OSB Group Plc (OSB) Earnings Call Transcript & Summary

Good morning, everybody, and thank you for attending the OSB Group's 2023 Full Year Results. Clearly, I appreciate there is some disappointment on our '24 NIM guidance this morning. However, OSB remains a growing and strong ROE business with a healthy future ahead of it. I'll start by covering the key highlights in terms of performance for the year. April will then take you through more detail on the numbers. You'll then hear a little bit more from me on how our lending and savings franchises have performed, followed by the outlook before we open up to Q&A. As we reported at the half year, the Group's 2023 results were significantly impacted by the adverse effective interest rate adjustment, which reduced our full year underlying profit before tax by GBP 181.6 million. However, I'm pleased that since then there has been no material change in borrower behavior, and we continue to observe a trend consistent with our EIR assumptions for precise customers. Our lending franchise performed strongly, delivering net loan book growth of 9%, supported by GBP 4.7 billion of new organic lending, despite the challenging interest rate environment and macroeconomic situation that significantly slowed to the wider mortgage market. We've continued to focus precise mortgages on growth in the residential sector, and Kent Reliance on really serving the professional landlords, who still are making purchase decisions, of course, as well as having more complex refinancing needs. And that plays well to the Kent Reliance strengths in our proposition. Our InterBay brand has also seen a 46% increase in new lending during the period, and retention performance across the board has been strong, with now 78% of borrowers in Kent taking a new product with the Group within 3 months of their deal maturing, and an already very encouraging 66% of precise mortgages customers as our Choices program there continues to gain traction, enabling us to lock-in long-term income for the future. We remain committed to doing the right thing for our customers. And I'm pleased to confirm that we have embedded the new Consumer Duty rules within the required timescales and have signed up to the government's mortgage charter. Looking on our strong credit and risk management performance, 3-month plus arrears were robust at 1.4% with a small increase on last year, largely driven by the elevated cost of living and cost of borrowing, and actually inside our modeled assumptions. ECL provisions have also increased due to changes in the risk profile of borrowers as they transition through modeled -- I can never say that, can I? -- IFRS 9 impairment stages, although the outlook has improved during H2. Our capital position remains strong with CET1 at 16.1%. Following the successful issuance of Tier 2 and MREL qualifying debt securities, we have met our MREL requirement comfortably in advance of the July deadline. The Board has recommended a final dividend per share of GBP 0.218, which together with the interim dividend results in a total dividend for the year of GBP 0.32 per share, which is in line with our desired policy of delivering a progressive dividend per share. The Board remains committed to returning excess capital, and I'm pleased that we have announced today a new GBP 50 million share buyback program to be delivered over the next 6 months. I will cover more about our outlook and our guidance later, but we remain excited by the opportunities on our core markets. And I hope that my introduction has provided a useful reminder of the strong fundamentals that provide the backdrop for us to continue to deliver attractive and sustainable returns through the cycle. This slide shows our statutory financial results. But turning to our underlying results, on the underlying slide, we've also shown our KPIs, excluding the total EIR adjustment, and I think it's important to do this to understand the underlying strong performance of the business. For example, excluding the adjustment, our return on equity would have been 22%. April will cover each of these for you in her review, but I hope the snapshot underlines the strong fundamentals of the Group under normalized trading. I'll now hand over to April, who'll take you through the numbers in a bit more depth.

Okay. Thank you, Andy, and good morning, everyone. Nice to see you in person. This slide presents the 2023 performance on an underlying basis before and after the EIR adjustment. Turning to the key drivers of underlying ROE of 16% or 22%, excluding the impact of the EIR adjustment, the Group delivered an underlying pretax profit of GBP 426 million for the year. However, it would have increased to GBP 608 million without that adjustment, due primarily to higher net interest income off the back of strong net loan book growth and an improved net interest margin. This more than offset the impact of a net fair value loss from the Group's hedging activities during the year compared to a large profit in 2022. I'll cover NIM in a lot more detail later. Administrative expenses increased by 14% in 2023, reflecting balance sheet growth, the anticipated impact of inflation, and planned investment in people and operations. However, the underlying management expense ratio, the pure efficiency metric, of 81 basis points, remained broadly flat to the prior year, demonstrating our continued focus on cost discipline and efficiency. The underlying cost-to-income ratio increased to 33% from 25% in 2022, largely due to the lower income. Excluding the EIR adjustment, the underlying cost-to-income ratio increased by 1 percentage point to 26%, due primarily to that fair value loss from hedging activities versus the large gain in the prior year. Looking ahead, we expect the underlying cost-to-income ratio to be broadly flat to the 33% reported in 2023, commensurate with our broadly flat NIM guidance, which we'll come on to later. The management expense ratio may tick up slightly in a year of slower growth, as we continue to sensibly invest in our digital journey. However, we will continue to maintain the cost discipline and efficiency, which we're known for. We recognized an underlying expected credit loss of GBP 48.5 million in 2023, equivalent to a full year ratio of 20 basis points. As you can see on the chart, this was concentrated in the first half of the year, as previously outlined in our 2022 interims, but I will provide some more detail again on the key drivers a little bit later. Turning to the income statement. You can actually see that fair value loss on hedging activities I mentioned earlier of GBP 10.8 million versus a gain of GBP 48.5 million in the prior year. A quick reminder, the key driver behind this loss or gain, which will reverse over the life of the swaps, continues to be fair value movements on our pipeline mortgage swaps due to movements in the SONIA forward curve before the mortgage is complete. The only other thing I'll just point out on this slide is the underlying earnings per share of GBP 0.75 for 2023, reduced -- commensurate with a reduction in profit. Underlying EPS would have increased to GBP 1.067 per share, excluding the EIR adjustment. So I'll just turn to the balance sheet next. This summarizes our strong secure balance sheet. Our net loan book increased by 9% during the year to GBP 25.8 billion, and that's supported by the GBP 4.7 billion of gross new lending in the year that Andy referenced earlier, as well as strong retention. Retail deposits grew by 12% to just over GBP 22 billion during the year as savers continued to choose the Group's consistently fair and attractively priced products. We remained predominantly retail funded with diversification provided by Bank of England funding schemes and securitizations. Andy will provide an update on the progress of our TFSME repayment plan and securitization activities a little bit later. I'm pleased with the credit performance of our loan book during a period of stress caused by the rising costs of living and borrowing. The small year-on-year increase in 3-month plus arrears to 1.4% was inside our modeled expectations and reflects the high quality of our secured loan book and lending policy, and also demonstrates the resilience of our borrowers. Our loan book is secured at sensible loan to values. The weighted average book LTV at the Group level increased to 64% at the end of the year from 60% at the prior year end, reflecting negative house price inflation in the year. However, the new lending LTV reduced marginally to 68% from 71%, demonstrating our continued focus on the risk assessment of new lending. Now on to the net interest margin. This slide shows our NIM waterfall, where you can see the high level drivers behind the movement in net interest margin during the year. And moving from left to right, I'll start with the cost of retail funds which benefited versus the prior year from initial delays in the market passing base rate rises onto savers in full, and the cost of new retail funding also benefited from widening swap spreads. However, this benefit was offset by the lower new lending and retention margins caused by delays in mortgage pricing fully reflecting the rate rises and the higher swap costs in a period of extreme volatility in the rates outlook. We nevertheless continue to honor our pipeline as we did throughout the pandemic. The third bar shows the impact of the Tier 2 and MREL issuance in the year, and other funding primarily related to the benefit of equity funding in a higher rate environment, which all results in a full year NIM of 314 basis points, excluding the EIR adjustment of 63 basis points or 251 basis points if you include it. So let me turn to the NIM outlook. I thought it would be helpful if I stepped you from the full year underlying NIM for 2023 of 314 basis points, excluding the EIR adjustment from the previous slide to the 2023 exit rate, and then onto our guidance for 2024. 2023 was a year of 2 halves for NIM. The second half NIM of 296 basis points, significantly lower than the first half NIM of 333 basis points, excluding the EIR adjustment, as previously guided at interims. Moving from left to right again on this waterfall, starting with the cost of retail funding. This increased due to deposit spreads normalizing in the second half, increasing the cost of new deposits but also retention as the fixed deposit backbook started to recycle onto the higher prevailing rates. At the same time, lending margins continued to be impacted in the second half by delays in the market passing the rate rises and higher swap costs on to mortgage pricing in full. Tier 2 and MREL issuance and other funding resulted in an exit rate for NIM based on December 2023 annualized of 273 basis points. The 2024 underlying NIM is expected to be lower than the December exit rate because the cost of retail funds reflects the impact of the fixed deposit book continuing to recycle onto those higher prevailing rates. However, this is expected to complete this year in 2024. On the positive note, new lending and retention margins are expected to be accretive to NIM in 2024 based on our current pricing swap spreads and planned mix of business. And Andy will talk about some further potential opportunities as the macro outlook stabilizes a bit later. You can also see the impact of Tier 2 and MREL eligible debt issuance in the next bar, including the full year impact of 2023 issuance. The other funding drag reflects the impact of planned securitizations to help support the repayment of TFSME. In summary, I hope this explains our full year guidance of broadly flat to 2023 underlying net interest margin of 251 basis points. I'll turn to impairment provisions next, and this slide provides a waterfall of the movement in the statutory impairment provision over the year. As you can see in the chart, and moving again from left to right, we updated our forward-looking macroeconomic scenarios in our IFRS 9 models during the year, which accounted for a GBP 6.4 million increase in provisions. Enhancements to models and updates to post-model adjustments were a small release of GBP 1 million. Provisions related to accounts with arrears of 3 months or more increased by GBP 14.1 million, and there was a further increase of GBP 14.1 million related to changes in the credit profile of borrowers as they transitioned through modeled IFRS 9 impairment stages. This transition was primarily modeled movements from Stage 1 to Stage 2, with only a small percentage of loans in Stage 2 actually being in arrears. Stage 1 provisions in respect of loan book growth totaled GBP 7.8 million, and individually assessed provision increases and other items totaled GBP 8 million. As I mentioned earlier, the vast majority of the charge was in the first half of the year, with the loan book since then performing slightly better than expected, and with a slight improvement in the outlook for house prices. As at 31st of December 2023, the Group's balance sheet provisions were further reduced by write-offs of GBP 33.6 million. These did not form part of the impairment charge for the year as they were expensed to the profit and loss in the periods when the provisions were raised. The amount was elevated in 2023 due to the write-off of the funding line receivable associated with the 2020 fraud case following the successful sale of the remaining security, in line with our write-off policy. You can see that our total coverage ratio remained broadly flat at 56 basis points for the year. However, it remains more than twice the level it was pre-pandemic at the end of 2019. Our year-end forward-looking economic scenarios, which are a key driver of our modeled expected credit losses, are included in the appendices. I think it's the last page. Since the year-end, the outlook for house price declines has moderated, and we will continue to actively review these scenarios as we progress through the year. I'll turn next to capital. So, turning to our capital position, you can see that the Group's CET1 ratio remains strong at 16.1% at the end of December. Going from left to right again in the waterfall, which explains the movement in the CET1 ratio in the year, you can see the impact of the adverse EIR adjustment taken in the first half. The next few bars demonstrate our very strong capital generation capability, which, excluding the EIR adjustment, was more than sufficient to support strong net loan book growth of 9% and a full year progressive dividend per share of GBP 0.32. This full year dividend represents a payout ratio of 29% of underlying earnings, excluding the after-tax impact of the EIR adjustment, and includes a recommended final dividend of GBP 0.218 per share. On the right hand side of the waterfall, you can see the full impact of the GBP 150 million share repurchase program completed in the year as we continue to return excess capital to shareholders as we optimize the capital stack. Today, the Board has announced a new GBP 50 million share back over the next 6 months. We will consider the potential for further capital returns later in the year, subject to further MREL issuance to support growth and the final Basel 3.1 requirements when known. Looking forward, we continue to target a CET1 ratio of 14%, but expect to operate above this target as we wait for clarity on the final Basel 3.1 rules, which are expected to be published in Q2 this year. Quick reminder on the next slide of the components of the Group capital, both the Group's minimum capital requirements, but also MREL or TLAC requirements, and also our capital resources both at the 2023 year-end and the prior year end. Total capital resources at the end of the year of 22% includes the benefit of our successful MREL qualifying Tier 2 and senior debt issuances during the year. We expect to issue further MREL qualifying debt to meet the future requirements of Basel 3.1, which has an expected implementation date of July next year, and to support balance sheet growth, as well as meeting the end state MREL requirements by July 2026. I'll now pass back to Andy, who will give an update on our lending and funding franchises, and then further detail on the outlook.

Thank you. Our lending franchises have continued to deliver through more than 30,000 qualified mortgage intermediaries. The Legal & General Mortgage Club is the U.K.'s largest, so to win their award as the best specialist lender is one that's particularly pleasing to me. Our focus on professional buy-to-let landlords has continued, helping fund into the critical private rented sector, which provides access to more than 4 million homes. Our landlord leaders community continues to grow with over 400,000 interactions through social media. It was set up as a source of knowledge and best practice aimed at ensuring a fair sector for landlords and tenants alike. In 2023, we increased our market share despite a significantly softer overall buy-to-let market from 5.8% to 6.2% of stock and from 6.8% to 8.9% of flow. In our Residential segment, we have managed and maintained our focus on underserved borrowers, leaning into self-employed and minor adverse credit customers, as well as our continued focus on the shared ownership market, supporting in particular key workers. We've grown our InterBay business, both in commercial and asset finance, and doubled our bridging completions to GBP 437 million. We evaluate options to extend our risk appetite in these markets as the macroeconomic outlook improves. Our funding platform continues to deliver savings to our strategy of attract, retain and satisfy. We grew our retail deposit book by 12% in the year, and we opened more than 210,000 new savings accounts, despite the increasing competition. We successfully retained maturing customers into fixed rate products at a rate of 91% and 85% in OSB and CCFS respectively. Our Net Promoter Scores also remained high at over plus 62 in Charter Savings Bank and plus 71 in Kent Reliance. We complement retail deposit funding with our expertise in wholesale markets, and in June, we completed a GBP 330 million securitization of owner-occupied mortgages with a further GBP 509 million of buy-to-let mortgages securitized at the start of the year. We saw exceptional demand from our growing investor base, and this allowed us to achieve very attractive pricing on this deal. We'll continue to access the wholesale markets when conditions are favorable, and benefit from the diversification of funding to support a smooth transition as we repay drawings under the TFSME. At the end of the year, the Group's drawings under the Bank of England facility were GBP 3.3 billion, following the repayment of GBP 900 million in the year. And we've repaid a further GBP 600 million so far in 2024, and we'll continue with our structured repayment program through to October 2025. The Group is recognized for its efficiency and excellent customer service. And through '23, we continue to invest in our digitalization journey, which will enable us to meet the future needs of our customers, brokers and wider stakeholders, whilst delivering further operational efficiencies. This investment will be a key focus going forward as we deliver digital solutions to enhance our customer propositions. Investment in '23 has so far delivered an online broker registration process, which enables an intermediary to register for business once for precise Kent and InterBay being business-ready across the group in a single step. A new advanced digital front end to precise mortgages which has new API functionality stripping back what's not necessary to deliver on our promise of creating precisely the right product at precisely the right time. In the first half of '24, the Group will also launch an app for intermediaries enabling them to work with us and get updates on the move. OSB Group has always been a market leader in cost efficient delivery, and our investment in technology will enable us to maintain this reputation, whilst also removing friction from our customer experience and enabling a deeper, more personal relationship to be built through the focus on their specialist needs. So in summary, a strong operational performance and the fundamentals of the business still good. Clearly, I am disappointed that the first half was impacted by the adverse EIR adjustment. Our specialist market subsegments continue to perform well despite the subdued overall mortgage market. And the Group's target professional landlords demonstrate resilience and provide much needed housing to the private rented sector. And our specialist residential and commercial brands have good levels of demand, and customer confidence show signs of improvement. Our savers remain loyal to the Group as we offer them good value with improving Net Promoter Score results. And we're confident we'll continue to deliver proposition enhancing digital solutions as they are developed. Based on current application volumes and against a backdrop of a continuing subdued mortgage market, the Group expects to deliver underlying net loan book growth of circa 5% for 2024. The underlying net interest margin is expected to be broadly flat to 2023, reflecting the impact of higher cost of funds and the full year impact of some lower margin lending in '23, whilst honoring our pipeline during a period of market volatility. As I mentioned earlier, we'll continue to evaluate opportunities for NIM enhancement as the macroeconomic environment allows us to broaden risk appetite in our more cyclical business lines. The underlying cost-to-income ratio is expected to be broadly flat to '23, commensurate with the guidance on net interest margin transition that April described earlier. And the Group remains well capitalized with strong liquidity and a high quality secured loan book. We've demonstrated the strength of our customer franchise and intermediary relationships and continue to focus on good outcomes for our customers, our stakeholders, and strong returns for our shareholders. Finally, before turning to Q&A, I would just like to take a moment to thank April for her dedication and hard work over the years. As you know, she'll be retiring at the AGM. April has been an excellent trusted advisor and support to me over the last 11-plus years, helping to build 1 of the UK's best specialist lenders. Thank you, and I really do wish you all the best in your retirement. And finally, I'd like to briefly introduce Victoria Hyde, who is here today, and will be taking over as our Interim CFO, pending the completion of our formal competitive process. Victoria joined 18 months ago as Deputy CFO, specifically as part of our senior leadership succession planning, and has already made a huge impact on the group. We will now open up to Q&A. I think we'll have the room first as there's already hands flying up, and then we'll move on to any questions on the phone.

It's Ben Toms from RBC. If we take a step back, you printed an underlying ROE of 16%. And given the share price move this morning and the EIR adjustment last year, which causes some noise, maybe it could be helpful if you could just provide some assurance that through the cycle this bank should be expected to deliver at least a mid to high-teen ROE. And then, secondly, your latest guidance on Basel was less than 200 basis points. I guess, the key here is the regulatory announcement that's coming up in May. And the key thing to look for there is probably whether they phase in the impact from standardized. I think 150 to 200 basis points represents something like GBP 200 million of capital. Is the right way to think about a softening of that standard in terms of it being phased in kind of 80% of GBP 200 million of potential capital that's freed-up for later in the year?

I mean, on ROE, look, we haven't given medium-term guidance. But I think hopefully what comes through on the sort of NIM progression slides is that we are facing some short-term headwinds particularly as our retail savings book recycles on to more normalized deposit spreads. But there is some upside coming from our lending mix. And as Andy said, once supported by the macro outlook, in particular house prices, you should expect us to go back into some of our higher yielding businesses in a little bit more anger. But I guess, if you look at our guidance, we are, I guess, implicitly guiding at sort of high-teens ROE. The other thing perhaps to point out would be the sort of, what to expect on the ECL line. We don't specifically guide on expected credit losses, but most of our provision is modeled. And if we start to see improvements in the macro, particularly further moderation in the peak to trough of house prices, that would be positive. So, as we sit here today, let's hope what we see as macro improvements as opposed to any worsening, who knows, which should support a relatively benign loan loss ratio going forward. The nature of the beast IFRS 9 is, you meant to have perfect foresight, you make all your provisions and then you either utilize them, you reverse them or you increase them for further worsening in the outlook. So, I hope that helps without kind of giving you medium term guidance which we haven't published. And then, turning to Basel 3.1. When the consultation paper was first published, you're right, we guided to an impact of up to 2 percentage points on our capital requirements. And since then, that has reduced somewhat, but because we are in a slightly stressful situation, and therefore we've modeled more defaults. And if you have defaults, then there isn't really an increase in the risk-weighted assets as a result of Basel 3.1, and therefore actually, because of the macro situation, that difference has reduced. Hope that makes sense, slightly counter-intuitive perhaps. I think, a lot of the lobbying has been around commercial SME lending. So any kind of rollback from the platinum plating versus the actual Basel rules themselves would be helpful, I think, for our business. Residential risk weights are coming down for us because of our very sensible loan to value for residential lending. The real driver of the increase for us is larger portfolio buy-to-let, and that is the key thing to watch for. But as you referenced as well, Basel have bent over backwards to ensure that IRB firms get a nice smooth transition and transitional relief, but had not originally put that in for standardized firms. Clearly, there is going to be significant impact if it's put in close to what they consulted on for standardized firms, and I hope they do the right thing and they offer transitional relief. And then, I guess the thing we have to balance is that glide path of transitional relief versus IRB accreditation. And unfortunately, I have to say there is no change to our IRB journey. We await resources from the PRA to formally engage with an application. Before someone asked me, I thought I'd just volunteer that.

I think the next one was here at the front.

It's Perlie from KBW. Can I just take you back to NIM? I guess, the share price reaction today is reflective of the -- maybe the surprise that the guidance is so much lower than market expectations. I guess, we are a quarter of the way through the year. So, I guess, what are you seeing at the front end? Is there any surprises at all? Because obviously, I guess, going from, I guess, consensus of GBP 280 million to GBP 250 million-ish, there might be an element of surprise in your thinking. So, just have those play out as you expected, or would we expect any more revisions to that guidance later in the year? Not that you can tell us now, but just sort of what you're seeing on the front end would be helpful. And then, the second question is on volumes. So, 5% is a little bit lower than your level of growth historically, and even last year you did 9%. And I guess, in a falling rate environment with house price stabilizing, I guess we would be a little bit surprised not to see a higher level of loan growth. Just what are you seeing there to give that guidance?

So, I think -- I hope what came across in that sort of outlook slide is that the drags on NIM really happened in the second half of last year, commensurate with the guidance we'd given at interims for the second half. The continuation of the retail savings book recycling onto the higher prevailing costs is sort of a continuation of that. And then we said we expect accretive lending margins. And actually what we've seen so far this year are totally in line with that expectation. But as Andy mentioned earlier, if we start to see the improvement in the macro, if we continue to see moderation in the HPI peak to trough, then that would suggest the mortgage market would start to recover. That would certainly give more opportunity for further growth in our core businesses, but would also give us the confidence to relax the risk appetite again and start going back into the levels of lending we used to do in what we consider to be the more cyclical, but of course, higher-lending businesses, asset finance, development finance, small commercial, bridging. Of course, we're doing all of this, but we're not doing it at quite the same volume as we would have done pre-pandemic and then pre the cost of living and borrowing rises.

And then on volume, we always try and be realistic about the guidance we give on loan book growth. And I think you have to come into 2024 being cognizant of the fact that the buy-to-let market, for example, was 49% down last year on the previous year in terms of its overall volume. And even against that backdrop, clearly, we managed to increase our market share of both stock and flow. The issue for us is one about rather than chasing volume at any cost, keeping a focus on NIM and keeping that focus on looking for opportunities for accretive NIM as we go through the year. So don't overgrow just for the sake of it, making sure that we've got capital to deal with issues like Basel 3.1 and continuing to look after shareholders in terms of evaluating our opportunities for capital return. So I think we're being realistic about growth based on where the market is at the moment. I think if the macro does what the perhaps early signs are that the macro might be doing and confidence starts to return, and we get a bit of a pickup in purchase activity and that'll be both residential and buy-to-let, then there is potential for more. But also, if that macroeconomic environment improves, as I said in the presentation, we have ways in which we can pivot into some of our more cyclical business lines if the macro is supportive of those, and we want to reserve some capability to divert capital into those markets because they long-term [ aren't unaccretive ]. Yes, sorry, I've got that one, and I'll come back to you, Grace.

It's James Invine here from SocGen. I've got 2 on the margin, please. The first is, I wonder if you could just help us, please, with the shape of the margin as we go through the year. You've talked about an exit margin from last year of around 270 basis points. You're signaling 250 basis points for the full year this year. Does that mean that when we get to December '24, your exit margin is going to be around the 230 basis points level? And then the second question is on, just wondering, April, if you could be a little clear on exactly what you're assuming for the deposit costs. So you've previously talked about them moving back to SONIA. Is that basically the expectation that you have baked into this, please.

Okay, let me do the second one first because that's easier. So yes, at the interims, we'd said we're assuming around SONIA. At Q3 trading update, we said it's gone up a bit. So we're assuming around about the SONIA plus 10, so a more normalized rate, I think, for us. At times, the end of '22 and the first half of '23, I think I've said before, we were raising our retail deposits as SONIA minus 40, SONIA minus 45 at times. And that did lead to an increase in net interest margin that we didn't expect to be sustained. The retail savings markets did eventually catch up and price in those rate rises. So that's what we assumed. We're continuing to assume about that level, SONIA plus 10. Clearly, we are doing more securitization as part of our blend of funding. It gets you more duration. It also really helps replace the TFSME, so we're not relying completely on that retail savings market. Our repayment strategy is a mixture of retail and debt issuance, and clearly securitizations. When we restarted, I think, the buy-to-let securitization market earlier this year and managed to break through just under the SONIA plus 100, but clearly that's more expensive than retail savings. I think at the moment, residential STS type securitizations are probably about 45 basis points cheaper, so that's where we're focusing. And, of course, we will have requirements we expect for further debt issuance as well, not just for Basel, but for just planned growth in the balance sheet, too. So hopefully that answers your second one. The shape of net interest margin, we do expect the drag of that back-book of retail deposits 1 and 2 year with a weighting towards the 1 year as that was the most popular product over the last 18 months or so. We are expecting that to complete in the second half. So if you like, that drag will be done. We will continue, obviously, to have some drag from MREL as the full year impact of what we've already raised, but also potential to raise some more later on in the year. But then you've got that offsetting accretion from new lending. And I think where we land at the end of the year will probably depend somewhat on what we see as the opportunities for growth. And we will continue to look, as Andy just said, for further growth opportunities, not just in our core markets as they start to recover, particularly on the purchase side, but also in those more cyclical businesses.

Grace.

Grace Dargan from Barclays. Maybe, sorry, just again, coming back on the guidance, maybe particularly on the '24 guidance on NIM. Do you think you're being conservative in that? Or maybe put another way, could you see upside and where might that come from? I guess in particular, thinking about the asset spread widening, given the improving rates backdrop, and maybe linked to that within that asset spread widening, how are you thinking about that mix shift, coming to your points around the cyclicality, versus widening of core products. And then maybe looking further out, appreciate you haven't done medium-term guidance, won't comment on ROE, but maybe just how you're thinking about a normalized NIM, to ask in another way, in a normalized interest rate backdrop.

Okay, sorry, Andy. [Technical Difficulty].

I'm actually happy to answer this one. I think I would say, you started with, are we being conservative on NIM? We always guide on NIM on what we're seeing today. So we look at what's coming through the pipe, and we look at what the funding cost is of the book, and we use that as a solid proxy to give us the guidance. In terms of mix, which you touched on, clearly, when we think the macroeconomic environment is right, we have the ability to pivot the mix. We did a little bit of that towards the second half of last year, with some increased completions in bridging and through our InterBay business. But we are quite a conservative Board in terms of risk appetite. And I think we want to make sure that it isn't a 'one swallow does not a summer make' situation. And actually, the ongoing trends of the macroenvironment are supportive because once you've lent it, you're in it for a while. So you want to make sure it's credible business in the right point of the market. And then in terms of the widening piece, OSB has always made good money in a low interest rate environment. And I think banks have a tendency to widen margins when rates move in either direction. Static interest rates are never that helpful, and it would certainly be the plan for us. We've never been the cheapest buy-to-let lender on the block. It would be the plan for us to obviously treat borrowers fairly and make sure the products are appropriately priced as interest rates change. But equally, the competitive nature of the funding dynamic means that as rates fall, the current account benefit for the big providers is less beneficial, and therefore, you get some less intensity of competition on the retail funding market. But we're not speculative in the way that we put our plans together. So as situations evolve, we will look to jump on opportunities, but we can't sit here and say this will happen because we've got to see that economic data wash under the bridge. Did I miss anything, or do you want to add to that?

No, that's fine. You did that very well.

Thank you.

Well, look back in history, in the more benign, steady, low-rate environment, we were around about the anywhere from 2.60% to 2.80%, weren't we? Clearly, we have a bit of a drag from MREL issuance, but those bars weren't too deep, were they? And we have tools and levers we can pull at the right time. And I can assure you the Board is very focused on, at the right time, making those decisions, on the more cyclical lending, but not wanting to trade up the risk/return too soon, the risk curve, just to flatten them because that wouldn't be the right decision for us to make. But there are opportunities there for sure. And yes, I think, I probably agree with Andy. I think there should be some opportunity. But bearing in mind that the lending margins that the market ended up at last year when we had those expectations of rates going up further than I think we now believe, didn't pass all that on to borrowers. So I think there'll be a natural inclination for the banks to try and take a little bit of that back. So I think I echo Andy's views on that.

Gary?

It's Gary Greenwood from Shore Capital. I just got 2 bigger picture questions, really. So the first one is on M&A activity. Obviously, we've seen a couple of potential deals, one gone through, one potential, in the sector recently with Tesco Bank and Virgin Money. So just your thoughts generally on consolidation in the sector and your positioning therein. And then the second one is more of a political one. Obviously, it looks like we might get a change of government in the next 12 months. I think, historically, a Labour government has been viewed as being a little bit more cautious around landlord and buy-to-let than maybe a Conservative government, although the Conservative government's clamped down quite a bit. So just in terms of your thoughts on how that might change the environment for your business.

Yes, sure. The M&A activity, of course, you can co-op and play with another building [ society ] as well. So there has been a bit of a flurry of activity. I'm not sure any of us saw the Virgin Nationwide one coming until the announcement was there. But even so, we continue to scour the market for opportunities. We think about defense, clearly, particularly at times when your share price is under pressure, we clearly make sure that we're well versed in how we would respond, and the Board is very clear on what we believe the intrinsic value of the business to be, so that we can fight the corner on behalf of our shareholders, if that's appropriate. I think I would say on us and M&A, right now, the story is the same as it was at the half year numbers. Our job of work is to get total confidence back in the underlying fundamental business that says we write decent volumes, we churn out a decent return on equity, and shareholders benefit from that, along with all the other aspects of running a good quality customer franchise. And we will continue to evaluate opportunities in the market. Do I think there's going to be a mass flurry of consolidation? I think maybe the regulator might like that because it's easier to regulate fewer entities. I don't know. I think there are some challenging deals. I think we've still got the issues of fair value adjustments on mortgage portfolios that exist from a time when the interest rate dynamic was different. And that makes some of the deals difficult to do. I think you've got some providers that have got heavy fintech investment, and therefore, believe they're valued as a fintech, not as a bank. And that makes that deal difficult. But other than that, I can't say too much on that. I don't think there's going to be massive consolidation, but there'll always be deals to be done if the price is right and the economic flow is there. The change of government one, historically that's always been something that we've worried about because we think the private rented sector, for example, is very important, and you need a supportive environment for that. Actually, myself and a number of other mid-tier CEOs have spent time with the current Economic Secretary to the Treasury, but also time with the shadow Economic Secretary to the Treasury. And actually, the mood music we're hearing from the Labour government is much more supportive of actually making the U.K. an investable platform, making the U.K. easier to do business in, and actually understanding that the lending industry and the banking industry is an important and intrinsic part of putting growth and economic value, real economic value, into the U.K. economy. So I think when we were talking about Jeremy Corbyn and some of the rhetoric and that sort of thing, I would have been super nervous. Actually, I'm less so now on that. I think the change of government will be looking for stability and growth, and the banking sector can help with that. Yes.

It's Aman from Barclays. I had 2 questions, one on capital and one on cost-to-income. You must be frustrated with the regulator. There's an uncertainty around risk weights. That's really not helpful. I hope Sam Woods and the PRA are listening to this call, but your shareholders are actually bearing the brunt of the cost of this, right? In terms of the uncertainty on your capital position, but also potentially MREL issuance. So I just wanted to double-check. The MREL, your NIM bridge into '24 next year, there's some incremental issuance that you're baking into that. Does that factor in -- what assumption on risk density are you embedding in that? Are you assuming that risk weights go up as per Basel?

Okay, I can go with that.

And if that is the case, then what happens if and when we, fingers crossed, get some relief down the line, presumably we retire that funding in the fullness of time. And the second question is around cost-to-income ratio. So is this a new run rate cost-to-income ratio on a go forward basis for your business? It's a very convoluted way of saying it, but you've done in the 20s, mid-20s. Is 33% the new level that we should expect for your business going forward? And as part of that, I've understood that India has been a really important support for the business, important part of the operations of OSB still is. Exactly. But I do wonder how sustainable that is as a low-cost center of running a business. I wonder if you've got a view. Everyone tells me that economic growth is set to accelerate and wealth creation and affluence and wages and what have you. I don't know if you've got a view there in terms of that medium term.

Should I start with capital?

Yes.

Yes, obviously, we're extremely frustrated at the continued uncertainty as Basel 3.1 implementation has been delayed, frustrated at the consultation paper, and the PRA not wanting to use their U.K. loss data and instead adopt calibrations which are international for buy-to-let, which just aren't supported by the loss data in the U.K. where buy-to-let performs very similarly to residential. I'm very frustrated there was no transitional relief. But I think the regulatory regime is quite fragmented in the U.K., have got a tendency to platinum plate, and that fragmentation manifests itself in a very low threshold for MREL, as well as continuing to, I think, actually widen the uneven playing field between the larger banks and smaller banks and mid-tier banks. So, yes, obviously deeply frustrating and can clearly empathize with the frustration amongst the shareholders as well, who just want clarity. Nothing worse than uncertainty, is there? But we have assumed the consultation paper and that there are no drawbacks, no rollbacks from there. I think it's a sensible thing to do. That's all we have to really base our modeling on. So our capital requirements going forward are based on it just comes in as written, but also that the macro outlook, as we've published, is going to come to pass. So clearly, we are forecasting some RWA inflation through defaults as well. So those are 2 of the main assumptions going forward. And that includes obviously the impact of higher LTVs as well from the HPI drops that certainly at the end of the year we were forecasting. So I guess to answer your question of what would we do if the rules are different, I really think we have to wait and see what the final rules are. We don't have to wait very long I hope. They have said May. So let's fingers-crossed it is in May, and let's hope they have listened to industry and Treasury when it comes to some of the flaws we think in their previous consultation paper. And actually the longer it's delayed, also, is it really fair to give industry only a year to get ready? So let's wait and see what the implementation date is as well. Although I do know they're trying to align that to Europe and the U.S. Interestingly, the U.S. have decided not to just adopt the international calibrations, but I think they're also looking to perhaps, say, I'm afraid you have to hold the higher standardized or your internal models as well. So let's wait and see what the U.K. regulator does when it comes to models because clearly it's been difficult for them to find resources to get the larger incumbents to update, but also to help aspirant firms get through. So, yes, a very fragmented regulation framework, delays in implementation and clarity, and quite clearly, yes, very frustrated. But we're not shy about telling the regulator that. And we are very active on the lobbying side, both with Treasury and with the PRA, and also potential future government as well when it comes to the regulatory regime. Cost to income, do you want me to take that?

Yes, you talk about that. I'll talk about India.

To be honest, if you're looking for an efficiency metric, I really would love the industry to start looking more at management expense ratio. I always talk about management expense ratio, which is about efficiency. And that does represent still the sustainable benefit we get from India. Yes, there is inflation in India, but it's not just about people know it is still cheaper to hire people in India significantly, it's a longer working day, and actually the talent pool there is astonishing. And the more and more we're finding deep pools of talent there with just a slightly different mindset, real mindset of improving digitalization, robotizing, and therefore we find actually the employee base there a real asset to our business. It's not just about the cost-benefit, but there is still a cost-benefit there as well, of course. And so from a run rate perspective, that management expense ratio is the one that I personally focus on. And I know Victoria does as well. And we've managed to keep that broadly flat. And although you may see a tick up this year, if we continue to invest very sensibly in our digital journey for the future, that would be what I would want to draw your attention to. Unfortunately, cost-to-income is so influenced by the income line, it's very influenced by fair value gains and losses on hedging activities as well. I know some of our competitors exclude that from their underlying results, but it's such a close part of our business. We're hedging our business. We're not comfortable doing so. But I think that's the line to watch.

I'll just add a couple of lines on the sustainability of India. And then, I'm conscious of time, we'll open up to people who have dialed in to see if we have questions from phone. What you get is what you input in things like the India theory. And for us, we have never treated our staff like they're an outsourced operation. They're our staff. The warehouse, the office premises could be in Brentwood, it happens to be in Bangalore or Hyderabad. They're very much part of the group, very much part of the corporate culture. And as a function of that, our level of attrition in India, where the market norm is 30% plus, is much more akin to standard U.K. attrition. And if I said to you that the average cost of a graduate or master's qualified member of staff all in India is still about GBP 9,000 per head a year, the significant delta of that cost-benefit versus the U.K., and we're not churning over a third of our workforce every year through attrition, is actually superb. April's already messaged the talent pool and the availability of resources there, but it continues to be a real jewel in the crown of OSB. It really does support the group in a way, which is incredible, and has done since we got it really working properly in about 2013 with the right management structure and the right way in which we'd organized it, actually, despite some inflation in the Indian environment, despite clearly a fair bit of growth in the economy in India, it has continued to serve the group really, really well, both in customer service terms, but also efficiency and cost terms. Operator, do we have questions on the telephone?

People have been waiting very patiently, if they do.

[Operator Instructions] Our first question comes from [ Ibrahim Saeed ] from JPMorgan.

Could you just refresh us on the EIR, how long do you anticipate -- from what I understand effectively, this is on the back-book of the segment of mortgages written and will remain in place until that book closes off. If you could share what the remaining duration is on that and what kind of sensitivity we can see as your front book grows. And then secondly, I noticed that there's a decline in your coverage levels. What's driving that?

Was that the stage 3 coverage ratios on expected credit losses, your second question?

Yes, that's right.

Yes, it was really the write-offs in the period which I mentioned earlier. So, including that large fraud case where we have successfully sold all the security now, we provided for that in 2020, but the provision and the loans stayed on the balance sheet until we had sold all the underlying security in line with our write-off policy. So that dropped the coverage ratio on stage 3. But overall, obviously stage 3 is a small part of the overall balance sheet. The coverage ratios overall were broadly flat year-on-year. But I'm not sure I fully understood your question. I think if you're asking about the liability that resulted from the adjustment we made in the first half when we changed our forward-looking assumptions for how long precise customers would stay on the reversion rate, that liability will reverse over the life of those loans. But it's a balance sheet movement, not an income statement movement. And any impact on our new business pricing as a result of new business NIM, as a result of assuming only 5 months on reversion is really second or third order to the other drivers of how we price, such as swap spreads, market competition, etcetera. So any ongoing impact of that is very hard for me to really quantify for you. But of course, it's incorporated into the NIM guidance I outlined earlier and that overall expectation of an accretive lending margin for the new business we're writing. I can't sit here today and say one and done, but I guess what I'm trying to get is we made a behavioral adjustment in the first half. The P&L impact of that behavioral change was done in the first half. Any small impact that had, I think at the time we said, all else being equal, it would reduce front book margin if we assume new business spends 5 months on reversion as well, it would be about an 11 basis point impact on the net interest margin. But I also said, of course, we'll take account of that as we price new business going forward. And I think that's perhaps the message I'm trying to reinforce. It's in that NIM accretive lending margin.

So if we just think forward to next year, obviously, you've taken that one point of impact this year, but let's fast-forward to next year. Should I anticipate still seeing material adjustment next year or every year going forward till that book rolls off? Or is it just a one-time thing indeed for this year?

Well, all I can say is that since we made that adjustment, we have not seen any significant or material behavioral changes from the assumptions we put in place at the half year. So we assumed on average 5 months across the precise book. And that's what we've seen since then, and that's what we continue to see. I think if we do see rates start to fall and if they fall in anger, you might actually expect people to spend a bit longer on it, but that would be crystal ball gazing. And right now, all I can say is that I think we were pretty spot on. And the behavioral data we've collected since then and observed has supported that change we made in the first half.

Our next question comes from John Cronin of Goodbody.

You got in there just in time.

Can you hear me?

Yes, go ahead, John.

Okay. Just one follow-up, if I could, on NIM, please. In terms of just disaggregating the '24 guidance, would it be possible for you, April, to isolate the negative drag associated with the change in the cost of retail funds specifically that is embedded in your guidance? And at what point specifically or roughly during FY '24 does that stabilize or, dare I say, begins to inflect?

Well, listen, all I can say, I think if you want to disaggregate it, look at the relative size of the bars. We haven't put specific numbers on it, but I think we've tried to make the size of the bars broadly reflective of how each of the components contribute. I can tell you certainly year-on-year we expect the impact of the debt issuance to be around 12 basis points. But I'm sure you could probably do that math as well. And I think it's not going to be over in the first half. I think it's going to be over, the retail savings recycling, it's going to be over in the fourth quarter, if that helps, just looking at the duration of the fixed deposit book.

We have no further questions from the telephone lines.

Okay, we are at 10:31. If there's anyone remaining burning question in the room, happy to take it, as long as it's not too tricky, then I'll hand it to April. Otherwise, thank you very much for your time and nice to see you all, as always. Thank you very much.