NatWest Group plc (NWG) Earnings Call Transcript & Summary

Good afternoon, and welcome to NatWest Group Quarter 1 2021 results with Treasurer Q&A with Donal Quaid. [Operator Instructions] I'll now hand over to Donal Quaid. Donal, please go ahead.

Thanks, Dave. Good afternoon, and thank you for joining today's call. I'm joined today by Paul Pybus, Head of Fixed Income, Investor Relations; and by Scott Forrest, our Head of Treasury Debt Capital Markets. I'll share some of the headlines from the quarter before moving into more detail on capital and liquidity before concluding with an update on our issuance progress for 2021. Starting with Slide 3 on Q1 performance. We reported an operating profit before impairment of GBP 844 million for the quarter. With an impairment release of GBP 102 million as defaults continue to remain low with little change in stage migration. Taking the impairment release into account, this resulted in attributable profit of GBP 620 million for the quarter. We continue to benefit from a strong capital position, which gave us capacity to participate in the directed buyback from the government in March. We repurchased GBP 1.1 billion worth of shares, which reduced the government shareholding from 62% to just under 60%. Our CET1 ratio ended the quarter at 18.2%. Looking at impairments on Slide 4. We reported a net impairment release for the quarter of GBP 102 million or 11 basis points of gross customer loans. This compares to a charge of GBP 130 million or 14 basis points in Q4. The release was driven by a continuing low level of default in the commercial book and for the retail bank. Stage 3 defaults are broadly in line with our historic experience coupled with further positive migration of Stage 2 loans back to Stage 1, following an improvement in the underlying credit metrics. The economic assumptions we presented in February are unchanged. And our post model adjustment for economic uncertainty are also broadly stable since Q4. Our guidance for impairments for 2021 is unchanged. And we expect these to be at or below our through the cycle range of 30 to 40 basis points. So clearly, if the economic outlook continues to be favorable, then we will be below 30. Moving on to look at our credit risk profile on Slide 5. There has been some positive migration during the quarter, reflecting improved credit metrics as government support measures continue and customers build healthy cash balances. 80% of our loan book is in Stage 1, up from 77% at year-end, reflecting migration of Stage 2 loans back to Stage 1, primarily in the retail bank. Over 98% of loans are in Stage 1 or Stage 2. Stage 3 loans are down slightly to GBP 6.1 billion or 1.6% of gross loans. ECL coverage of 1.6% is down slightly due to write-off with Stage 3 coverage of 39%. As you know, some of our wholesale loans are in sectors that we monitor particularly closely. These amounted to GBP 27 billion in Q1, which represents 7% of gross loans. In these sectors, similar to the trend at group level, Stage 3 gross loans were down slightly at around GBP 700 million. And we remain comfortable with coverage of 47%. Slide 6 covers customer support measures. Throughout the pandemic, we have provided mortgage and capital repayment holidays and approved over GBP 14 billion of loans under government lending schemes. Demand for government support schemes continues to taper, and almost all those who ask for payment holidays have now returned to normal payments in both retail and commercial banking. 2 new government schemes were introduced in early April, Pay As You Grow and the recovery loan scheme. Pay As You Grow enables businesses, which have drawn down Bounce Back Loans to request an extension of their term from 6 to 10 years to take a repayment holiday or pay interest-only for 6 months. We have received around 14,000 applications to date, the majority of which are to extend the term of the loan. But this number could increase as we have recently contacted over 100,000 customers to advise in the 60 days or less to their first repayment date. On the recovery loan scheme, we received about 3,000 applications in the first week. Although demand has dropped since the launch to between 100 and 150 applications a day. Turning to our capital leverage position on Slide 7. Our CET1 ratio at the quarter end was 18.2%. That includes the benefit of IFRS 9 transitional relief of 100 basis points. Our total capital ratio was 24% and this leaves us comfortably above our minimum regulatory requirements on our capital metrics. Our maximum distributable amount is at 9%, reflecting headroom between 420 and 520 basis points above our 13% to 14% CET1 target. And the U.K. leverage ratio was 6.2%, leaving 295 basis points of headroom above the U.K.'s minimum requirement of 3.25%. Moving to Slide 8 and our quarterly movements in CET1 and risk-weighted assets. Our CET1 ratio for the quarter was 30 basis points lower than full year '20 at 18.2%, driven by the GBP 1.1 billion directed buyback and the dividend accrual of GBP 200 million, offset by lower RWAs. RWAs decreased GBP 5.6 billion in Q1, including a GBP 1.3 billion benefit from FX and a GBP 900 million benefit from the annual operational risk recalibration. The credit risk reduction of GBP 4.8 billion was driven by lower commercial and unsecured retail balances as well as a benefit from pro-cyclicality of GBP 1 billion. Now with markets, RWAs reduced slightly to GBP 26.5 billion and we still expect to achieve the majority of our targeted reduction to around GBP 20 billion this year. Our guidance on RWAs remains unchanged. And we expect them to be in the range of GBP 185 billion to GBP 195 billion at the end of 2021, including all regulatory impacts effective on January 1, 2022. Where we land within this range will depend on pro-cyclicality and loan growth throughout the remainder of the year. Moving on to liquidity and funding on Slide 9. We have maintained strong liquidity levels with a high-quality liquid asset approval, and our total liquidity portfolio is GBP 263 billion. Our LCR ratio decreased to 158% during the quarter, due to a GBP 5 billion TFSME repayment, settlement of the metro mortgage purchase of GBP 3 billion, the directed buyback of GBP 1.1 billion and a liability management exercise of GBP 1.6 billion. All drawings under the TFS and TFSME schemes are now fully repaid and our surface of primary liquidity above minimum requirements is GBP 65 billion. We continue to see strong deposit growth in the quarter with retail banking deposits growing by GBP 7 billion to GBP 179 billion. Commercial banking deposits remained at similar levels to the fourth quarter at GBP [ 169 billion ]. Our loan-to-deposit ratio is 79%, underpinning our strong liquidity and funding position and our deposit base is well balanced across our commercial and retail franchises. Finally, turning to Slide 10 on our issuance during the quarter. In February, we set out our 2021 issuance expectations from the holding company of GBP 3 billion to GBP 5 billion in senior MREL, approximately GBP 2 billion in Tier 2 and GBP 1 billion in additional Tier 1. I'm very pleased with the transactions we've executed during the quarter. And again, thank you all for your continued participation in the transactions. In February, we issued a EUR 1 billion senior MREL social bond under our green, social and sustainability bond framework. We announced plans to do more issuance in GSF format, and this is our third transaction, bringing our total GSF issuance to approximately EUR 2 billion. Supporting the group's ESG commitment by providing dedicated funding for loans and investments that bring a positive environmental or social impact in the U.K. In March, we returned to the sterling market with a GBP 400 million additional Tier 1. This is our second [ GBP 81 ] transaction since November and ensures we are well placed when considering refinancing requirements this year. We continue to proactively take opportunities to optimize our capital stack. And during the quarter, we completed a GBP 1.6 billion liability management exercise that targeted legacy Tier 1 and bonus Tier 2 securities with less than 5 years of maturity, reducing inefficient capital and generating ongoing reductions in our interest expense. In April, we called a NatWest Bank discounted perpetual Tier 2 in line with our strategy to reduce legacy securities that do not provide capital benefits beyond the end of this year. So in summary, we have delivered a good operating performance in the quarter, and we continue to build and operate with strong levels of capital and liquidity. With that, I will open up to Q&A.

[Operator Instructions] Our first question comes from Robert Montague and asks, could management give an indication of size of Stage 1 and 2 macroeconomic overlay divisions, which might be released at H1 when economic scenarios are updated?

Thanks very much, Steve. I'll take that. Good afternoon, so in terms of the macroeconomic overlay that we have, the PMAs, we also call it the post model adjustment. It's GBP 878 million that we've brought back clearly saddles over Stage 1 and 2. At this stage, I would separate it in terms of your question from you wouldn't automatically see an upgrade in our economics, and then this one would be released. If you look -- think about the economics piece, that will impact the core of our provisions. And then as a secondary event, we will look at the PMA and think what other things might trigger. Some of them will be things like unemployment, arrears, trends, high-risk sectors, if I'm in wholesale, I would be looking more at how those wholesale schemes are performing, what's happening on the government scheme debt performance, how people are behaving with that. So I would almost separate the 2 our core provisions and then this PMA. And what you will see is doing at H -- sorry I've got my Hs and my Qs mix up. H1, thank you very much, Donal. Is to see the release coming, I think, more from an economics upgrade if they continue as they are today. And the PMA will have a look at. I suspect that, that will roll on for quite a few quarters to come from there. Today, we updated our guidance a little bit to say that we were very comfortable that we will be below the 30 basis points rather than in that range of the 30 to 40 basis points as we go through the year.

And our next question comes from Lee Street. It asks, it appears that Stage 2 loans have peaked. Is that fair? In your current planning, do you expect Stage 3 loans to peak this year? There's 2 other parts of the question, which ask why are the economic assumptions unchanged given the improved outlook? Is this not overly conservative? And finally, what is your capacity to issue further green or social bonds? And I can read those back as you need as we go through them.

Thanks very much. I'll take the first couple and then Donal, you can speak -- do that piece. I think it would be fair to say that what we'd expect to be happening on Stage 2 as we go through the year, is that either things will migrate back into Stage 1 and so therefore, you'll see the improvement or they'll move more into Stage 3. We have guided that our impairment rate would be below 30 basis points. I think it's important to remember that's still a charge. That charge is going to be made up of things moving more into Stage 3. So we are a little bit of migration between Stage 1 and 2 depending what's happening on different customers, but we would expect this to be a charge. In terms of economics, I've got a very strong view. It's -- in terms of the economic piece, we give you really good disclosure of what different economics might be. We prefer to update the H1 and at year-end, rather than through each and every quarter. And we think that can bring more volatility into the number. Others have different views and those views are also completely valid as well. But we're comfortable that we'll look at that as we look at Q2. And if you look at the disclosure we gave you, there's -- if you were to 100% weight the upside, which clearly we would not do, that would be a release of -- a maximum of GBP 800 million. And our economics aren't quite as good as the upside. So there will be, if things continue as they are today, a piece of a release, but we're kind of happy to go steadily with kind of cautious optimism as we go towards that. Donal, do you want to talk?

Yes, on Green bond, so we have capacity to increase it. As we've said, this year, we want to minimum 25% of our MREL issuance. And what we said is in green process sustainable format. We don't specifically break that down into green or social. But as we continue to write loans, that will kind of further support issuance, we expect that 25% to increase over the next few years as well, and it fully supports our group ESG strategy too.

Donal, If I could just add on to that one. We expanded our green, social and sustainability bond framework late last year. So we included additional eligible projects under the green sectors include energy-efficient buildings, clean transportation, pollution prevention and control. And then on the social side, we added female led enterprises and social housing loans. So quite an expansive list of eligible projects to support the assets, as Donal mentioned, already baked into the framework. So we're in a good position on that front.

Our next question comes from Paul Fenner of Soc Gen. [Operator Instructions] Otherwise, we'll move on to one of our other questions that has come through. Our next question asks, thinking of the August 81 call, if not called, that would leave you well above your minimum requirements.

Yes. I'll take that one. That is -- that is correct. And as you're aware, we've issued GBP 1.4 billion of additional Tier 1 over 2 transactions since last November. We did a GBP 1 billion 81 in November and another GBP 400 million follow-on transaction last month. So that has brought our additional Tier 1 percentage to by 3.3%, which is considerably above our requirements of close to 2.2%. But as you mentioned, we have a large transaction of per call in August, $2.6 billion with a coupon of 8.625% and a reset of 760 basis points. So we're in a very good position, and we will make a decision on that instrument later in the year, taking the same economic approach we take with all core decisions.

Thanks. We're going to go back to Paul Fenner. Paul, we're going to see we can meet you. So you can ask your questions. [Operator Instructions] Otherwise we're going to move on to our next question, which asks. How are you placing more deposit volume into your product hedge? What happens if you see large deposit overflows?

Let me take this one Katie, but...

Go on. And talk about structural hedge [indiscernible].

Yes, you mean the topic of the last 2 days. Yes. No, we are. So as Katie mentioned this morning, the structural hedge has grown by GBP 8 billion in the quarter, and GBP 277 billion. It's grown by approximately GBP 20 billion since the end of 2019 primarily reflecting the deposit growth that we've seen over the last 12 months. Generally, we include the increased deposit growth on a hedge notion on a rolling 12-month average basis. So the deposit growth you've seen in H2 of last year will continue to feed into our balance, and we would expect that to increase by approximately GBP 15 billion over the next 12 months if our deposit balances remain stable. Now we also haircut that rolling 12-month average to account for unexpected volatility in the balance, too. So that gives us some comfort. And I suppose, given that we do hedge on a rolling 12-month balance average, if deposit outflows were experienced over the next 6 to 12 months, and that would also feed in over time, too.

[Operator Instructions] I'm going to move on to our next typed question, which asks RWAs continue to fall. Does this impact the future MREL requirements, you're well above approximately 25% requirement?

Yes. I'll take that one. So it doesn't impact our MREL requirements per se, but if we're operating at lower levels of RWAs and will reduce the notional MREL requirements that we have. But it's a good question, given that we've printed GBP 165 billion [ RWAs ] at the end of Q1. And we do, I suppose, guide to our issuance plan based on an indicative GBP 200 billion of RWA. But we've still put our guidance for full year '21 of RWAs in the region of GBP 185 billion to GBP 195 billion, inclusive of the regulatory impacts and to take effect on the 1st of January 2022. So for now, obviously, we're comfortable with where we are. We can also take an affordable ways to trend on the lower side, you just take that into our refinancing as we go forward into next year.

Next question is another typed question, which asks the second part of that question, I'll say ignore that -- sorry, we're going to go to a phone number, which ends in 5371. [Operator Instructions]. We're going to try Paul Fenner's line [Operator Instructions]

This is Robert Smalley from UBS. And thanks for doing the call. A lots been asked and answered on asset quality. So just to sum up, we can assume for the next couple of quarters that provisioning and any reversals will be pretty smooth, driven by changes in the economic outlook. I guess that's just to sum up all of that, number one. And then number two, looking out further, it's been a very different type of cycle here. Where we've had a huge economic drop in recovery, while asset quality has stayed pretty firm. How does this inform or potentially distort your models going forward around provisioning, given that we're in a much more model-driven world?

Thanks very much. As I look impairment, the economics in Q2, we won't do it in Q3. We'll do it in Q2 and year-end, that's important to remember, but I think it's also -- it's not just all our economic gain. It will be what's really happening on the ground. And I think in the U.K., we're just coming out of lockdown. We still got good government support, but in the second half of the year, it will start to diminish, and I think that's when you'll start to see some more impairment activity. I think we've all been surprised actually, by the economic crisis we've had actually how well impairments have performed. And when we do our models, we've obviously had to do as an industry, quite a lot of adaptation to those models to cope with the level of government support that we see globally and the impact of that. I think understanding what you've done there and understanding the impact on that will be very much how you keep your models up-to-date as you roll this forward into the crisis. But I think it will be a couple of years before we really understand what the impact of it has been on the models and how we take them forward to be able to inform the next crisis as they comes through, which is why I think ECLs and many other European banks particularly holding these post model adjustments to sort of, hey, look we understand what the economics are doing. We understand what the models are doing, but we also understand what's going on in the greater world and what we can see kind of happening in terms of government support. And so I think those are the things that drive a lot of those adjustments. So look, it's a complicated standard. And I think as it comes through, I don't think it will be as simple as maybe this season's quarterly reporting suggests it might be because behind all of this is we loan for people that we need to kind of work our way through in terms of how they continue to develop over this year, and I think well over the next at this rate as well.

Our next question asks, what drove your decision to call the NatWest Bank disco in April? Was it PRA driven after the dear CEO submissions? And how do you think about the remaining discos?

I'm happy to take that one. No, the decision was not based on any conversations with the regulator. It's decision in line with our preference to clean up our capital stack, which we've been quite clear on over the last couple of years. And probably fair to say in terms of discos security that had a relatively small notional outstanding, and we are winning significant amounts of excess liquidity at present. Another factor we took into consideration was the fact that security reference is LIBOR and that would require a consensus [indiscernible] and change the benchmark rate at some stage in the future as well. But in terms of the dear CFO letter, and as people aware, we've submitted that to the regulator at the end of March. But we haven't had any follow-up discussions on it to-date.

And last question asks, can you talk about the recent LME, in particular, why these particular securities were targeted? How do you think about priorities?

Yes. Happy to take that one, quite similar to the last answer, to be honest, part of our drive to clean up the capital stack and have a cleaner stack as possible by the end of this year and as we go into 2022. So the security is targeted through that and we're either a potential barrier to resolution. Did not qualify as capital beyond the end of this year or inefficient due to the amortizing ratio capital value. So it was 2 legacy Tier 1s and 4 bullet Tier 2 securities that were within 5 years to maturity. And are amortizing down 20% per annum. So really a capital efficiency play.

And Donal, we're going to hand back to yourself to close the call.

Perfect. Well, thank you all for your time this morning, and I hope to sort of catch-up with you all in a one-to-one format in the near future. Thank you.