Nordea Bank Abp (NDAFI) Earnings Call Transcript & Summary

Good afternoon, everyone. It's Antonio Reale here from the European banks team on Morgan Stanley. I'm very pleased to be joined by Ian Smith, CFO of Nordea. Ian, thank you very much for joining us today and taking the time.

My pleasure Antonio. It's great to be here, and good afternoon, everyone.

Before we start, as usual, why don't we kick off with the polling question, and we'll make sure we leave enough time for people listening to submit their votes. [Operator Instructions] I'm going to read it out, Nordea has presented its strategy plan early this year for 2020 to 2025. what do you view as most important to Nordea's strategic development? Option 1, bolt-on M&A in specific market product segments, such as SG Finans. #2, 4% annual growth in loans. Option 3, 4% to 6% annual growth in AUM savings business. Option 4 cost control driving cost/income ratio to 45%, 47% targeted. And lastly, capital return in line with expectation targets of EUR 15 million, EUR 17 billion over the plan horizon. The polling question will stay up. We'll get back to it later. In the meantime, Ian, if you agree, why don't we start entering in our conversation and where else start, if not from the current volume [indiscernible] crisis that we are facing after, well, almost 2 years of COVID. Your business model is being, once again, tested for resilience. How are you seeing fundamentals holding up for Nordea in this environment, if you could talk about sort of your core markets, any direct or indirect exposure that you have to the affected region.

Sure. And obviously, it's one of the most important questions we're facing at the moment. I mean, first of all, to acknowledge that it's a terrible humanitarian situation. And one can only hope for an earlier conclusion as we can. So thoughts are with the people affected. In terms of how it might impact Nordea, I guess the way we think about it is, first of all, what's our direct exposure, which is very small. We are -- we were close to the conclusion of liquidating our legacy Russian business, and our remaining equity exposure is de minimis. We have very little by way of direct lending exposure, less than EUR 200 million, and we're working through elements of that, that may need some provisioning. But overall, in the scheme of things, not significant. And then finally, in our Asset Management business. And again, our direct exposure to Russia, through our funds, is de minimis, a handful of basis points. And we have taken exactly the steps that you would expect in terms of complying with the requirements in respect of those investments. So direct exposure, extremely small. In terms of indirect, clearly Finland borders Russia, has historically had close links; those links, over the past few years, from a trading perspective, have reduced since 2014. And so exports to Russia account for around sort of 5% of Finland's exports. And there is actually a relatively small number of companies that are -- the trade or have business in Russia, in Finland. So probably, less than you'd expect. Nevertheless, with energy links and other things that connect Finland and Russia, we might expect some disruption that might slow things down a little bit. In terms of our other 3 home markets, this trading relationship with Russia is very small. And so again, it's about those second order effects of further energy price shocks and potential inflation that probably occupy our mind. We're fortunate in Nordea that we are in the 4 Nordic countries in which we operate, have pre 24th of February, had the strongest growth prospects in Europe, really. So a good market to be in. I'm sure that we'll see a bit of a slowdown, certainly in the short term as a result of the supply chain disruption and associated issues. But I think over the medium term, even with some of the latest economic forecasts, shaving a little bit of GDP, but still seeing growth in our core markets. So I think we're in good shape from both where we're located and also our exposure. In terms of how our customers are feeling about it. Obviously, we spent quite a lot of time with them over the last few weeks. Broadly speaking, I think their business models, you talked about our business model. I think our customers models were tested, encoded and came through that pretty strongly. And the general sense amongst our customer base with business links to Russia, is that they are in robust shape. But we're going to have to see. There's a great deal of uncertainty out there, and we'll just be very close to our customers as they work through this.

Absolutely. Talking about uncertainty, of course, nobody could have seen this coming when you presented your -- introduced your targets and you presented your business plan. We -- you've talked about being above 11% ROE by year-end and above 13% by 2025. Of course, since the world has been to upside down in many ways, how should we think about any flexibility you may have to mitigate some of the supply chain disruption that you've talked about? And how do you see 2022 unfold from here?

So I think if we deal with the short term first. It's too soon to tell whether or not we might need to revise our expectations for 2022. I suppose, the [ principle with ]short-term exposure is in relation to our Asset Management business and the savings income that derives from that. I mean, we're still seeing good levels of demand for credit. And I guess, also, we would -- we'd like to see a bit of a return of confidence. There's no question over the last 3 weeks that companies that were looking to raise money have pulled in their horns understandably. We think that will return. And so I think the principal line we'd be watching for 2022 is what happens on the assets under management and savings side. We flew into 2022 very strongly, both from a lending and an assets under management perspective. So I think at the moment, we'll stay close to it, but not yet ready to revise expectations for '22, but we'll see how things unfold. I think then, turning to -- because as you say, we presented our strategy and our financial targets for 2025 a week before the invasion. We still -- that's 4 years away. We think we had a well-balanced robust plan that had us pulling a number of levers in order to deliver on our return on equity target of about 13%. That's still intact. We still expect to see growth in credit and we will take our share of that, no question. And I think that all of those different levers are still available to us. The short term is more uncertain. I think we feel pretty good about our ability to work through to 2025 and deliver.

Thank you. [Operator Instructions] Now, coming on to one of the key levers of -- for NII growth over the last couple of years has come from, of course, the positive contribution we've seen from volumes. And we've seen it basically in terms of market share gains on Nordea more than others. You've closed the gap, you've narrowed the gap, I should say, significantly versus your peers. With the new plan, you're targeting to be more of the same, with a 4% annual growth. What do you think are the best opportunities to grow in this context? And where do you see any products or market exposures you'd like to have more of?

Yes. So I think that one of the things that has been a real bright spots for Nordea has been our progress in Sweden, and I think that you've alluded to. But we've been firing on all cylinders in all of our 4 key markets over the last couple of years. Looking forward, I think the pattern should be more of the same. If we take our household business, our mortgage business, we would expect to see strongest lending growth in Sweden and Norway, a pattern that is something we've seen over the last couple of years. I think the Danish mortgage market has been pretty strong. Competitive in terms of capturing share, but I think we've done well. So in Denmark and Finland, I think we hold share, and we will grow market share in Sweden and Norway. In business banking, we've grown strongly in 3 out of 4 of our markets, and we would expect that to continue. We've got a real focus on the SME sector. And in Finland, where we have such a strong market share, that's really been about maintaining and driving profitability in our business banking division and that will continue. So I still think we have good growth prospects in SME in our core markets. In large corporates, we saw growth in the fourth quarter of 2021 for the first time since 2019. And I think that's a tribute to how well our business has done in terms of repositioning, and then also, just ensuring that we're there and extremely relevant for our Nordic customer base. And I think that a combination of that repositioning; the focus on Nordic customers and I think, our capability, particularly around the ESG opportunity should see us also deliver some modest growth in large corporates and importantly, profitable growth. So we feel good about our businesses in our different markets, but it's a slightly nuanced picture. And that's why in some areas, we'll match market growth and then we'll take share in Sweden and Norway.

Very clear. You talked about volumes and credit demand. How -- what does that all mean for your outlook for net interest income, particularly when it comes to lending and deposit price, what are you seeing? We've seen the market shift in terms of interest rate expectations across a number of regions, right?

Yes. So the -- I guess, the parameters of our plan through to 2025 are focused on delivering volumes. We've taken some, I think, some conservative -- a conservative outlook on margins. Some of our markets are still pretty competitive. And so we would expect to see some pressure. So a lot of the NII growth is driven by volumes. The rates question is really interesting. We sort of set our plan on the basis of modest hikes towards the end of the plan period, so late '23 into '24 and therefore, only a modest tailwind from rate hikes to the extent they come a little bit sooner and I think we've seen the sort of with the market sort of sentiment oscillate a fair bit and now, probably feels that the lesser of two evils is rate hikes versus allowing inflation to continue. But that should be good news for us because we haven't anticipated that in our plan. So I think we're well balanced on that. But the key driver of our NII growth is going be volumes.

And you have alluded earlier when you spoke about sort of the potential disruption you expect. Short term, of course, the market-related activity. And we've all seen share price performances and what that could mean for your savings in AUM business. Fees have been for you an area of strength. And by all means, I think you've continued to focus and made it one of the key pillars as part of your CMD. You've talked about your efforts to sort of continue to leverage the expected growth coming from asset management. Now, leaving markets aside for a second. Could you talk about a bit more about the initiatives that you are undertaking on fees as part of the plan and where you can improve your market presence and product penetration?

Yes. And so fees on savings and investment products. So the biggest line item, I guess, in our commission income. We get good balance from other contributions, particularly corporate finance services, cards and payments, but the key driver, over the last couple of years, has been savings. And I guess we've focused on a couple of really important things there. Back in 2019, we set out to revitalize our internal channels. We have strong relationships with millions of customers across the Nordics and we were underperforming in terms of capture of savings flow. So we've worked very hard at the distribution chain. Some of those basics just around ensuring that we're having regular conversations, making it easy for customers to save with us. And I think that has helped to boost flow in our retail segment, and that's retail, both math market, private wealth and Life & Pensions. And it's really good to see that nurturing. On the other side of it, we've seen institutional flows also pick up and perform strongly. They're that who've always been a core part of what we do, but that has continued. And so that's been about winning mandates around the world from professional investors, and we've had some good success there. We expect both of those to continue. And we've talked about investment over the period to 2025. One of the key areas that we expect to invest is in sales and sales support in our retail and asset management business and in product development. And so those are, I think, the things that will help to sustain the growth of those flows of savings products. And then the other thing that I think has been important for us is we've got some good products. We're one of the leading ESG providers or providers of ESG-qualified funds in Europe. And we've also delivered top quarter performance across our funds, and I think that helps, too. So it's about a high-quality asset management business, with a very focused distribution on retail and wholesale. The last piece is digital. And digital is now so important in terms of both customer acquisition, but also, allowing customers to do what they need to do on their devices. And we've done our best to catch up with some of the disruptors over the last couple of years. I think we've invested heavily in digital, and we have a stronger offering, but we have [ a way to go. ] So again, part of our investment planning is to deliver on the digital side, on the technological side, but also, on the customer engagement and customer experience. I think that's one of the things that the disruptors have got right versus the incumbents. So an area of focus there. We're confident we'll catch up, but we have some work to do.

The other area where we're seeing, obviously, sharp moves and it's clearly becoming a theme at the conference, but it was pre conference, of course too, is inflation, and wage inflation, one of your peers yesterday here at our conference mentioned that was running above expectations. Now, you've targeted cost income ratio as part of your plan, you're going for 45% to 47%, and that's an important commitment you made there with respect to cost control. You've introduced, with Frank, strong cost discipline and you're aiming for positive operating jaws. Could you walk us through how you plan to reach your targets, both for this year and 2025? And in particular, the relevance of inflation, how do you think you can mitigate it with some of the things you've been mentioning, structural changes, automation, digital and these things?

Yes. So I guess, if I start with our track record over the last couple of years on cost, we've taken EUR 230 million out of the cost base between 2019 and '21, 5% reduction. And that's been a combination of initiatives around productivity and structural cost reduction. We -- Our plan now is to, I guess, allow some cost growth. And to, I suppose, work on containing that cost and ensuring we deliver positive jaws. And that's where we expect to go in terms of delivering improvements on the cost income ratio. And the reason that we think some cost growth makes sense is, first of all, the investments that we talked about. So particularly, in our Personal Banking and Asset & Wealth Management businesses. So allowing some costs to grow. And we've got a pretty high bar for allowing our business areas to increase their costs. But we think it's a sensible thing to do because it will support growth. And then I think elsewhere that culture of managing cost effectively will come to the fore. And that's in being very careful in our large corporates business and business banking to continue to drive efficiencies. Business banking, in particular, will benefit from our digital investments and help to make -- deliver cost efficiencies in there. And then we continue to have opportunities of productivity improvement. And we're going to need to do that because what we see coming in on the other side is, as you've alluded to, inflation, and we've allowed for inflation in those plans, and also, some higher [ regulatory costs. ] And not least amongst those is the Swedish bank tax, which came in, in 2022. So a number of different moving parts, and we're going to have to deliver productivity and other cost efficiencies in order to manage to our 1% to 2% CAGR in cost growth over the plan period. But I think we've shown that we can do that, and this should be no different. Then the critical thing is to make sure we're delivering positive jaws and making sure that the investments that we're making are delivering on that growth, as I say, particularly in those areas we've chosen to focus.

On the investment, the whole sector seems to be on sort of investment mode. We've seen some high-profile warnings from JPMorgan, for example, you flag yourself investments over the plan horizon. What do you feel are the biggest sort of growth opportunities in your footprint?

So look, I think we've -- the sector has realized that IT is expensive. I think the focus on managing down costs over the last few years, I guess there needs to be a bit of a relief there. And it makes sense, I think, to invest in growth. So I guess the key focus areas for us are savings and in particular, focus on Sweden. We're not as -- We don't have the market share that we should have in Sweden, which is obviously one of our biggest market with the biggest opportunity. So I think a combination of organic and in certain circumstances, where it makes sense, some bolt-on M&A will help us develop that footprint. So a real focus on Sweden and a real focus on savings.

And if we move on to talk about asset quality, the provision in this cycle were turning out to be far better than anybody expected. You target a normalized cost of risk at 10 basis points, which is below your historical average. Now, how do you see credit quality? I know it's early stage, but for your key geographies, what you see could be also the releases that you've taken in terms of macro overlays? If you could remind us of the numbers and the reserves you set aside through COVID.

Yes. So we sit today with, I guess, additional management judgment provisions of EUR 610 million. And some of that is earmarked for model upgrades, but the bulk of it is for credit risk arising from COVID. And the reality is we haven't seen losses come through from COVID. They have been de minimis so far, and I think it's a great sort of testament to the strength of the credit portfolio and with all of the steps that were taken through the pandemic. So I think the book is in really good shape. And where we go from here. Look, I think that the sort of the impact of the Russian invasion of Ukraine, that sort of indirect impacts, I think will be a test to some customers, and will slow down a little bit growth, certainly, in the short term. But I sort of see that as something that our customer base, for the most part, ought to be able to manage its way through it. And has probably had a tougher test, I guess, with COVID and the pandemic. So we're well provisioned. We haven't had to use any of those provisions so far, so I think that's a good starting point. Over the next couple of years, obviously subject to how things might develop geopolitically and the impact that has on customers, we would expect to work through the impact of COVID, and that's either to conclude that those provisions are not required or to utilize them if we see losses coming through. And so '22 and '23 will be a period of sort of, as I say, working through digesting those COVID provisions, either utilizing or reversing. So by '24 and '25, we'll expect to see something that looks like the new normal. And we call it a new normal because we're a different bank from a credit perspective than we were, say, 10 years ago. We've exited peripheral overseas businesses. So Poland, the Baltics, Luxembourg, Russia. So with a real Nordic focus. We've also worked through our portfolio and reduced our exposure to some of the sectors that have been volatile and the source of higher provisions in the past. So shipping, oil and gas, we are much less exposed to those sectors than we have been historically. And then the last thing. I guess, is we've changed the shape of our balance sheet. We're now -- The majority of the sort of highest proportion of our portfolio is household lending secured, with very low history of losses in the Nordics. And that's why we're pretty confident that in normal circumstances, 10 basis points is probably the right sort of blended average versus, say, the 15 basis points average we've seen in the last 10 years.

It's important that you highlight that actually, because the derisking of the balance sheet and portfolio has not come with derisking of your revenues. In fact, you've been able to turn them around, and that's allowed you to, well, be one of the leading banks in Europe with respect to capital returns. And you've reiterated your dividend policy at 60%, 70%, complemented by a pipeline of share buybacks and that is the EUR 15 billion, EUR 17 billion capital returns you've talked over the '22, '25 time horizon. Now, how does that, obviously, the [ common ] conflict affect your capital management exercise in this context?