future results and financial conditions. Thank you. With that, I would like to hand over to Sergio.
Thank you, Caroline. Let me first touch briefly on our strong performance this quarter, then I will cover some highlights of the first half of the year and our plans for the future. Q2 net profit increased 9% to nearly CHF 1.3 billion, with strong growth in Global Wealth Management and the Investment Bank. In Personal & Corporate Banking, momentum was good as profit increased. Reported profits in Asset Management were impacted by a business disposal in Q4 2017. Kirt will cover the quarterly results in detail later. Strong performance in Q2 contributed to a very good first half, with net profit up 15% to CHF 2.8 billion. Global Wealth Management's reported profit reached CHF 2.2 billion, the highest in 10 years. The Investment Bank was strong across the board, with 24% adjusted return on attributed equity. Personal & Corporate Banking maintained its good business momentum despite interest rate headwinds.
In Asset Management, we saw a rebound in normalized profit, invested assets reached a decade high. To conclude, we had two consecutive quarters of returns well above the 15% return on tangible, we brought down our cost-income ratio by 240 basis points. We have generated around CHF 3 billion of CT1 capital in the first six months, the most in any first half since we began the implementation of Basel III. We added CHF 1.1 billion to our capital base while accruing for the 2018 dividend in line with our dividend policy. In Q2, we also bought back CHF 550 million worth of our shares, achieving the target we set for 2018. Any additional share repurchases this year will depend on business and capital development. Now on our strengths and plans for the future.
As you know, UBS is the largest and the only truly global wealth manager, with a strong footprint and excellent growth dynamics in the world's most attractive markets. This is what makes UBS unique. We can also rely on very strong and stable earnings from our Personal & Corporate Banking business as part of our leading universal bank in Switzerland. In Asset Management, we are focused both on areas with high growth potential and attractive margins. Similarly, our Investment Bank excels in the areas where it has chosen to compete and is a leader when it comes to resource efficiency and returns. All our businesses are critical to the success of our strategy, and each of them is a source of competitive advantage for the others. You have seen UBS delivering good profits in a variety of conditions in recent years.
This speaks to the reliance and diversification of our earnings in difficult times and is also a result of our investment over the years. We continue to see significant potential in the world's largest and fastest-growing markets. The geographic and business diversity comes at a cost, which is structurally higher than many of our peers. Having said that, these costs are more than offset by the superior prospects and returns of our models. Looking at revenues, we have added $2.2 billion to recurring income over the past six years or 5% compounded. Today, almost 60% of revenues are recurring in nature. At the same time, we have refocused all our businesses on risk-adjusted return and efficient use of resources. Transaction income also grew despite margin pressure, risk aversion, and low volatility environment.
Because our business is capitalized and also because of our risk discipline, credit losses have been minimal, which speaks to the quality of our credit book. Finally, I like to highlight that UBS is one of the best-rated large global banks. Here are some examples of the cost associated with our global and diversified business model. The $52 billion we have built in TLAC since 2012 has led to an increase in funding costs of around $700 million per annum. In addition, the implementation of new regulations has also been costly. We are now spending over $1 billion and a half on regulatory matters every year. The inflow of new regulation has been well above anything we could have anticipated, and some of the associated costs are more permanent in nature. The latest example that will cost us over $100 million is Brexit.
Naturally, we continue to actively work to bring more efficiency to overall regulatory spend. Our philosophy in managing the trade-off between cost-income and capital efficiency on an absolute and relative basis is best reflected on this chart. Our model is very capital efficient, comes with a structurally higher cost-income ratio, however, generates superior overall returns. Of course, we are working to improve on both fronts in order to move to the next efficient frontier. How do we get there? First and foremost, we need to keep growing the top line, and here we have a range of strategic plans to add to the growth inherent to our business. On costs, we have to focus on continuous improvement as well as structural changes, including investing in technology, which will enable us to create sustainable efficiency.
We are taking some initial cost actions in the newly combined Global Wealth Management, as well as in Asset Management, which form part of our plans to improve efficiency and effectiveness. We continue to reduce corporate center spend outside of tech and risks. Having said that, even within tech, we are doing some heavy lifting to insource staff to gain greater control and better efficiency. As I mentioned in Q1, the creation of Global Wealth Management was a natural evolution of our business model, and it's a story about growth. Having said that, of course, we are taking measure to optimize resource utilization in the new organization. We already have an excellent position in terms of loans and mandate penetration, but we still have more scope to grow in both areas without compromising on risk or suitability standards.
Post full implementation of FATCA and automatic exchange of information, we have a unique opportunity to expand our global offering to ultra-wealthy and global family office clients, regardless of their domicile. For example, we are working on new avenues to link international clients into the Americas and better serving U.S. persons anywhere in the world. We are also working to fuel more growth in our GFO business by extending and scaling this highly successful joint venture between Global Wealth Management and the Investment Bank. The key regional drivers of growth, Americas and APAC, remain intact, and progress here continues to be excellent. We see onshore China as a critical long-term driver of growth, and we are investing to capitalize on our strong position in the region. Of course, technology remains an important part of the strategy. We are piloting and perfecting different client approaches.
Technology will also help us to drive costs lower. Many of you will be all too familiar with the pressures facing the Asset Management industry today. Our Asset Management business has undergone a fundamental transformation over the past few years. We have refocused on areas of strength and worked to build our investment capabilities and target future growth areas. As you can see on the slide, the business has six strategic priorities, of which five are focused both on high growth and attractive margin areas of the industry. In complementing these initiatives, we are improving efficiency and operational excellence. We are regularly asked to provide examples and quantify the benefit of technology investments. Here are some examples. In Switzerland, we are running a multi-year program to digitize the bank, covering front and back processes and improving the client experience.
Far, we are very happy with our progress and client response. Our digital clients are more satisfied, at a more attractive revenue profile, and lower attrition rates. Digital penetration and service usage are also growing rapidly across both the personal bank and our Swiss wealth management client base, which is key for cost-efficient growth. All this will help us to sustain our leadership position in Switzerland. The Investment Bank broke new ground with its transformation to a client-focused and capital-efficient model, and the results over the last few years speak for themselves. Today, UBS is once again leading the charge with our transformation into a digital Investment Bank. Over the last two years, we have invested in our electronic FX platform to enable faster and more competitive pricing. Since we launched the new technology in Q3 2017, we have seen a steady increase in volumes.
The year-to-date revenues were up 27% above previous years, and we have gained market share. Our equities electronic platform is also growing dynamically, with revenues up nearly 40% in the first six months. UBS's position in this area is well-recognized by clients and by industry surveys. We have also invested in technology to support our research franchise. Evidence Lab is a key differentiator and allows our analysts to produce smarter and eye-opening research for our clients. We are using big data to bring a different and complementary take on traditional ways of valuing a company. Last year, we had over 6 million downloads of research and field notes from our NEO platform. All in all, we have had a strong, good first half of the year, which is a continuation of the trend we saw over the last few years.
We are well-positioned to capture growth across all our businesses and regions where we operate. We will continue to invest in a focused way in technology to drive an even better client experience and to help us achieve sustainable efficiencies. All this will allow us to continue to grow our profitability and deliver our capital return targets. I realize that 15 minutes, half an hour is not enough to tell you about all the progress at UBS and our future plans. That's why we are planning to hold an investor update in London on October 25th. I look forward to seeing you there. With that, I hand over to Kirt, who will take you through the quarterly results.
Thank you, Sergio. Good morning, everyone. As usual, my comments will compare year-on-year quarters and reference adjusted results unless otherwise stated. This quarter, we've adjusted for restructuring expenses of CHF 114 million and CHF 15 million of foreign currency translation losses. Taxes for the quarter include a reversal of the provision of CHF 13 million we took last quarter for BEAT, as following a continuing assessment of the new law's application, we no longer expect a material impact this year or for the foreseeable future. I would also note that we are currently reviewing our DTA remeasurement process and expect to make any adjustments in the fourth quarter of this year. Global Wealth Management had another very good quarter, with 10-year record performances in net interest income, recurring net fee income, strong invested asset growth, and record lending volume and mandate penetration.
We delivered 18% PBT growth on a reported basis or 7% on an adjusted basis, despite lower client activity. On the efficiency side, our reported cost-income ratio improved by 280 basis points or 50 basis points on an adjusted basis. At the same time, we've absorbed material increases in incremental investment and regulatory-related spend. This year, we have been investing in technology, building out our product suite in the U.S., and hiring advisors in APAC, resulting in over CHF 175 million in incremental expenses compared with the first half 2017. In addition to this, we spent an incremental CHF 90 million for regulatory developments. As Sergio mentioned, we have implemented a number of initial efficiency measures in the quarter, which we expect to result in a reduction of over CHF 100 million by year-end compared with the first half annualized. Operating income increased by 5%, with 83% of our revenue recurring in Q2.
Net interest income and recurring net fee income were up 9%. Combined, benefiting from growth in invested assets, mandate penetration, deposit margins, and loans. Conversely, transaction-based income declined on muted client activity in both the Americas and Asia, as uncertainty weighs on client sentiment compared with a more buoyant mood in the prior year. Looking at net interest income in more detail, we saw 10% growth overall, driven by both deposits and loans. Higher deposit net interest margins drove the larger share of the increase, as we have benefited from U.S. dollar rate rises outside of the U.S., as well as having maintained our deposit beta at relatively low levels through the retiering exercise we undertook in the U.S. towards the end of last year. It's likely that our deposit beta will increase with future rate rises, reducing the benefit we'd expect to realize in the U.S.
We've grown loans in all regions over the past year, most notably in APAC, which was the largest contributor to the 11% increase in total lending balances. We're also expanding our product suite in the Americas in jumbo mortgages and more tailored and specialized lending. Partly offsetting these positive product results, we were impacted by the roll-off of interest rate hedges at the end of last year and higher funding costs. We see the 9% increase in recurring net fee income, primarily as we have grown mandate products by almost CHF 100 billion in the last 12 months, partly offset by the diminishing impact on recurring income from cross-border outflows in prior periods. Moving to the regional view, Americas PBT increased by 16% on double-digit recurring fee income growth and strong net interest income. Invested assets, loans, and managed accounts all increased.
The cost-income ratio decreased one percentage point from the prior year. Costs increased only 3%, mainly on investments that we've made to further expand the product shelf and to deploy technology for our FAs and clients. Total FA compensation was flat year-on-year. Its higher grid-based compensation was mostly offset by the reduction in compensation commitments to FAs, as our focus on retention and productivity over recruitment is paying off. Our FA productivity remains unrivaled. In APAC, our revenues rose by 10% on strong net interest income and recurring fee income growth, which offset weak transaction activity, as mentioned earlier. Costs were up 13%, reflecting an uptick in investments, including a 9% increase in advisors and our investment in China, both of which will take some time to bear fruit. We also had an increase in expense for litigation and regulatory matters.
Our ultra-high-net-worth business demonstrated strong PBT growth of 30% on double-digit growth across all regions, higher invested assets, and increases in all revenue lines. After a very strong quarter, this quarter's net new money was atypical. Outside the Americas, net new money was around CHF 6 billion, as we have lower net inflows from ultra-high-net-worth clients and very little net new lending. In the Americas, there were CHF 4.6 billion of tax-related outflows, but we also had a CHF 4.4 billion low-margin outflow from a corporate employee share program. That said, the underlying story is encouraging, as excluding these items, U.S. same-store net new money was more than three times last year's amount. We continue to target 2%-4% growth in Global Wealth Management.
PBT in our Personal & Corporate Banking was CHF 378 million, almost unchanged from the previous year, despite the material ongoing net interest income drag, as well as increased investment in technology. Recurring net fees rose on higher volumes of bundled products and investment funds. Transaction-based income increased on FX and referral fees. Net interest income decreased by CHF 16 million from the prior year, as the increased deposit revenue was more than offset by lower banking book revenues and higher funding costs. As mentioned before, we initiated a multi-year investment program to digitize our Swiss Universal Bank, where we spent about CHF 70 million year-to-date. We expect both revenue and cost benefits to begin to accrue in 2019. Net new business volume growth was strong at 3.9%, with increases in both client assets and loans. PBT for Asset Management was CHF 126 million, down CHF 7 million.
Normalized for the sale of our fund administration business in Q4, profits were up 1%. Invested assets reached a decade high on strong net new money over the last 12 months, favorable markets, and improved investment performance. Furthermore, net new run rate fees were the highest since 2Q15, led by a strong contribution from our wholesale business, which is one of our six strategic priorities. Performance fees were lower in both alternatives and equities. This was partly driven by the implementation of IFRS 15, which delays crystallization of a large portion of our performance fees and active equities until the fourth quarter, as our investment performance held up well. We have taken cost actions in the business in the second quarter to generate personal cost savings of around CHF 25 million by year-end. We booked restructuring charges of CHF 13 million in Q2 as a result, which we adjusted for.
Our IB delivered another excellent quarter, with 44% PBT growth, a 23% return on attributed equity, and very strong operating leverage. On a regional basis, we had particularly strong performances in the Americas and Asia Pacific. Within ICF, equities increased 17% on higher revenues across all regions and products, with stronger client flows in financing services and derivatives. If we include corporate equity derivatives to be more comparable with peers, equities rose 11%. FRC had a strong quarter, with revenues up 72% to over CHF 500 million, partly due to the recognition of around CHF 100 million, mainly related to previously deferred day one profits. Excluding this, FRC revenues were up by more than a third, with increases in all regions, in all products. Our Corporate Client Solutions had a more subdued quarter, mainly as equity capital markets revenues were lower.
Costs were up just 4%, mostly on higher IT investments and regulatory expenses. We reduced our cost-income ratio by six percentage points, demonstrating ongoing cost control. We achieved these strong results while reducing our RWA sequentially, mainly due to a CHF 9 billion reduction in market risk RWA on risk management actions taken during the quarter. We've made progress in our Corporate Center this quarter. Consistent with our objectives, services total costs were down 2%, excluding both technology, where we committed to invest, and risk control, where higher expenses were related to regulatory requirements. As a reminder, over 95% of the CHF 2 billion from services was allocated to the divisions this quarter. The factors we highlighted last quarter continued to impact Group ALM. While there was an improvement in structural risk management quarter-on-quarter, LIBOR-OIS and FX basis spreads remained adverse.
We are progressing actions to improve our Group ALM results going forward. Non-core and Legacy posted a small loss of CHF 17 million, including an additional litigation provision of CHF 76 million and valuation gains on our auction rate securities portfolio. As part of our overall focus on efficiency and effectiveness, we have been insourcing jobs from third-party vendors to our business solution centers in recent quarters, primarily in technology. Overall, we've reduced our total workforce by nearly 1,000 since September last year. Our capital position remains strong, with our CT1 ratios comfortably above the 2020 requirements and TLAC of over CHF 81 billion. To wrap up, we had a very good second quarter contributing to a strong first half of 2018, and we are on track to deliver our financial targets. With that, Sergio and I will open up for questions.
The first question from the phone comes from Andrew Stimpson from Bank of America. Please go ahead, sir.
Morning, guys. Two questions from me, please. One on the Global Wealth Management division and one on buybacks. It's been a few quarters since you announced the GWM merger, so I'm just wondering when you think we'll have some tangible numbers to give the market on synergies. Presumably, there are some, and I think those may well be reinvested, but I was expecting at some stage to hear a number put on those because it is a discrete project. I know there's ongoing permanent cost-cutting, but it's a discrete project. I think the market would appreciate an actual number put on that. Secondly, on the buyback, obviously, very impressive and quick execution, so well done on that. I'm just wondering what happens now. Can you increase the 2018 buyback?
Now that's presumably gone better than you had initially expected. Do we have to wait until 2019? What does the decision process look like there? Do you need to speak to the regulator, or is it just up to you guys? Thank you.
Okay. Thank you, Andrew. First of all, I think that, Andrew, the integration of the two businesses, as I mentioned in the past, is a really natural evolution of our business model, and it's all about creating growth dynamics. There are, of course, cost synergies. As Kurt just outlined, we have already executed, and we are executing our plans that will deliver around CHF 100 million of cost savings on a full annualized basis into 2019. There are things that we can do better. The emphasis of the integration is not to create massive cost synergies, but is to create a different momentum, a different offering to our clients. Therefore, we need to balance those issues. Of course, as I just mentioned, in October we will be able to go maybe deeper into some dynamics, Tom and Martin will outline some more concrete plans.
Essentially, Andrew, this is not a cost exercise. It's about creating better growth trajectory and dynamics.
Okay.
Regarding the buyback, I think I fully appreciate, I also joined the team of impatient people. We have to really look at where we stand. I'm very pleased that we took the opportunity to fully execute our target for the year. Having as a base today a 13.4 CT1 ratio, 375 leverage ratio, we have a base where we can look into the next six months based on the potential of doing further buybacks is going to be based on client requirements and dynamics in terms of capital deployment. Can we deploy capital at a better returns and create and serving our clients? We need to look at the economic outlook, and we need to look at the environment.
As I've said in the past, we will not retain surplus capital if it's not strictly necessary from a tactical standpoint of view or a macroeconomic standpoint of view. In respect of regulatory approvals, our capital plan has been approved by our regulators, therefore, if we stay within the approved targets, there is no limitation in that sense.
Okay, great. There's no CT1 hurdle that you look for? It's fairly fluid.
No, the hurdle are what we showed on slides, remind me guys.
Four.
Four. On the bottom right, you can see around 13%.
Okay
0.7% is what we expect our ratios to be at the end or fluctuating during the years. It's very important to understand that those are not firm numbers. We may have, like we have right now, a 13.4. Last quarter, we had a 13.1 or 13.2, so that we basically fluctuate around those numbers. It can go to 12.8. This is not going to change our philosophy, that we stick to those numbers as a base. As you can see, we have sufficient AT1 outstanding instruments. We have plenty of TLAC instruments. We have a very solid capital base, and this is what we believe is very important going forward. We want to keep our solid capital position, and we want to have also financial resources to serve clients and deploy capital where necessary.
If it's not the case, we will adjust our capital returns policy, or I should say, implement our capital returns policy in a more faster way.
Perfect. Thank you.
The next question from the phone comes from Kian Abouhossein from JPMorgan. Please go ahead.
Yes, hi. Thanks for taking my questions. Two questions. The first one is, can we talk a little bit about advisor hires or reduction going forward? And in what segments, in what geographic areas do you expect advisor numbers to change? The second question is relating to page 26 and 27. How should I think about the Corporate Center service reduction staffing? How far can you actually go over the long term? I don't mean next quarter or even next year. And how does that square with the CHF 2 billion on page 26 that you roughly spent? I know there's some offsets, but how should we think about the CHF 2 billion service cost before allocation on a longer-term basis? Thank you.
Yeah. Perhaps, Kian, I can answer your second question first. In terms of what you saw on the headcount slide that we showed on slide 27 that you referenced. So we would expect as a consequence to continue to see the growth in internal staff along with reductions in external staff over the next couple of years while we complete that program. Now, beyond that, if we look at the trajectory of our headcount, it's also very clear that part of our strategic focus in investing in technology is to automate and to deploy robotics. We do think over time, that should continue to benefit our overall headcount in personnel expense numbers. Now, regarding the overall corporate center expense number that you referenced, the around CHF 2 billion.
First, again, I would just re-highlight the fact that if we exclude technology, we are committed to continuing to invest in technology, that along with the increase in amortization should result in a continued increase in technology expense over the next several years. In addition, we had higher risk management expenses, and that relates to our regulatory requirements. The trajectory there will depend on what we actually have to address from a regulatory perspective. Beyond that, our anticipation is all other costs should continue to come down over the next couple of years, both through continuous improvement tactical actions as well as strategic actions. I would remind again that 95% of these costs are allocated to the business divisions.
If I may just follow up. The way, just for me to think about how this number progresses. On the one hand, consultants are, let's say, 20%, 30% more expensive, plus you actually are reducing net staffing, so there's a cost savings, and then you're spending on the other side. So should we think about the CHF 2 billion more like an ongoing run rate, i.e., whatever you save, you have to invest and you want to invest?
No, I would just refer to the dynamics that I highlighted. You're right. If we think about our total workforce, we are managing the total cost of workforce. Where appropriate, we're replacing consultants with internal staff. I wouldn't glean any conclusion about the specific trajectory of a number. I would just reflect on the comments I made about our commitment to continuous improvement and strategic investment. In that continuous improvement, as we would expect to see, excluding technology and risk, the remainder of costs from corporate center come down 2%-3% a year.
Kian on head count and so on. First of all, I think that if I look at the overall financial and client advisor dynamics, I would say that the net numbers is quite flat. If you look at the underlying trend, of course, we have a slight reduction in the U.S., where, as you know, we are not focused on quantity but quality. Our financial advisor in the U.S. are the one who has the highest level of asset per financial advisor, the highest productivity. What we tend to do is to really focus on this high-end client base. When you look at the dynamics outside the U.S., we clearly see almost a double-digit increase in advisors in Asia.
We are also seeing an increase in Europe, in EMEA, as we invest more, particularly in the ultra space, which is also a big driver of growth movements in the ultra space between the Americas and APAC. Overall, if you look at the net numbers, they are not really changing by a lot. If you look at the underlying growth movements between hires and terminations and transfers, I think that we have a very healthy dynamic where we focus more and more on quality of people, and we keep investing where necessary. Also, it's very important for us that deploying technology, our focus over time is to make our advisor more productive as well. Giving them the tools that allows them to be more productive. Number of head count is important.
We want to grow, it's not the only levers we need to have to grow because productivity through technology has to be part of the solution going forward.
If I may ask, is there some kind of net advisor target for Asia in particular? Percentage-wise.
No. As I said, we hope we can grow advisor at a lower pace than we're going to grow our profitability as a function of enhanced productivity.
Right. Thank you very much.
The next question comes from Andrew Coombs from Citi. Please go ahead, sir.
Good morning. If I'd ask one on FRC and then one on net new money in GWM. Starting with the FRC business, you've seen some real positive momentum there for the first time in a couple of years. I think even if you adjust for the accounting change, you're up about 37% year-over-year, materially outperforming your competitors. You said that's broad-based across products and regions, but we would love if you could provide a bit more detail about what is driving that strength and whether that improvement is sustainable from here. The second question would just be on the GWM net new money. I appreciate there's a couple of large items in the U.S. Even if you were to exclude those, I think you'd be at about $8 billion net new money. About 1.3% annualized. It is slightly below your target.
Within that, it's APAC and EMEA. It looks slightly weaker than you might have anticipated. We'd love if you could elaborate a bit more on the drivers there as well, please. Thank you.
Thank you, Andrew. On the IB and FRC, first of all, we have to go back. You spoke rightly about momentum, and you remember that Q2 last year was not necessarily a good market environment. For a franchise like ours, it was heavily skewed in that area towards FX. Last year, we had extremely low volatility in the FX market, very low turnovers by clients. The momentum is also a function of the underlying market dynamics and our business mix. We are heavily skewed towards FX. The investments we made over the last couple of years, and particularly in the last 12 months, to improve our engine in FX, algorithms, and execution has helped us to gain market share and to capture this more normalized market environment. That's the reason why we believe it's quite sustainable going forward. Year-to-date revenues are up 27%.
As I said, we hope to gain market share, and it's clear that we are gaining, we have a good momentum. I'm quite optimistic about the fact that despite the market conditions, we should be able to keep that share of wallet intact for the rest of the year. In terms of net new money, I think, let's make no mistake that it's clearly not a quarter where I categorize as being happy. Having said that, we are coming out of a very strong Q4. You remember, Q4 last year was extremely strong. Q1 was fantastic. This quarter, we had almost a perfect storm in terms of what happened. We expected seasonal outflows in the U.S. It's nothing new. We knew it. These outflows from the corporate clients on the employee stock option plan was not expected.
As Kirt mentioned, we had de facto zero net impact or net contribution of lending to our net new money this quarter. If I look at the underlying dynamics, just look at the U.S., we had basically a big improvement of same-store client advisor almost three times more than last year. If I look at the outside U.S., we had almost CHF 6 billion of net new money. Overall, the numbers are now clearly in a trajectory that indicates we should be able to achieve, and we will achieve our target of 2%-4%. If I look at the momentum into the third quarter, I'm convinced that we're going to deliver that. As I said, we don't look at net new money on a quarter-on-quarter basis.
We haven't made a big fuss in the first quarter when we had fantastic results. I'm not going to get too focused on that one. Still, I understand that we need to deliver on our targets, and that's an imperative for the organization to deliver.
That's very clear. Thank you. If I could just one follow-up on deleveraging. It's been a concern, particularly around Asia Pacific. If you could just comment on whether that's been a driver within the net new money. If we look at your APAC loans, they actually look very stable Q on Q. It would be interesting, your comments.
I think, as always, with those kinds of numbers, the real dynamics is on the growth movement. Of course, we had in the U.S., deleveraging in APAC and in EMEA more than in the rest of the world. I think the dynamics where we could see a deleveraging, it was driven by APAC and EMEA rather than the rest of the world.
Very clear. Thank you.
The next question comes from Jeremy Sigee from Exane. Please go ahead.
William, thank you. Two questions, please. Firstly, just on the capital and scope for further buybacks, are there any adverse impacts on capital ratios that we need to be expecting in the second half of the year that could affect that decision? That's my first question. Second question on the IB side, the less good part of IB, obviously smaller but less good, was advisory, ECM, DCM, which are relatively weak. I wonder if you could talk about how you see the pipeline on the primary side looking to the back end of the year and into next year.
Jeremy. On your first question, as we had guided during the fourth quarter, we expected about CHF 20 billion of regulatory and methodology increases to RWA during the year. During the first two quarters, we saw almost CHF 10 billion. During the third quarter, we expect about CHF 3.3 billion, that'll taper off a little bit to CHF 2.3 billion. A little bit higher than we anticipated, but roughly in line. Beyond that, it's really what Sergio mentioned. It's more based on business demand and deployment opportunities, in addition, of course, to volatility from foreign currency movements.
There's nothing on the capital. You mentioned the RWAs. There's nothing we should expect adding or deducting from capital in terms of methodology changes.
No. Apart from that, there's no other major changes. Again, as we said, the next major change, well, it comes the first quarter with the adoption of IFRS 16, which is going to be about a CHF 1 billion increase, and then the next major event for us, of course, is the implementation and the phase-in of Basel III finalization.
Okay.
Yeah. Jeremy, on CCS, of course, again, there is an underlying activity level in Q2 that was clearly not skewed towards our strength and areas of expertise. Also, if you look at the second quarter last year, we had a very strong performance, particularly in the financial institution activities, a lot of capital increases. There, if you look at the second quarter dynamics in the market, was much more Nordic and corporate than financial institutions. It's an outcome. I think that if I look at the first quarter performance, it was a very strong one. Again, I need to look at the overall environment. We are not really commenting on pipeline, but I have to tell you that in the last couple of years, the problem was never the pipeline. It was always market conditions. Can you execute? Can you close on these matters?
We are now trying to also bring back a little bit more stability and less volatility on those business lines. As Andrea mentioned a few times in public and internally, we are trying also to focus on our hiring in the U.S. on the fixed-income side of the equation to balance more our portfolio. It goes without saying that we are a APAC Europe-skewed Investment Bank, a little bit of diversification will help, and we are not talking about hundreds of people. We are talking about a few dozen people that can really rebalance the portfolio.
Thank you.
The next question comes from Giulia Miotto from Morgan Stanley. Please go ahead, madam.
Hi. Good morning. Thank you very much for the presentation. A couple of questions from me, one more strategic and one more short-term oriented. On the strategic side, on slide 11, if I understand it right, the merger and the idea of Global Wealth Management is more driven by a push for growth than cost efficiencies in the short term. Here you mention a U.S. opportunity, in particular, the U.S. persons outside the U.S. I was wondering if you can quantify this opportunity and how big do you think this market is? What portion do you think UBS can get here? That's my first question. My second question, more short-term. If I look at your outlook for Q3, it's quite cautious around market activity and client sentiment. I was wondering if you could please give us more color there.
Do you expect clients, especially in Asia, to be more risk-averse, perhaps trade less or Lombard lending to be down as there is less leverage appetite? Thank you.
Thank you, Giulia. I'm afraid you're going to have to be patient till Investor Day to get the full answer to your question. Maybe in a nutshell, I can tell you that from a regulatory standpoint of view or self-restriction post the 2008, 2009 developments, we have the fact of being restricting ourselves as to do business with U.S. persons outside the U.S. You can imagine that it's de facto a business that we didn't really touch and cover in the last few years. The community of people having either a U.S. passport or having the facto U.S. person status, living in Asia and Europe, it's substantial. I believe that we have opportunities to capture a fair share of wallet of this business that was mainly driven by U.S. institutions. More details for the Investor Day.
Well, Giulia, also on the outlook, I think it's always fascinating for me to see the comments about our outlook statements, because it looks like I'm reading a different newspaper or I'm seeing different news or even, which I'm not, using Twitter. If you would use Twitter, you would probably understand that the outlook for the environment is not the most constructive. Having said that, what we are trying to point out is two factors. The environment out there, macroeconomic, geopolitical protectionism, you name it, is quite intense. Just look at what's going on with Brexit. Who knows what is the outcome? If I read the comments this morning of official language being used in a negotiation that is threatening, is almost quite disturbing. Having said that, we have to consider seasonality factor, which I'm not saying anything new.
Everybody knows that the third quarter during the summer is clearly not as dynamic in terms of our client activity. Overall, the last sentence is the one that I really hope people can reconcile with. Despite all that, we are still sticking to the fact that we can create value in any kind of market condition. I describe our outlook statement as a realistic assessment of the environment out there and our ability to operate profitably and still serving clients in the right way.
Thank you.
The next question comes from Kinner Lakhani from Deutsche Bank. Please go ahead.
Yes, good morning. Two questions. Firstly, on Level 3. On deposit beta, just wanted to get some more color as to the shape of deposit beta you're seeing both outside the Americas as well as in the Americas. I know you mentioned a forward-looking statement, which was that you expect U.S. deposit beta to increase. I wonder if you could elaborate on that. Secondly, on Level 3 assets, these things have increased 70% year-on-year, 20% Q-on-Q. Just trying to understand what's driving the increase in Level 3 assets. Thank you.
Yes, Kinner, on deposit beta, as I highlighted in my speech, first of all, if you look internationally, actually, our beta tends to be quite a bit lower than the U.S., just in general. That is in part because of how our international clients use us. We're not a transaction bank. Therefore, most of the rate increases that we've seen, actually, we've retained. In the U.S., I highlighted the fact that we engaged in a retiering exercise in the fourth quarter, and that retiering exercise helped us to keep our beta down for the last rate rise. Our beta through the last rate rise has been around 35%. What I mentioned is, I don't believe that that's sustainable. I do believe that that will increase, and we would expect to see that come up with the next rise in rates.
Exactly where, I'm not sure, but I think over time, if we're able to maintain that within the 50s, that actually would be a good result for us through the course of the ongoing rises in rates. Your point on Level 3 assets, there is some ebb and flow naturally in Level 3. I think if you look at our schedule overall, some of the increases you'll see were on the lending side, and that's just naturally as a consequence of some of our leveraged lending activity. Again, we would expect that to fluctuate up and down. I would re-highlight the fact that we're still around 1% of total assets, which is at the lower end of our peers.
Great. Thank you.
The next question from the phone comes from Jernej Omahen from Goldman Sachs. Please go ahead, sir.
Good morning from my side as well. I just have three reasonably brief questions left. The first one is on page 22, on the net new money figure, there was lots of talk of this lower contribution from Lombard lending. I just have a question. This lower contribution from Lombard lending, is this a function of reduced demand for this product, or is it a function of actually a higher level of redemptions of these loans? In particular, in Asia, I was wondering whether you had situations where you had to trigger outstanding Lombard loans or redemptions of outstanding Lombard loans. The second question is on page 25, on the Investment Bank. Here, UBS shows a 23% return on allocated equity. I think the target is 15, if I'm not mistaken, for the medium term.
I was just wondering, when we look at the composition of the operating income here between equities and FIC and Corporate Client Solutions, what component of the Investment Bank is over-earning today compared to the medium-term target? The third question is very short on the equities results, still on slide 25. It's a strong result, but you gave a very generic comment, which is strength across all products, all regions. Can I just ask you to provide us with a bit more clarity as to where in particular which products you saw strength in? Thank you very much.
Yes, Jernej, thank you for your question. Just in terms of Lombard lending, what we highlighted is it was one of the features that impacted net new money during the quarter. The more important point was we actually did not see growth in lending. We saw slight de-leveraging, relatively small in the Asia-Pacific region. I think as you see on slide 22, Asia, of course, has been contributing most to our growth in loans, up 28%. What I would characterize, it was not as a consequence of margin calls. It was more as our clients become more concerned about the future because of the geopolitical issues, the concerns about the trade war, they're less likely to leverage their investments because they're less uncertain about their ability to generate returns. That's simply what drives their appetite for Lombard loans in particular.
In terms of your second question on our returns, first of all, we would highlight that we target greater than 15% overall return on attributed equity for our Investment Bank. We would highlight as well that there naturally is a fair bit of volatility around that return level, which is an inherent characteristic, of course, of that business. We would also highlight the fact that actually we've been fairly consistently above that level over the last number of years. In terms of which business contribute to those returns, it really is across the board, all of our businesses. There might be one part of the business that's more contributing during a particular quarter than another. So you would've expected, for example, CCS to have been a larger contributor to returns in the first quarter than it was in the second quarter.
In terms of your equities question, we would just highlight that we actually did see quite good growth across all of our products, so across cash, derivatives, across financing. We saw particularly good growth in derivatives, that was really just characteristics of the volatility that we saw in the industry. I think also we saw good growth in Asia-Pacific, that is a consequence of the MSCI A shares inclusion. I would also highlight the fact that Sergio mentioned we've been investing in building out our Americas platform. Americas had a particularly good quarter where we saw good growth in flow and structured products in that region. That's very helpful. Thank you very much.
The next question from the phone comes from Stefan Stalmann from Autonomous Research. Please go ahead.
Good morning, gentlemen. I was wondering if I could get a little bit more color on two of your charts, please. The first one is chart eight, where you helpfully break out the increase in regulatory costs, you clearly suggest, this has been a topic of debate before, that there's a permanent that there's a temporary component here. Is there any further comment or guidance that you can give about the size of the temporary part of this stack and maybe the timing over which this could normalize or come down? The second question relates to slide 27, where you discuss your headcount shift towards more internal staff. Could you maybe give us a little bit of a sense about the economics of this shift? How much does it cost you extra during the time that you implement this, if anything?
What kind of cost savings or maybe efficiency gains do you expect to reap at the end of this process? Those would be my questions. Thank you very much, Stefan.
Well, thank you, Stefan. I'll take the first question. I have to say that, I'm afraid I'm not going to go any longer into predicting the regulatory cost of that because, I go back to the office, and I will find a new requirement and request on my desk. What I can tell you is that it's unlikely that we're going to see a major tapering off this cost base until the early part of 2020. If I think about all the upcoming requirements in front of us, it's very, very difficult to say that. I do think that over time, we should be able to master and optimize the cost base, but it's still going to be very high.
I just mentioned, just go back into a couple of years ago, then also the upcoming discussions about Brexit makes it very clear that we have to accelerate the readiness of being able to be compliant at the end of Q1 of this year. This is going to cost us only this year, almost CHF 100 million. The Brexit case is only costing CHF 100 million this year, and it's something that was not even on the radar screen a couple of years ago or was seen as a remote risk. As I say, we've done quite a lot of tapering there because there are always new inflows. What's really, if you look also again here, it's quite interesting because the stickiness of the cost is there.
If you look at the underlying inflows and outflows, it's quite interesting because we are able to basically take out the temporary part of the equation. I have some permanent one, but the incoming flows are constant.
Stefan, on your second question, as we actually go through the insourcing process, there is an increased level of cost related to the recruiting, as well as typically we have some overlap between when we fully insource and we eliminate the outsource resources, possibly some onboarding costs. Ultimately, as we complete the insourcing process, we tend to get a little bit of a cost benefit as we eliminate the margin that we've been paying to the outsource partner. What's more important for this program is it's much more about control, quality, and productivity. Whereas we insource more, we look to reduce our overall risk, and we look to increase productivity over time. It is really an effectiveness play overall.
Thank you very much.
The next question comes from Andrew Lim from Societe Generale. Please go ahead.
Hi, good morning. Thanks for taking my questions. The first question is connected to Corporate Center. Could you tell us how that should pan out in terms of pre-tax losses after allocations? Really focusing on say funding costs, how you expect that to pan out, regulatory costs also, over the next few years, not just in the next few quarters. Secondly, coming back to buybacks. Do you need pre-approval again if you want to do more buybacks in addition to your plan that you've already committed to from FINMA? When FINMA look at your capacity to do buybacks, do they look at your stressed CET1 ratio and how that looks like compared to, say, a 10% minimum? Many thanks.
Thank you, Andrew. I'll take the second question first. As I answered already before, we don't need any formal pre-approval. We have a program open so we can buy back up to CHF 2 billion. From a regulatory standpoint of view, we have an approval of a capital plan. That capital plan has different stress behind it, not only ratios but also stress test. To the extent that we are able to deliver on our capital plan for the year and deliver the equity that we outline in our capital plan, we have the flexibility to do a share buyback or capital returns as we deem appropriate. As I mentioned before, we have to take into consideration if we need capital to serve clients, to deploy for business, or we need to look at the macroeconomic conditions.
If we don't, we're going to definitely take the opportunity, particularly considering market conditions, in using that tool for the rest of the year.
Andrew, on your first question, just to give you a little bit of a flavor of what we retain within the Corporate Center, I think historically, we have had costs related to regulatory projects, predominantly around our legal entity structure build-out. The other regulatory matters are allocated out to the business divisions. As we complete the build-out of our legal entity structure, that should bring down a portion of the cost that we retain. We also have some litigation expenses, and that creates some volatility. I think actually, if you look at the last five quarters net of litigation expense, you've seen that the net cost that we retain come down, and they should stabilize at around the levels where they are now.
I would mention as well on NCL, the non-core legacy there, you've seen the negative drag on that part of our Corporate Center actually become quite de minimis. We would expect that going forward, absent any large litigation movements.
It sounds like, excluding litigation, your Corporate Center costs should be at a rough quarterly run rate equivalent to how it is right now.
Yeah, that's right. I think if you look at, there were no litigation expenses in services this quarter, so that's a pretty good indication of the run rate for the services part. In NCL, we actually had some litigation, but it was offset by mark to market, and so not a bad indication of where we would expect to be going forward absent litigation expense.
That's great. Thank you very much.
The next question comes from Amit Goel from Barclays. Please go ahead.
Hi, thank you. Most of my questions have been answered, but there's still two. One is just in terms of client behavior within the Wealth Management business. Obviously, you've mentioned that you've only seen slight deleveraging so far, but obviously, there's no contribution to net new money from lending this quarter. Just in terms of what are you seeing in terms of trades that clients have had on, are you seeing any impact from the flattening of the U.S. yield curve? Are you expecting a bit more deleveraging given how the outlook is in the coming periods? Secondly, in terms of behavior, are you seeing changes in terms of turning out of U.S. deposits and so forth at the present time? Thank you.
Yeah. Amit, if I look at client behavior, I think if you look at the dynamics of the transaction lines, it's quite indicative of what you mentioned on yield curve. You see activity levels on the Wealth Management side of the equation on fixed-income being definitely down on a year-on-year basis and somehow compensated by structural business on the equity side. Net-net, you can see the impact of client behaviors in bonds and fixed-income by those dynamics that you outline on the curve. When I look at the sentiments, the latest survey we did with clients in the last few days in the U.S. is quite, in my point of view, indicative of a sentiment that I believe is also more broader and global. In a nutshell, clients still feel somehow constructive about the medium- to long-term outlook for the economies and growth.
Having said that, if you look at their behaviors in terms of how they look at their equity portfolio, for example, it's very sticky. They don't really make a lot of trading. They don't really move their positions. They sit on what they believe is a good portfolio. Most importantly, if you compare their cash holdings or declared cash holdings to the second half of 2017 to today, it went up 5%, to almost 24%, 25%, which from a U.S. standpoint of view, is a very high level of cash. You can see very well reflected some kind of divergence between outlook, medium- to long-term being okay, but on the other end, when it gets down to investments, they are very cautious.
Thank you.
The next question from the phone comes from AL Alevizakos from HSBC. Please go ahead, sir.
Hi. Good morning. Thank you for taking my questions. Question number one is on slide 26. Again, going back to the costs before allocations. I can see the CHF 955 million that relates to technology and risk control. What is the chunk exactly that goes into technology, and how does that take us to the guidance in the annual report that overall technology expenses will go up to CHF 4 billion in the next few years? That's question number one. Question number two, even though, Sergio, I know that you're probably going to tell me to wait for the Investor Day. I was wondering about the Wealth Management, the robo-advisors, if there is any update in terms of any success that you had either in the U.S. or the U.K. Actually, since you're spending a lot of money, when do you expect to break even in those investments?
Will it take five years, 10 years? What is the main assumption? Thank you.
I'll do the second one because you already got half of the answer. We will give you more details for sure on October 25th. In a nutshell, I think we see two divergent stories, to be honest. I think if I look at the U.S., we have a pretty good momentum, and actually I'm very happy and the team is very happy about how this is working. If I look at the U.K., it's not such a good dynamic, which is part of the equation because when we look into these new initiatives, we have to take the courage and accept that risks and failures is part of the equation. Two stories. I will give you more details. When I look at in the U.S., considering also our critical mass and the ongoing business, payback can be quite rapid. Again, more details in October.
Yeah. To answer your first question, actually what we said is we would expect our total technology spend to be over 10% of revenue. If you take that as a benchmark around CHF 3 billion, you can see that the numbers are trending pretty close to over CHF 3 billion, that we've indicated on slide 26. One of the growth drivers is also amortization year-over-year, in addition to just keeping our spend at an elevated level.
Great. Thank you.
The next question comes from Jon Peace from Credit Suisse. Please go ahead.
Yeah. Thank you. My first question was on the fixed-income business. I just wonder what the catalyst was for this CHF 100 million revenue recognition on the day one P&L. Is there any possibility that that could recur? My second question was on your litigation notes. You mentioned a USD 850 million U.S. RMBS settlement where a lot of the cost will be borne by third parties. Do you have an indication of how much you might expect to recognize in your own P&L net of any existing provisions that you've got? Thank you.
Yeah. Jon, in terms of your first question, the CHF 100 million pertains to our lightly structured notes business that the vast majority of our competitors are active in. That CHF 100 million pertains to actual trades and revenue that was deferred mostly from prior years. It's a business we'd remain in, so we would expect to continue to see some revenue going forward. We really haven't disclosed anything around capital, but the fact that it's lightly structured notes should indicate that it's not a capital-intensive business. In terms of your second question, the trustee suit that we announced, as we announced, we actually have an agreement with the trustee. You can expect that based on what we announced, the CHF 850 million against that were fully provisioned based on what we expect.
Okay. Thank you.
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