Nedbank Group Limited (NED) Earnings Call Transcript & Summary

Good day, ladies and gentlemen, and welcome to the Nedbank Group Pre-Close Investor Call. [Operator Instructions] Please note that this call is being recorded. I'd now like to turn the conference over to Mike Davis. Please go ahead, sir.

Thank you, Claudia, and welcome to everyone who has joined the Nedbank Group Pre-Close Call. In the next 20 minutes or so, I will share with you some insights to the group's financial performance to the end of October, trends into Q4 and also confirm that currently we remain on track to meet the full year guidance we provided as part of our previous updates to the market. The content of this pre-close has also just been released on SENS. On October 29, we released a detailed voluntary trading update for the 9 months ended September 30, wherein we noted that both the economic environment and the performance of the group had improved in the third quarter when compared to the second quarter of 2020. We noted that while the negative impacts of the COVID-19 pandemic and subsequent lockdowns were still evident in parts of our client base, high-frequency data from our transactional banking channels, our point-of-sale devices and card-related digital channels reflected positive growth in total industry turnover data from August 2020 onwards. These trends have continued post Q3 and in October 2020. The ongoing economic recovery from the low point in Q2 initiated by the gradual easing of the lockdown levels from level 5 to the current level 1 is encouraging for us and is expected to continue. Our economic units, SA GDP growth forecast for 2020 has also recently been revised from minus 9.2% to minus 8.1%, and our 2021 GDP forecast has been revised upwards from 2.5% to 3%. Our current forecast for interest rates is to remain flat in 2021 and then increase by 50 basis points in half 1 2022. On November 20, Fitch downgraded South Africa's long-term foreign currency debt to BB minus with a negative outlook, and Moody's downgraded the SA Sovereign Credit Ratings to BA2, maintaining a negative outlook as well. South African banks, including Nedbank, were then downgraded on November 24 as the ratings of domestic banks cannot be above that of the sovereign. The Moody's downgrade taken in isolation of any other matters is expected to have an immaterial impact on our risk-weighted assets, regulatory capital and cost of funds over time as a result of us largely being domiciled in South Africa and raising most of our deposits and funding within the closed rand system, with very little mismatch between our foreign-denominated funding and foreign-denominated assets. As we have consistently communicated to investors over the past 7 months, our primary focus at this time remains the health and safety of our staff and clients in serving and supporting our clients and good standing in managing their finances through this difficult period and, in doing so, providing support to the economy. We thank our staff for tirelessly supporting and delivering products and services to our clients and supporting all our stakeholders throughout the crisis. While it is still too early to draw final conclusions, given evidence of a resurgence in infection rates globally and in some parts of South Africa, COVID-19 infection rates in staff peaked in mid-July. We remain on high alert for a possible second round of infections and continue to observe the COVID-19 health protocols, while closely tracking the recent news of the progress in development on potential vaccines. From a technology perspective, our IT systems have remained stable, and our managed evolution technology program is still on track to be materially complete somewhere around 80% by the end of 2020. We continue to see an upward trend in digital usage and digitally active clients, driven by our market-leading digital solutions and at October 31 digitally active clients increased by more than 10% year-on-year to almost 2 million and to 70% of our total main bank clients, up from 60% in 2019. Turning to our financial performance. Average interest-earning banking assets growth in the 10 months through to October 31 slowed to around mid-single digits, down from the 8.2% we reported in half 1, and we expect this trend of slowing advances growth to continue towards the end of the year. This slowdown in advances growth is driven primarily by reduced wholesale advances growth as corporate clients continue to repay loans drawn after the heart of the crisis. The impact of this has only been partially offset by slightly higher advances growth in RBB, with growth to October improving to around 3%. This increase in RBB advances is driven by recovery and loan application volumes through all major retail products notwithstanding low approval rates as we tightened our lending criteria. Home loans, vehicle finance, personal loans and card applications have now fully recovered to above pre-lockdown levels, in part driven by pent-up demand, given the impact of lockdown on home loans and vehicle finance and in part supported by the 300 basis point reduction in interest rates. We have also benefited from end-to-end digital client onboarding and product sales capabilities we have launched in 2019 as part of our managed evolution technology program that are enabling significantly quicker loan approval times and better client experiences. As an example, in the 9 months to September 2020, this has led to a 50 basis point increase in personal loans market share to 10.7% as per the BA900 returns and is -- and a reminder that personal loans is one of the first products to be fully digitized. We expect the trend in slowing wholesale advances growth and improved retail advances growth to continue through quarter 4. On the other side of the balance sheet, deposit growth remains robust and still well ahead of advances growth. Turning to the income statement. NII growth for the first 10 months decreased from the 1% report -- growth reported at half 1 as overall advances growth slowed and our NIM contracted to just below the 333 basis points reported at half 1 on the back of the run rate impact of low interest rates on endowment income. The decline in NII to date is less than we had expected, but remains in line with our full year 2020 guidance range of between 0% and a decrease of 5%, which remains unchanged. Pleasingly, and a question we often get, is that asset pricing has improved, particularly in home loans, vehicle finance, commercial property and corporate lending portfolios. Impairment growth to the 10 months was lower than the 202 basis points reported in half 1. And as a result, our credit loss ratio decreased in line with our expectations from 194 basis points in half 1 to within our 2020 full year guidance range of between 150 basis points and 185 basis points. This guidance also remains unchanged. To date, we have approved and concluded more than 400,000 loan restructures qualifying under the SARB Directive 3 amounting to more than ZAR 121 billion and paid out ZAR 1.4 billion under the SA Government's SME Loan Guarantee Scheme. New requests from our clients for COVID-19-related payment relief, restructures and support have declined materially since 30 June, and this trend continued into October. In CIB, monthly impairments post half 1 decreased compared to monthly impairment levels in Q2 as the ZAR 1 billion forward-looking IFRS 9 macroeconomic overlay in Q2 did not repeat. More clients migrated into stage 3 loans and appropriate impairments have been raised. D3 loans and CIB increased from the ZAR 30.5 billion reported in half 1 to ZAR 32 billion in September and have since declined marginally in October to around ZAR 31 billion. Our focus on high-risk sectors, such as construction, aviation and hospitality, remain top of mind. We thought it's important to also give you a quick update on our commercial property portfolio, which continues to perform ahead of our expectations as the underlying rental collections by listed clients improved to 94% in October, up from the low of 67% in April, and as our clients' cash flows benefited from the significant reduction in interest rates. In addition, reduced shareholder distributions by REITs have been beneficial for bondholders and lenders such as ourselves. While cash flows are key to the ability of clients to perform under their loan obligations, property values are also important in this environment. And although we entered this crisis with low average LTVs of 48% and good quality collateralized assets, which act as a significant buffer against potential losses, we have accelerated our revaluation processes ahead of our year-end. While we currently expect the overall trend in commercial property values to be downwards over the next few years, we perform our own valuations on each property. And generally, our own Nedbank valuations are conservatively below those of our client valuations. Pleasingly, the level of arrears in the 0 to 90 days bucket in our commercial property finance portfolio remained very low at ZAR 40 million at the end of October, highlighting the strength of underlying client cash flows and their ability to service debt obligations. In RBB, monthly impairments post half 1 reduced when compared to monthly impairment levels in Q2, but nonetheless remain elevated as some D3 loans migrated to stage 2 due to payment holiday renewals. There has also been an increase in stage 3 loans. At the end of October, 95% of the total of ZAR 79 billion D3 loans extended in RBB have matured or lapsed with 83% of these having resumed their monthly payment, 7% being one or more month in arrears, 5% having been extended or renewed and 5% having not yet matured. Of the 90% of loans that have matured and not yet renewed, 93% were paying their installments, and this is similar to payment levels in the prior month. As of October, ZAR 9 billion or only approximately 2% of RBB advances were still classified as D3 loans compared to ZAR 73 billion in June and ZAR 23 billion in September. Pleasingly, non-D3 loan repayments continue to perform ahead of our expectations, given the positive impact of the 300 basis point reduction in interest rates year-to-date. Our group total coverage ratio increased from the 2.95% reported at half 1 to 3.2% at October, driven by an increase in stage 3 coverage from 4.7% in half 1 to 6.5% at October as a result of the D3 extension-related overlays in RBB and a reduction in a number of stage 2 CRB clients with low coverage that have repaid and/or cured and, therefore, moved to stage 1. All these trends are encouraging, but we remain vigilant around risks associated with D3 and D7 restructured loans in RBB as well as watchlist clients in CIB. These along with the risk of an unexpected large unsecured corporate default remain the largest risk to our guidance for full year 2020. NIR growth for the 10 months was in line with our expectations and decreased when compared to the decline of 5% reported at half 1, but remains in line with our full year guidance range of a decline of between 7% and a decline of 11%. Similar to other guidance, this remains unchanged. Unpacking NIR in a bit more detail. Commissions and fees for the 10 months reduced by less than the 9% decline reported in half 1 as the easing of lockdown restrictions to level 1 has been beneficial for transactional activity. In October, digital payment volumes, point-of-sale volumes and ATM volumes were at 100% or more when compared to March 2020 levels, although branch volumes remained lower. Compared to June levels, digital payment volumes increased 49%, point-of-sale volumes increased 34%, ATM volumes increased 20% and branch volumes increased 27%. Cross-sell on new retail consumer sales increased from 1.9x -- to, sorry, 1.9x from 1.2x in 2019. The retail main bank clients at the end of October increased by more than 5% from the 2.65 million reported in half 1 as transactional activity levels improved, while CIB recorded 31 primary bank client wins year-to-date. Insurance income continued to decline, given high levels of credit life loss of income-related claims, but volumes of these appear to have peaked in both September and October. Trading income growth remains strong but has slowed as expected with declining levels of volatility and volumes when compared to the first half of the year. After recording a loss of ZAR 765 million in half 1, largely from unrealized losses in marking down private equity investments to reflect reductions in public market values, full year 2020 unrealized private equity losses are expected to be marginally higher than half 1. Lastly, a portion of the macro fair value gains reported in half 1 continued to unwind, in line with our expectations. The risks for NII growth include materially better or worse transactional activity over the December holiday period, which traditionally generates significantly higher levels of NIR than in other months and significant volatility in trading income. Expenses continued to be well-managed in response to the more challenging economic environment through lower variable costs and digital cost management and in the 10 months to October, staff cost numbers declined by more than 750 and SA retail branches declined by 40. The decline in expenses for the 10 months was in line with our full year 2020 guidance range of between 1% and minus -- sorry, minus 1% and minus 4% and lower than the 1% decline reported in half 1. We expect our guidance to remain appropriate for the full year. Associate income of ZAR 222 million relating to our 21% shareholding in ETI for the 9 months to Q3 2020 has been recognized and ETI is expected to announce its Q3 2020 results in due course. And this will inform our Q4 associate income from ETI. Our effective tax rate for 2020 is expected to be between 23% and 24%. From a balance sheet perspective, the group remains liquid and well capitalized at levels above board approved minimum targets and well above minimum regulatory requirements. At September, our CET1 ratio increased slightly from June and remained strong at 10.7%, reflective of organic capital generation after accounting for the impact of growth in RWA during the period. Our LCR and NSFR ratios were well above regulatory minimums at 125.6% and 113.2%, respectively. In line with the SARB Guidance Note 4 and in support of capital preservation, it is unlikely that the Board will declare a final ordinary dividend in 2020 so long as Guidance Note 4 is in place. Lastly, as we noted in our half 1 disclosures, full year headline earnings per share and earnings per share are expected to decline by more than 20% when compared to the 12-month period ended December 2019, and this guidance remains unchanged, although a further trading statement will be issued in Q1 2021 to provide more specific guidance ranges once there is reasonable certainty regarding the extent of the decline and relevant -- and the relevant DHEPS and EPS ranges. We will enter our close period on January 1, 2021, and will release our group results for the year ended December 31, 2020 on SENS around the third week of March 2021. Thank you, and we will now open the telephone lines for questions.

[Operator Instructions] The first question comes from Jacques Conradie from Peregrine Capital.

I mean maybe just overall, you obviously commented during the pandemic -- in the trading update that things have improved from the second quarter into the third quarter and into October and November. Can you give us an idea of how much or how it compared to your expectations at the time would you say things are going to be significantly better or kind of broadly in line with what you thought maybe in August when we saw the first half results being presented?

Jacques, thanks for the question. So I think the word significant is strong. I think that if we look at high-frequency data, I would suggest that if I compared September to June and if I compared October to September, I would suggest that based on high-frequency data, we are pleasantly surprised with the level of recovery. And if I look at applications from an on-balance sheet lend perspective, I'd make the same comment. So I think to use the word significantly better is too strong. But I think certainly, September improving on June and October improving on September is certainly surprised on the upside.

You have some insight into the data and the inflows into people's accounts. Do you believe, Mark, that, if there -- is there maybe benefits from excess social grants or between that could you think it's more just a sum the economy is going slightly better than we thought and potentially -- I mean, it's too early to call next year, but I'm just trying to think is there a cliff where things just go back to being bad? Or do you think there's some signs that it might be like an improvement?

So Jacques, I think the first comment I'd make is that the improvement is not broad-based. So I wouldn't suggest it's across all sectors, obviously, and all segments of the market. So I think that's important. I think if you look at certain parts of the business, I think as a result of the significant reduction in interest rates, and if you looked at -- for example, if I take that into the housing market, there are parts of the housing market that have recovered better than we had expected, and there are parts of the market that remain benign or very slow. So I think that the reduction of 300 basis points in interest rates has a big role to play in areas of the economy that we are seeing recovery. And I think just to the point is that it's not -- they certainly are not broad-based. But there are sectors or segments in the market that are seeing a stronger recovery than we had expected.

The next question comes from Stephan Potgieter from UBS.

Maybe just linking up to the sort of improvement in activity levels and the turnaround that you've seen more recently. Obviously, our fee and commission income has declined quite considerably in the first half and you're guiding to be better in the second half. But to what extent is that turning around? If you look at, let's say, October, which you see year-on-year growth already if you just look at the month of October?

No. So Stephan, thanks for the question. So I think what we need to do is we need to -- I think from everything back to the fact that, obviously, we -- all of us, I think the industry as a whole had expected a significant drop-off of volumes and transactional activities and profitability across the industry. I think what we're saying first and foremost is we're seeing better signs or better trends than we all had originally expected. I think when we're looking specifically at fees and commissions, what you've seen is you've seen us move into a level 5 followed by level 4, 3, 2, 1. And obviously, what happens is in the level 5, you see, obviously, your transactional volumes slow significantly. And off the back of that moving into a level 1 type lockdown situation, you obviously see a recovery, given the drop-off under level 5. But no, we're not seeing positive growth yet, but you're seeing, obviously, lower levels of negative growth translate into better-than-expected commission and fee growth.

The next question comes from Matthew Pouncett from Laurium Capital.

Just given the reduction in the D3 portfolios and the sort of positive traction element on the CPF book, I think previously, you guys have guided to sort of a multiyear period in which you would get back into your long-term through the cycle credit impairment range. Would you guys adjust that now? Do you think you'll be falling into that range quicker than your expectations where at the half as an example? Or is it still kind of 2, 3 years out before you got to see normalized credit losses?

Yes, Matthew, I think it's way too early to call that. I think our indication to market is that we will get back within the target range of 60 to 100 basis points by 2023. I think what's quite important is as a result of IFRS 9, you obviously see a spike in 2020 because of the implications of IFRS 9, which obviously is to recognize impairments quite quickly in the cycle. And then what you actually see is you see the impairment ratio come off quite quickly in 2021. And then it's got like a J-curve shape to it. You see less of an impact in 2022, and we dip inside the 100 basis points in 2023. So think of it as you take an immediate spike or increase in that impairment number, you'll see the banks recover reasonably quickly, but I would suggest outside target ranges, and then you see the shape of that coming back into target ranges certainly in the case of Nedbank's expectations in 2023.

[Operator Instructions] The next question comes from Charles Russell from Citi.

It's not really dealt within this particular update, but it is in the foreseeable future. What are your feelings about the seasonal slump in credit quality in January and February? How concerned are you about, I guess, seasonal overspending, Black Friday and the peak holiday season? And how does that play into your sort of credit loss ratio guidance going into the next year?

Yes. Thanks, Charles. I mean, obviously, it's incorporated in our guidance into next year. We would expect, obviously, some levels of seasonality to repeat as we move through December and into January and February. But I think you'll find that the implications of that seasonality will be a lot less this year than it's been in the past. And I think you saw some of that through some of the data points you saw shared around Black Friday in terms of the success thereof versus prior periods. So I think what you'll see is a reasonably muted December in comparison to prior periods, but you will still see a better December versus November, November versus October. But I think that the implications of the seasonality will be a lot less muted through December, January, February of '20 into 2021. And it's one of the reasons why we do raise in the trading update we've just gone through is the fact that NII could under or outperform based on December, given exactly where you're going with your question. So we'll need to see the levels of seasonality through the Christmas period. But I think certainly, they will be a lot more muted than in the past.

The next question is a follow-up question from Jacques Conradie from Peregrine Capital.

Mike, just a question on commercial property and how it's different from residential property. As you said, it seems from all the banks that the interest rate cuts of fed due to the residential market in some areas that actually got a lot of activity. We haven't seen a lot of activity on the commercial side, interestingly Resilient just earlier today announced they had sold a small shopping mall. Do you have a feeling whether you've seen any kind of transactional activity there? And if not, what do you think needs to happen for that liquidity to return to that market and everyone not sitting on the offer for some buyers to emerge?

So I think, Jacques, there's a couple of things. One, obviously, from a residential mortgage or property perspective, obviously, you're seeing some of that growth definitely come as a result of opportunities as people move through the different levels of the property market as a result of opportunities. So I think that's growing and resulting in some of the growth in that particular segment. And obviously, you come off a reasonably low base if you go back to the deeds office being closed, et cetera. In the commercial property finance market, I agree with you. You're seeing a lot of guys sitting on the fence and waiting for opportunities. And I think there's a couple of key data points that are important to get that particular market going. One would be, obviously, reintegration back into property space. I mean, a lot of us are still sitting at home, working from home, et cetera, and running businesses from home. So I think that's going to play out. And how that plays out effectively into medium- to long-term vacancy factors is something that the market is looking to digest. I think, obviously, as lessees renegotiate with lessors in terms of rentals, needs to play out in terms of a hard data point. And as a result of input variables like that, what does it do to property valuations. You've obviously also seen a number of the listed segment no longer paying dividends. When does the market anticipate that REITs will resume dividend-paying positions. So I think in the residential market, it's quite quick to realize opportunity because a property you potentially saw on the market for X is now trading at Y. And when you previously were going to fund that at X, you're going to do so at rates 300 basis points higher, you now get to do it at 300 basis points lower. Whereas in the commercial property space, I think there's a couple of unknowns that need to play out as we move through and get to a point where potentially vaccines play a role in getting us into a post-COVID environment, and the market can price for known vacancy factors, known rental increases and the likes. So I think that's playing its way through property valuations in the commercial segment.

[Operator Instructions] The next question comes from Kevin Harding from Investec Bank.

I wonder if you could just elaborate on within your wholesale portfolio in terms of the accounts that migrated into stage 3, which sectors were they from, if that's possible?

Yes. It shouldn't -- it's the high -- typically, it's not every -- all of them, but it's typically the high-risk sectors that we noted in our analyst booklet at the half year and subsequently. So it's in your -- it's effectively in your construction, aviation, hospitality, those segments, but it is in your high-risk segments in the wholesale portfolio.

Mike, we have no further questions in the queue. Do you have any closing comments before we conclude?

Thanks, Claudia. So first of all, just thank you, everyone, who joined the call. And maybe just to say on behalf of Nedbank that certainly, we wish all of yourselves and your families good rest and a great holiday. I think it's certainly something we're encouraging all of our staff to do, take some time out because I think we're going to all arrive in 2021 in an ongoing difficult environment. So try and take some rest, recharge and certainly wish all of you a happy and safe and healthy 2021. Thank you.

Thank you very much, sir. Ladies and gentlemen, that concludes today's conference. Thank you for joining us. You may now disconnect your lines.