Permanent TSB Group Holdings plc (PTSB) Earnings Call Transcript & Summary

Good morning, and welcome to our 2020 interim results presentation. I'm going to give a short presentation on the progress the bank has made in the first half of 2020, after which, I will provide a more detailed review of our financial performance. I'll be happy to take any questions after that. If we turn to Slide 3, which regards the highlights. The first half of 2020 has been an unprecedented period of time where customer and colleague experience have changed so profoundly. The sudden outbreak of COVID-19 in March of this year has impacted the bank's operational and financial performance. However, the strength buildup in the bank's balance sheet and business model has ensured that we are able to support our customers and the Irish economy. We've approved more than 10,500 mortgage payment breaks, equating to EUR 1.6 billion in loan value, and that represents 10% of the bank's gross loan book. The average loan size of a payment break is around EUR 152,000, and the average yield is 2.8%. At the end of July, we've seen a 50% reduction in the number of active payment breaks since they peaked in May of this year. Business performance has started very well -- started the year very well, in particular in mortgage lending before the countries response to COVID-19 impacted all new lending activity. The bank wrote EUR 600 million in total new lending in the first half of the year. However, this is a reduction of 16% when compared to the same period in 2019. Total new mortgage lending of EUR 530,000 reduced by 14% year-on-year. The mortgage market itself reduced by 16%. And as a result, our market share increased to 15.2%, up from 14.7% in the first 6 months of 2019. In recent days, we've announced significant changes to our mortgage pricing for both new and existing customers. These rate reductions go a long way to addressing the discrepancy, which traditionally existed between the bank's pricing for new and existing customers and combines enhanced competitiveness with increased fairness. The bank is reporting a loss before tax of EUR 57 million, which compares to a profit before tax of EUR 28 million for the same period last year. Operating profit of EUR 23 million for the first half compares to operating profit of EUR 47 million in the prior year, with net interest income reducing by 6% year-on-year. The bank's net interest margin of 175 basis points is showing a decrease of 7 basis points on the previous 6 months of 2019 and a 5 basis points reduction versus the 2019 outturn. I'll cover this in more detail in the financial summary. Underlying operating expenses, excluding regulatory costs and costs of fee associated with COVID-19 were EUR 142 million, and that's EUR 3 million or 2% lower year-on-year. As the bank continues a strong discipline in cost management, reflecting the lower cost, regulatory charges were EUR 20 million for the first half, and this is EUR 2 million higher than the previous period, and this is due to the higher level of insured deposit balances. The total impairment charge for the first half was EUR 75 million, and this compares to a EUR 5 million charge for the same period in 2019. The impairment charge is largely driven by the update of the macroeconomic inputs to reflect the impact of COVID-19 on the longer-term economic outlook. Nonperforming loans were EUR 1.1 billion, and that remains broadly in line with the balances as of the end of 2019. The NPL ratio increased slightly to 6.8% from the 6.4% level at the end of 2019. The bank continues to actively manage the NPL portfolio and are still committed to reducing the NPL ratio to mid-single digits in the medium term while protecting capital. The common equity Tier 1 ratio was 13.9% and 16.5% on a fully loaded and transitional basis, respectively. This compares to the bank's pro forma CET1 ratio of 15% and 18.1% as of the end of 2019 on a fully loaded and transitional basis, respectively. Capital ratios remain above management and regulatory minimums. The reduction in capital ratio is primarily driven by the increase in the impairment charge and approved increase in the bank's risk-weighted assets associated with the payment break population. The Central Bank of Ireland has provided additional flexibility to the banks under their supervision in the context of the COVID-19 crisis, and this is designed to support the sustainable provision of credit to the economy. We now turn to Slide 4. COVID-19 has caused a sudden and severe contraction in economic activity across the world. The global health pandemic quickly became a global economic crisis. Job losses came in waves, aligned to the increase in levels of public health restrictions, the greatest impact coming from sectors such as construction, retail, hospitality and leisure. The number and receipt of the pandemic unemployment payment peaked in early May at more than 600,000, but has declined over the last 8 weeks to around 290,000. And following sharp increased job loss across all sectors, the labor market is expected to begin to recover in line with the phased reopening of the economy. However, the labor force is expected to be smaller over the forecast horizon, with unemployment estimated at around 12% by the end of this year. Employment growth is estimated to be 9% in 2021, bringing the forecast unemployment rate back to around 8% by the end of 2021. But these are still well above the pre-COVID-19 levels. We now turn to Slide 5. Household deposits stand -- now stand at an all-time high, recently reported at EUR 118 billion. This suggests that households have a significant source of funds to support a future recovery in consumer spending. Demand for credit declined in March following the introduction of the initial containment measures with a significant low reported in mid-April. Demand sustained has picked up, showing signs of recovery, especially in consumer credit. Mortgage inquiries remain subdued through April and May, but there's been a good recovery in applications since early June. The latest data on residential property market transactions suggest that activity is returning to more normal levels. Updates to the property price registered at the end of July showed an increase week and week. However, activity is still 30% below the 2019 levels. The mortgage market having grown to EUR 9.6 billion in 2019 is now expected to decrease by 26% to around EUR 7 billion in 2020, before expected growth of about 20% in '21 to a market size of EUR 8.4 billion. Housing completions of 21,800 in 2019 are expected to be much lower, with estimates of 13,800 house completions in 2020, and that's a decrease of 37% year-on-year. House prices were forecast to reduce by up to 2% with some recovery in 2021. However, we are yet to witness these reductions in the market, with some commentators suggesting a lower impact. If we now turn to Slide 6. As mentioned at the outset, the bank is fully committed to supporting our customers, colleagues and communities through the COVID-19 pandemic. Proactive measures were undertaken for early 2020 to protect the health and welfare of our colleagues and customers. We've put in place a large -- sorry, excuse me, a range of supports for our customers, including the approval of 10,500 mortgage payment breaks to give our customers the financial breathing space they needed at the time -- at a time of crisis. The introduction of an online portal to facilitate mortgage and term loan payment breaks, and in the coming weeks, this portal will also offer online statements of financial suitability or SFS returns. And that's required for processing customers who require assistance at the end of payment break, too. We've also offered customers temporary overdraft and credit card limit increases, and we've given over EUR 1 million in cashback and incentives and rewards to explore current account customers. We've increased [ a little ] on contactless payments, from EUR 30 to EUR 50 per transaction, facilitating customers to pay using their card as a safer option during these unprecedented times. Arising this, 92% of customers are now using contactless payments over cash. Around 40 million contactless payments were made by customers since the beginning of the year. And as a result, we have experienced a 60% reduction in over-the-counter cash during the first 6 months. In addition, we have kept all bank -- all of our branches open to serve our customers. We deployed over 100 staff and mobilized 4 new regional centers to further support in answering customer queries. Our colleagues' response to the COVID-19 pandemic is a reflection of the positive customer-focused culture in the bank as over 100,000 of our branch colleagues work face-to-face with customer daily to provide an essential service to people right across the country and with no bank location closing. We also introduced priority banking hours for elderly and vulnerable customers and kitted out all our branches with social distancing and hygiene measures. COVID-19 has accelerated the move towards digital channels for both our customers and our colleagues. Personal service will remain at the heart of everything we do. However, as both customer and colleague experience have changed so profoundly, digital will play an ever-increasing role in our service offering and our future ways of working. 72% of customers are now choosing to bank using online channels, and we've seen a 43% increase in mobile app log-ins versus last year. The teams across technology were focused heavily on providing a quick response to both customers and colleagues building a COVID-19 portal on our website and enabling over 1,200 of our colleagues to work from home within a very short period of time. We introduced Zoom and Webex functionality as well as Skype for Business with instant messaging and thus enhancing communication from remote sites. And communication was, indeed, a main focus of the bank because we kept colleagues informed as the weeks progressed, and the bank issued more than 150 internal communications, which was welcomed by all during these unusual times. The coronavirus pandemic has accelerated many trends, and we are already seeing that -- and we were -- that we were already seeing, and we will be looking over the coming years at how both the workforce and the workplace may change in the future. The immediate actions taken by the bank to support customers during the pandemic has been recognized by our customers, and we're pleased to say that the bank's relationship Net Promoter Score or NPS score, and that's the degree to which our existing customers recommend us to potential customers, has increased to a score of 14 -- plus 14, and that's a clear first in the market as of the end of June. If we now turn to Slide 7. When I was appointed Chief Executive some weeks ago, I spoke of my pride in the community roots of this bank, roots that stretch back over 200 years to the Building Society and Trustee Savings Bank movements of long ago. I have huge ambition for Permanent TSB. And despite these unprecedented times, I do believe that we have all the ingredients to become a clear #3 in the market. Further building trust with customers will be at the heart of our approach. And in my first 6 weeks as CEO, I've set out a new purpose for the organization, which is centered on building trust with our customers and connecting with the bank's community heritage. Our purpose is to work hard every day to build trust with customers and to ensure that we live up to our promise of being a community that serves the community. We will do this by building a sustainable organization that is transparent and fair with customers. Our ambition is to be Ireland's best personal and small business bank. That doesn't necessarily mean biggest, but it does mean being the best of what we do for both our personal and business customers. And to achieve this ambition, we will be focused on a number of key priorities, including increasing loyalty with our customers, enhancing our digital capability, embedding an open, inclusive and risk-aware culture, simplifying our business. And by focusing on doing the right things, I have no doubt that we can build a successful and profitable bank that we can all be proud of. To achieve these priorities, we need to focus on building trust and loyalty with our customers and to work on transforming some key elements of the bank to build a sustainable future for the bank. If we now turn to Slide 8. Since my appointment, I've been focused on putting our purpose into action for our customers, and clear examples of this are major changes to our mortgage interest rates announced last week and our recent 3-year partnership with Ó Cualann Housing. The positive customer focus changes to our mortgage interest rates goes a long way to addressing the discrepancy, which traditionally exists between our pricing for new and existing mortgage customers. We will continue to evolve our mortgage pricing strategy in this direction as we move forward, and that's in line with our ambition to build trust with customers and to reposition the bank as a customer- and community-focused bank. We are also supporting valuable societal projects in communities such as our recent partnership with Ó Cualann affordable housing. The Ó Cualann Cohousing Alliance is an approved housing body who develop fully integrated, cooperative and affordable schemes in communities across the country. As part of our partnership, the bank will donate EUR 350,000 in funding, which Ó Cualann will use to fund the resources required to accelerate their development plans, including more than 1,800 affordable housing family homes across the country. And as I previously mentioned, COVID-19 has accelerated the move towards digital channels for both our customers and our colleagues, evolving the way we work and the way we bank. Personal service will remain at the heart of everything we do. However, as both customer and colleague experiences have changed so profoundly, digital is playing an ever-increasing role in our service offering and our future ways of working. In the first half of 2020, we had 47 million successful log-ins online and with customers accessing their accounts via desktop or using their mobile device, and this is an increase of 30% year-on-year. The bank has now more than 650,000 active online customers, and this is an increase of 8% year-on-year. And most importantly, 94% of term loan lending applications have now been completed online. As previously referenced, despite Irish sentiment being at its lowest level since recessionary times, the bank has made significant gains in relationship NPS, with an increase to a score of 14 at the end of June, and this compares to a score of plus 3 at the end of 2019. And the main drivers here have been around customer care and how relevant the bank is for what the customer needs. And our purpose is centered on building trust with customers. And we've worked hard in this regard and are pleased to see our trust score move from 50 at the end of 2019 to 55 at the end of June 2020. And this is an increase of 10% in the first half of this year, placing the bank joined first in the market. And trust here refers to the proportion of main bank customers who would endorse the bank as being trustworthy, the source of this comes from the RED C's research poll, which was commissioned by the bank in June of this year. So customer focus is a key priority of the bank, and our aim is to enhance customer journeys, both on- and off-line to leverage -- now these will be leveraged by digital capabilities to improve our service offering and to reposition our brand to ensure customers are enable -- can enable or enable to bank at any time and place of their choosing with a product and service that they need. And we expect success in the medium term, with further significance in the customer satisfaction; trust and loyalty by being the clear #3 mortgage provider in Ireland; being the best bank for small businesses in Ireland; having a simple, digitally enabled customer journey; providing products and services and process that are easy to use and simple to access; a repositioned brand where we are known for meeting changing customer needs as their expectations evolve; and in essence, being a customer-focused bank. And we're making good progress in building a valuable franchise whilst respecting that we, like others, have a way to go before we build the trust and respect needed for a fully functioning banking market. We turn now to Slide 9. We are making good progress on our multiyear digital transformation program, building digital capability for our customers that will enable them to bank at a time and place that they're choosing. Together with enhancing our IT infrastructure, we are simplifying our processes all the time as a means to driving out sustainable cost efficiencies, for example, with the introduction of robotic process automation. Later this year, we will be bringing to market an end-to-end current account, and this is a new digital onboarding journey that will allow customers to open a current account from the safety of their home in approximately 6 minutes. In addition to enhancing personal customer journeys online, the bank is also building digital services for our business customers. And this is a priority focus for us for the remainder of 2020 and beyond. We now can confirm mortgage applications within 72 hours, and we will extend approval in principle to 12 months in the near term. We will be following our end-to-end current account delivery with the introduction of a digital mortgage journey and the rollout of a mobile payment capability later this year as well. The SME market is the key focus of the bank, and I'm pleased to announce that we will be working with the SBCI and participating in the government-backed Future Growth Loan Scheme. This will be live for customer applications from October onwards, and we obviously welcome those applications. The bank has been on a journey to improve its culture for the last number of years, and this has included a bank-wide organizational culture program, and positive indicators of cultural change are evident with 98% of our colleagues believing that the bank continued to support the well-being of our customers through COVID. And in addition, the employee Net Promoter Score of plus 13 was very positive in the first half of 2020. We're also actively involved in improving the culture across the banking industry as an active member of the Irish Banking Culture Board. We are absolutely focused on rebuilding trust and improving our culture for the better of our customers and all of our stakeholders. And our ambition in the medium term is to deliver a strengthened culture that is diverse, inclusive and risk-aware, a positive impact on the communities in which we operate, a streamlined organization with effective organizational design, delivering capability and efficiency with a clear reduction in both product and process complexity. We want to grow quality earnings across diversified income streams with the 3 main streams being mortgages, consumer finance and SME loans and provide our customers with the choice they require through a direct banking proposition, which will enhance the customers' experience. I turn now to Slide 10. As previously mentioned, the environment in which the bank operates has changed materially and is more challenging. However, the trend built up in the bank's balance sheet and business model has ensured that we are able to support our customers and the Irish economy. Our ambition in the medium term is to grow our business through diversified income streams, reporting net loan book growth and increasing noninterest income from a loyal customer base. Balance sheet management with lower cost of funding acquisition and servicing, together with new propositions for small businesses targeting underserved customer segments will be a key focus for us going forward. We will also provide our customers with competitive commercial pricing that is within the bank's risk appetite and will ensure asset quality is of a good standard. And we will drive efficiencies, transforming the bank's cost base and reporting absolute cost reduction year-on-year. Efficiency will be a critical success factor. Our goal is for improved returns with a robust capital position. I'll now bring you through the financial summary. If we just turn to Slide 12. The key message I want to convey today is despite a good business and financial performance in quarter 1, the effects of the COVID-19 pandemic and quarter 2 performance had a material impact on the bank's profitability. We are reporting an underlying profit before impairment and exceptional items of EUR 23 million, and the total income has -- top line was reduced by 6%. We're looking at net interest income -- we will look -- apologies, we look at net interest income in more detail on the next slide. Fee and commission income of EUR 16 million is 9% -- represents 9% of total income and at a 6% or EUR 1 million below the prior year. And this is due to reduced transactional banking activity as a direct result of the impact of COVID-19 in the economy, together with the additional rewards the bank has paid to customers during quarter 2. And this was supporting them through what has been a difficult time for everyone. Net other income is showing a loss of EUR 2 million, and this is driven by a prudent revaluation of the stock of properties in possession that we have available for sale. And it compares to income of EUR 12 million in the prior year, and this was actually due to primarily gains on the disposal of properties in possession, which we affected during 2019. Operating expenses have reduced by 2% or EUR 3 million as efficiency savings offset investment and inflationary pressures. This reduction in cost is evidence that the bank is maintaining a steady cost discipline. The most significant impact of COVID-19 is seen in the net impairment charge, a H1 charge of EUR 75 million reflects a significant deterioration in the economic outlook during the second quarter. Under IFRS 9, the bank is required to look forward and estimate future expected credit losses based on a range of potential outcomes using multiple economic scenarios. And as a result, the overall balance sheet impairment provision has increased as we build additional balance sheet resilience. Given the economic outlook, the bank assumes a prudent approach to provisioning. The full year loan loss experience will be directly linked to the emerging macroeconomic indicators and the impact of payment breaks issued in 2020, exceptional items of EUR 5 million for the first half primarily related to costs incurred in the bank's immediate response to COVID-19 and ensuring the continuity of service in a safe and secure way as the country embraced the government-imposed lockdowns. We'll turn now to the net interest income and net interest margin slide, which is Slide 13. Net interest income reduced by 6% or EUR 10 million, and this was due to lower income on the maturity of higher-yielding treasury assets, which had an impact of EUR 11 million and lower income from NPLs, and this had an impact of EUR 5 million. And these were offset by increased performing loan income and lower funding costs. Net lending income, and this is the -- which is performing loan book income less deposit costs, grew by 5% to EUR 177 million in the first half of the year. The net interest margin was 175 basis points, which is 5 basis points lower than that reported in 2019. The total asset yield was 1.95%, and this is a 10 basis points reduction when compared to the same period of 2019. And this reduction in asset yield was due to the continued maturity of high-yielding legacy treasury assets, the cost of excess liquidity, with price reductions -- but also with price reductions on the bank's fixed rate mortgage product offer. We continue to actively manage the cost of funds with the first half cost of 22 basis points, and this is a 5 basis points lower cost when compared to the same period in 2019. And this reduction was achieved primarily through continued active management of deposit costs, which offset the impact of an MTN issuance in the second half of 2019. Overall, we expect the NIM trajectory to be in the low 170 basis points area for the -- for 2020. If we now turn to the loan book slide on Slide 14. Total new lending reduced by 16% year-on-year. Mortgage lending, which represents almost 89% of total new lending reduced by 14% when compared to the same period of 2019 and indeed, the mortgage market itself reduced by 16%. We are pleased to report that the market share of new mortgage drawdowns increased from 14.7% for the first 6 months of 2019 to 15.2% for the first 6 months of 2020. And while our share of application has been slightly lower through the early parts of this year, it has improved to 14.4% for the month of July -- or June. As mentioned previously, we've taken action by introducing a reduced new mortgage pricing for new and existing customers. And just to remind ourselves of that, over 70,000 customers will benefit from the reductions to the standard variable rate, which is reduced by 0.55% and the managed -- and managed variable rates, which are reducing by up to 30 basis points and they're both from early September. We've also had a reduction in fixed rates for all existing customers, and we're aligning the front and back book rates. And we've also had a reduction in the 3- and 5-year fixed rate for new customers for mortgages over EUR 250,000, and these rates now are as low as 2.5%. The mortgage market is expected to reduce to around EUR 7 billion in 2020. And that provides -- that presents a challenging backdrop for our business, and it is very important for us to remain competitive for our customers. We believe that efficient distribution and disciplined pricing, coupled with a strong intermediary position, that 3 of those together positions us well for the future, and we can continue to be a competitive force in the mortgage market. Personal term lending was EUR 46 million, and this is a 35% reduction year-on-year, with April and May 2020 seeing little demand for consumer loans. The majority of our personal loan applications now originate through direct channels, and we have a fully automated -- we fully automated the personal term lending journey such as that real-time decisions, document upload and payout can all be fulfilled digitally, thereby eliminating the need for manual intervention. SME lending was EUR 25 million for the first 6 months. And going forward, we are confident we can build a real market presence in this business -- in the business segments we choose. If we now turn to Slide 15. Our total home loan performing book was EUR 11.6 billion at the end of June, and this was a slight decrease versus the end of 2019. This movement is reflective of the quarter 2 COVID impact and the continued competition within the mortgage market. The performing mortgage book has an average yield of 2.59%, and that's more or less flat year-on-year. And you can see from the top right-hand side of the slide, that the first half 2020 average yield on new mortgage loans were 2.86%, and this is a reduction of 12 basis points versus 2019. This reduction is in line with the market trends and is in line with our aim to remain competitive while maintaining price discipline. The bank wrote over EUR 0.5 billion of new mortgage business in the first half of the year, and 90% of this was on fixed rates with an average yield of 2.88%. The home loan book naturally pays at around 5% per annum and the first half of 2020 outflows, and this is both repayments and redemptions was EUR 600 million, and 42% of this was from tracker mortgages, and they had an average yield of 1.29%. Tracker mortgages now account for 44% of the home loan performing book, and this is down from 54% at the end of 2017. Fixed rate mortgages account for 34% of the home loan performing book and this is an increase of 25 percentage points in the last 3 years. Variable rate mortgages, which consists of both standard and managed variable rate products make up the balance of 23% of the performing home loan book. This has decreased by 14 percentage points over the last 3 years. Only 3% of the performing home loan mortgage book is on an interest-only product. We now turn to Slide 16. In terms of our buy-to-let mortgage book, this has reduced by 4% from EUR 3.3 billion as of the end of December '19 to EUR 3.1 billion at the end of June. The buy-to-let mortgage book is primarily a legacy tracker mortgage book made up of 90% tracker, 9% variable and 1% fixed rate. And you'll see from the top right-hand corner of the slide that the average yield on this buy-to-let portfolio is 1.42%, and it was flat versus the same period of June 2019. 84% of the tracker buy-to-let book has an average yield of just 109 basis points. As previously outlined, the majority of the bank's interest-only mortgages are within the buy-to-let book. And as of June 2020, 60% of the buy-to-let book are on interest only. Now let's turn to operating expenses. Total operating expenses have reduced by 2% year-on-year. Operating expenses before depreciation, amortization and regulatory charges, and we refer to these as our addressable costs, were EUR 123 million in the first half of 2020, and that's a decrease of EUR 5 million or 4% year-on-year. The primary movers of operating costs were wage inflation of EUR 1 million, investment in business and technology programs of another EUR 1 million, and these were offset by lower-cost paid contractors together with other savings initiatives, including lower legal and professional fees. Staff costs were EUR 77 million, and they've remained unchanged year-on-year -- and with a 2% increase in staff and wage inflation being offset by lower numbers of daily rate contractors and associated costs. Non-staff costs reduced by EUR 6 million or 10% year-on-year with ongoing savings initiatives across discretionary costs, allowing for investment -- reinvestment spend. The 3-year investment program in technology, which known internally as Project Forte, together with some other investment initiatives remain on track with continued cost reduction efficiency gains being realized. As a result of this, you will see the underlying depreciation and amortization cost has increased by 12%, and you can expect this line to continue to increase in the medium term as progress is made in completing our investment programs. We will continue our rigorous focus on cost management, and we expect underlying addressable costs to continue to reduce over the medium term as the cost of investment is funded out from sustainable operational efficiencies within the cost base -- bank's cost base. On a like-for-like basis, the underlying cost-to-income ratio, and this is when you exclude regulatory costs, was 78%, which is 9 percentage points higher than the previous year, but this is actually due to lower total income. We now turn to Slide 18. We'll cover the mortgage payment breaks in detail. So for March 2020, the bank has approved around 10,500 mortgage payment breaks. The average mortgage size on the payment break was 152,000. The average loan to value on the payment break population is around 70%. The average yield on the payment breaks is 2.8%. And around 50% of payment breaks are tracker mortgages. As of the end of July 2020, the bank has 9,400 expired payment breaks. 40% or 3,700 have moved on to payment break 2, 14% or 1,300 are in discussion with the bank with regard to the option they will pursue with regard to moving forward, 46% or 4,300 did not require a payment break and have now returned to normal repayment terms. And the bank has 4,000 active mortgage payment breaks as at the end of July, and the average yield of these is slightly lower, 2.7%. Turning now to Slide 19, on NPLs. Nonperforming loans at the end of June were EUR 1.1 billion, and this is broadly in line with the 2019 year-end balance. When compared to the prior year, we see that the balance is reduced by 35%, from EUR 1.7 billion to EUR 1.1 billion, bringing the NPL ratio from 10% to 6.8% over the last 12 months. And this reduction was primarily as a result of the second half 2019 transaction called Glas II, where we sold EUR 500 million of nonperforming loans with that transaction being capital accretive. Organic and technical cures during the period were around EUR 100 million. Looking forward, we are committed to meeting the mid-single-digit NPL ratio. And through this, we estimate that 44% of current NPLs are on a path to cure to organic and technical cure means, and we expect that to happen over the next 12 to 18 months. For the remaining 66% of NPLs, we will consider all options in connection with reducing this balance, and our main aim as we reduce our NPL position is to protect capital. As you'll see from the table on the bottom left-hand side of the slide, our asset quality and level of provision cover remains at an appropriate level, with an expected credit loss of EUR 350 million and EUR 1.1 billion of nonperforming assets. From that, we have an overall 31.9% coverage ratio, which we believe is appropriate. The guidance from the regulator under the SREP process and coverage levels on secured NPLs over 7 years still remains unchanged. And for the end of 2020, the requirement is to have 40% coverage on these 7-year -- on these NPLs over 7 years, and that increase -- that coverage ratio increases to 100% on a linear basis to 2026. We move now to Slide 20 to cover our funding position. Our funding positions have remained strong in spite of the COVID-19 pandemic. Our strategy is to continue to fund our balance sheet by customer deposits while keeping other funding lines open and accessible, and that's exactly where we are today. And as you can see from the table on the top right-hand side of the slide, at the end of June, the bank's liquidity and funding ratios have continued to move positively since the year-end. We are now 95% funded by customer deposits, with retail balances remaining stable year-on-year. The bank has revised -- sorry, the Central Bank has revised the bank's current MREL requirement in order to reflect the reduction in the countercyclical buffer, which reduced from 1% to 0% and has extended the transitional period to comply with the requirement by 6 months to June 2021. And we expect confirmation of our revised target with a new MREL decision in the first half of 2021, and that's using the Bank Resolution and Recovery Directive II (sic) [ Bank Recovery and Resolution Directive II ] framework. I should also note here that the bank's excess liquidity held with the Central Bank as of the 30th June was around EUR 300 million, and it was attracting a negative 50 basis points cost. At the end of July, that has now reduced to around EUR 200 million, and we will actively manage our liquidity as we move forward. If we just move now forward to Slide 21 and cover capital. Our regulatory capital ratios remain comfortably above the regulatory minimum requirements. The CET1 ratio on a fully loaded basis has decreased by 1.1% to 13.9% at the end of June 2020. And this compares to a pro forma level of 15% at the end of December '19. On a transitional basis, we also decreased our core equity Tier 1 ratio by 1.6% to 16.5% when compared to the pro forma level of 18.1% at the end of December '19. The reduction in capital ratio is primarily a result of the net impairment charge of EUR 75 million in a P&L, together with a prudent approach to reflect higher risk rates on the payment break population. Risk rates have increased from EUR 9.7 billion as of the end of last year to EUR 10 billion at the end of June, capturing the risk which has not yet materialized with regard to the payment break population. As mentioned in an earlier slide, the Central Bank in response to the COVID-19 pandemic have introduced measures to support the sustainable provision of credit in the economy and specifically, the removal of the countercyclical buffer of 1%, but also the early introduction of CRD V -- of the CRD V regulatory amendment, which lowers the CET1 on a transitional basis by 1.51%. Therefore, the CET1 minimum SREP requirement is now at the CET of 8.94% and having reduced from 11.45% since the end of '19. And the total capital ratio requirement has reduced from 13.9% -- sorry, it was reduced to 13.95%, and that's from a level of 14.95%, and both of these on a transitional basis. The management -- our management target for fully loaded core equity Tier 1 still remains at a 13% level. The bank maintains a robust leverage ratio with the Tier 1 capital fully loaded ratio at over 7% and the Tier 1 transitional level at over 8%. So that's just quite safe at those levels. So the outlook, let's talk about 2020. The first half of 2020 has been challenging, not only for the bank but also for the Irish economy and for society as a whole. The outlook remains uncertain. Recovery is dictated by the containment of the COVID-19 virus and the government-led phases of reopening the economy. As previously indicated, lower business activity in quarter 2 has impacted gross lending volumes, however, July has shown more positive signs of recovery. And therefore, we anticipate 2020 new lending volume could be 40% lower than the volume in 2019, and that was EUR 1.7 billion. Net interest income will be lower as the remaining higher-yielding treasury assets mature. Our net interest margin is expected to decline to the low 170 basis points level. And this reflects the low interest rate environment and slight growth in liquid assets. We will continue to reduce noninterest income. We're currently not -- it currently represents 9% of total income. And we will look to grow this in terms of being 10% -- greater than 10% of total income in the medium term. Achieving cost reductions in the current economic environment will prove challenging. However, the bank retains its outlook that operating costs will remain stable for 2020, and we're committed to delivering cost savings in the medium term. So we noted that 90% -- 97% of total performing assets are secured by residential mortgages. And as such, the full year loan loss experience will be directly linked to the emerging macroeconomic indicators, the impact of the payment breaks issued in 2020 and house price inflation. The reopening of the economy, recent declines in unemployment data and the resilience of the housing market and the government stimulus program now in place shows more encouraging indicators than what have been previously anticipated. The bank will keep the expected credit loss on the constant review throughout the second half of the year, and our capital remains strong, having access to a range of scenarios. And having access to a range of scenarios, the CET1 ratio will remain well above the bank's minimum regulatory requirements. So just turning to Slide 23, which is the final slide. In summary, we continue to maintain strong funding and liquidity positions, and our capital ratios are well above the regulatory minimum requirements. We'll remain competitive in the mortgage market with our ambition to be the clear #3 in this market, together with targeted growth in both SME and consumer lending. We were implementing a bank-wide initiatives to reduce complexity and improve efficiency. As a result, we are making cost savings to pay for our digital transformation program and we are focused on reducing costs over the medium term. And lastly, we believe we're well positioned for the challenges that have faced us in 2020 and will continue to face us through the remainder of the year. And we will take opportunities as they come in which to grow our balance sheet and our profitability. So thank you very much for your time, and I'll be happy to take questions now over the phone. So thank you very much.

[Operator Instructions] We do have a question coming through from the line of Eamonn Hughes calling from Goodbody.

Eamonn Hughes, Goodbody. Eamonn, can I just pick you up maybe a little bit around the revenue guidance in terms of new lending? So if you think about the -- it's kind of less worse in one sense, you've guided at the time of the IMS down new lending 40% to 50%. You're now saying 40%, so at the better end of that. You were down 16% in H1. And I suppose just that would imply down roughly 60% to 65% in H2. I'm conscious as well, your commentary around the market being a little bit better in July. And even the kind of the market guidance that you gave there, which might be an amalgam of a few figures, but it's kind of guiding down 25% to 30%. So just kind of your thoughts around the momentum. It feels like it might be even a little bit better than you're guiding in relation to that minus 40%. So that's just the first thing. And then just -- so just be there on my own hands in relation to the NIM guidance. You just did 175. I know kind of there's an uptick in terms of deposit number. But I think the number, if my memory serves me right, was 180 at the half year. So it would feel like you're kind of only a marginal decline in terms of H2 NIM. So maybe just to be clear on that. And then maybe finally, if I'm allowed, kind of one last point. Just in relation to the cost side, slightly up. I mean I'm kind of splitting here is here, a couple of million year-on-year, you're guiding kind of flat for the full year. So would it be hopeful that there's maybe a little bit more progress around some of the costs? Maybe there's some costs in H1 around opening the branches and creating all the social distancing measures that some of that clearly probably drops out in H2, that, that might help terms of the cost momentum maybe a little bit in H2.

Thanks, Eamonn. Thanks for those questions. So what we've seen, particularly since early June, that applications have recovered. They're not to the level that we would have expected, but they are close. I mean they're 80% to 90% what we would expect. So we are seeing momentum in the housing market. I think also, while it's too early to say, we would sense some momentum outside the urban locations, particularly as people get used to working from home and see the ability of maybe a different work style in that regard. And obviously, with our branches spread across the country, we are very well positioned to take advantage of the -- that more regional spread of potential mortgage growth. But the key message here is that we've seen momentum as the lockdown requirements have released. We obviously have to be very careful in case there's further lockdown measures as the pandemic maybe rears its ugly head again, but we are relatively positive. And I would say that maybe it may not be as bad as 40% lower, we could beat that. We are being slightly conservative in that regard. Around 170 basis points. We have -- naturally, we have cut some back book pricing on our SVR and our MVR. That equates to around 1 to 2 basis points annualized. Those savings will arrive for customers from early September. So we'll look forward to those savings in our impact in our NIM guidance this year. We also have -- we have some excess liquidity. As I mentioned, we have reduced it to around EUR 200 million. We have to be conscious that people are saving. My own desire is to beat that NIM number. So we will be doing our best to try and do it. And also the MREL will help us by way of, I don't know about next year, now by way of -- we expect that the level of MREL that we require will be lower than we would indicate in the past, but we've yet to see that. So the NIM number is all to play for, and we're working hard to maintain it. By way of cost, the geography in our presentation there has call the cost in exceptional items. If you look at our financials, and we presented that to show the underlying cost reduction, we have something in the region of EUR 4 million associated with the COVID costs in the first half. But our reduction costs are reasonably positive. While our headcount has increased, our level of daily rate contractors have decreased significantly. So we're really working closely with regard to how we manage those resources, how we manage project resources and how we're making sure that we get the proper return from the spend we're making. In previous years, I would have talked about saving EUR 20 million last year in costs and in the previous year that we reinvested into the business. And as we progress our digital programs, our level of reinvestment will reduce because we're making progress there. I mentioned the online current account will go live in the autumn, which will allow customers to open an account within 6 minutes. 94% of term loan volume is now going direct. We will have a direct overdraft offering in the autumn as well. And we have a significant number of our deposit customers who are also transacting online. So that in itself is bringing its own cost savings, and we will be looking to reap those savings over the coming years. So I would be hopeful, based on our experience, that we can demonstrate a continued reduction there.

Okay. Can I just maybe kind of add just one follow-up, just -- and I know, look, the world has kind of changed in the last 4 months or 5 months or whatever. But there was some kind of a niche targets that were set out there like in early March, late February. And the loan book is clearly shrinking, and that's going to change the whole kind of revenue cost trade-off dynamic and all that. But any sort of sense in terms of -- and you're only on the job a few weeks as well. But could we be thinking maybe when we see again in February in terms of FY '20, is that [ will have thought or workload ] in terms of all the number crunching as well know exactly where we've hopefully ended up in terms of COVID, but if things flow through, that we'll have a better sense in terms of medium-term targets from yourselves? Or I presume it's still right to work in progress?

Eamonn, so I would tend to -- I would intend to provide that clarity at the next set of results. Naturally, the COVID impact is still uncertain. And is the ripple effects coming from that either globally or in Ireland? We have to be conscious of that. But it would be my intention at the next set of results to provide that direction over the coming years. And that's something we'll be looking by closely on through the autumn as we lay out our plans for the next 3 years. So the answer is yes.

The next question comes in from the line of [ Ibrahim Said ] calling from DB.

I just had a couple of questions. First, on your capital. Does the capital position reflect sort of the regulatory relief measures provided in Q1, Q2, including for software intangibles and so forth? And then secondly, should I go through all my questions? Or should we go one by one?

Well, maybe it's easier for me to answer one by one.

Yes. Okay.

So it reflects about a 25 basis points positive impact with regard to those measures.

25 bps. Okay.

Yes.

And that's already included in the 13.9% fully loaded...

Yes, of ratio.

All right. Fine. And then on the 40 basis point increase in your NPL ratio, could you explain that? Is that due to recent impairments? Or I didn't quite understand the standard execution reference that was made.

Yes. So it is a net increase by about EUR 50 million by way of the -- our NPL level it was. We were -- we're now at EUR 1.1 billion. We were EUR 50 million lower than that at the end of last year. We've had some organic cures in that population, which is around EUR 100 million. And we've had some default flow on -- through the first half of the year. So that makes up the difference there. The key thing here is, we believe, around 44% of that EUR 1.1 billion will cure either by way of organic cure or technical cure over the coming 18 -- 12 to 18 months. Indeed, we were hoping to be slightly further ahead on technical cures in the first half of the year. But due to the COVID pandemic, our resources in this area, we're looking elsewhere and actually with regard to payment breaks and ensuring we looked after the customers. So that's something we'll back out in the second half of the year. And I would expect to see a reduction as we move into the second half of the year as we move through those organic and technical cures. So that's the answer there.

Okay. And do you -- obviously, you had some very successful NPL disposal transactions over the last few years. Are there any in the pipe in sort of the latter part of this year? And do you find that sort of revenue pressures might push that further out in terms of your ambition to get to low mid-digit?

Well, the answer is there's nothing in the pipeline at all. Indeed, I think it's fair to say that of any Irish bank, we've made significant progress in this area over recent years. And indeed, when we look at this crisis, if we had not have made that promise, I think our discussion today would be slightly different. So that has been quite a positive outturn for us. We are relatively confident with regard to how we think about NPLs. We have the lowest nominal level of NPLs in the Irish market at EUR 1.1 billion. I've already communicated that a significant portion, we believe, will cure and the remaining portion can be dealt with through in a professional and proper manner. The market itself, I'd suggest it's slightly close at the moment, given the uncertainty with COVID and the uncertainty with property prices. So we are not active in this area. We naturally keep all options open. And as I mentioned, I believe we're in a relatively good position at this moment.

Okay. And just a final one. On the MREL, I appreciate you raising guidance on your updated requirements. If I recall correctly, it was EUR 1 billion previously, and you had issued, I think, around EUR 300 million or EUR 400 million last year. Is there any intention to issue a further holdco instrument this year? Or do you think it gets pushed to next year or further out?

So our MREL requirement was EUR 1 billion, then we actually reported it had reduced to EUR 800 million. And indeed, we expect the -- of which EUR 300 million was issued last year, and we expect it to reduce even further as we get the new guidance next year, we will weigh that guidance. But it could be we're required to issue about another EUR 300 million of MREL. But that is yet to be confirmed, but it just shows you that our demand is not enormous in that area. And actually, that does assist our P&L as we move forward. With regard to other instruments, we actively manage our capital. We do have an AT1 instrument in the market, which is due to mature in -- sorry, due to call or we have an option to call, I should say, in April of next year. And that's something we will consider in due course, but it's not something for today, but we consider all the instruments that we can put into the market. And we will suggest you to wait for the next results, and we'll update you then.

Okay. Fine. On the AT1 specifically because it's issued out the opco and it's not fully included. Is there any possibility like one of your peers to potentially buy back partially instrument? Or is that something you've sort of discussed with the regulator?

No. We're not at that stage yet. It's slightly early in our discussions. But the clue is probably in the earlier part of your question, which is the current structure of that AT1 is not at a level that is efficient. And that's something we have to consider as we look at the wider market conditions and where we are from a capital perspective. So these are things we will deal with through the autumn and we'll be back, talk to the market early next year, but how we will progress them.

The next question comes in from the line of Diarmaid Sheridan calling from Davy.

A couple of questions, if I may. Firstly, around the impairment line and maybe your expectations for the rest of the year. I mean I assume given the significant charge in the first half, we should assume that it should be lower given that you've now put significant changes in the macroeconomic assumptions into your model. The second question then around risk-weighted assets and how we should think about those stage 2 loans, particularly those where the payment break, where they've migrated. As they move back on to repayment, should they move back to stage 1? Is there a time frame that they would move back? And what type of impact might that have on your risk-weighted assets in the second half of the year, perhaps? And then maybe finally, just a comment around the SME market and maybe just tease out a little bit your ambition for that market going forward, particularly now that as you've announced your guarantee, your acceptance into the guarantee scheme at the SBCI, which is obviously very helpful.

So the EUR 75 million charge is based on our models, based on IFRS 9 models, which reflect the updated macroeconomic environment. So as those models work, if the macroeconomic environment does not deteriorate, we would expect that the lion's share of provisioning has been reflected at this moment. Naturally, we have to be cognizant of 2 key things in that. With 97% of our balance sheet secured by property, we obviously have to be aware of where property prices are going. In our models, we're showing a 9% reduction in house price inflation. So that's something we'll have to keep an eye on closely. The second thing relates to the payment breaks. So this is how the actual payment breaks will end with regard to payment break 2, will the customers move back into -- the fact we remain performing and indeed, the situation associated with the request for a payment break will be clear in that regard, they would move into stage 1. And then we would have to consider the level of provision that would be required for customers who are in default, NPL classified coming out of the payment break population. But I'll just go back to the point I made in the presentation, which is these -- the average LTV on this customer base is 70%. So it is quite a healthy LTV on average with regard to how those payment breaks will end up. And we will be working closely with customers to try and reach solutions that make sense for them and being very conscious of vulnerable customers within that group. With regard to RWAs, we've taken a very prudent approach here to RWAs in that we are reflecting in the region of EUR 500 million of additional RWAs on the stock. That equates to about EUR 65 million in provision if you think of it from a capital perspective, so this relates to while the EUR 75 million covers expected loss, we believe the RWA increase in -- covers unexpected loss and I'm giving you to the level of provision amount there as an equation to equate that. But as those customers remain performing by way of the payment break population, you would see that RWA level reduce and indeed, our capital position to improve on that basis. So as I say, it's about -- this is really safe. It's very conservative. It's belt and braces by way of our approach from a capital perspective. And as I believe, the -- we'll wait and see how the payment breaks work out, but we believe we reflected the downside scenario in our capital numbers at this moment. With regard to SME, we actually have through our 76 branches, we actually have quite strong relationships with customers who come to us for mortgage and personal business, but they actually do their business banking elsewhere. And we believe there's a significant opportunity within the market to have a competitor that's credible, that's in the locality, that's in the community and can provide competition to the other players in that area. Our ambitions here really, we've undertaken EUR 25 million in the first 6 months. We have a relatively strong pipeline as we move into the second 6 months, and this excludes the SBCI engagement. And this is an area that we'd like to build over the coming years. We would like to get in excess of 5% of new business -- new SME origination going forward. And that's something that we are -- we want to build for the next number of years. It's something I will give more guidance on and clarity at the next set of results with regards to our approach. But we're building a team. We believe we can be competitive, and we believe we can be relevant to customers and provide them with another option by way of a bank that they can go to in their local community to do business with. So I hope that answers your 3 questions, Diarmaid.

That's great.

The next question comes in from the line of Jakub Lichwa calling from RBC.

One question I had is around coverage, stage 3, 32%. So you're saying it remains appropriate. Just to clarify to me, does that already reflect the 40% guidance from end 2020 and it's just a result of some younger vintages in there, and that's why they are not provisioned as high as 40%? Or I mean did you -- given that you made a comment that NPL market is a bit close, I know it can be temporary, but I'm thinking whether you'll have to be booking the provisions as per the schedules if you cannot actually work out -- settled in.

So thank you, Jakub, for your questions. The -- obviously, the 31.9% coverage is across whole book. Not all of the book is over 7 years. So the coverage on the exposures that are over 7 years is at a much higher level and much closer to 40%. So we believe the distance to get to 40% is not a challenge for us with regard to 2020. Naturally, as you move into the future years by way of the straight-line coverage on all those NPLs, it becomes less attractive from a capital perspective. But for 2020, we're in good shape. And as I mentioned, and as we've evidenced, in recent years, we've been very efficient around NPL deleveraging and we have proficiency in the bank to have managed that. As and when that bank market comes back, we will look at all options with regard to our NPLs. So I think I believe we're quite well provisioned and covered in that regard. It's also worth noting that a significant portion of our NPLs are not past days due. So they tend to have a technical stamp by way of NPL exposure rather than being deep in arrears, and you can see that in our financial statements by way of the breakdown. So the -- just the last point here is that in our NPL deleveraging that we've done, you will see that in those transactions, we have sold at net book value or slightly above. And again, that gives us additional confidence that we are well provisioned and well covered with regard to those assets. So I hope that answers your question, Jakub.

Yes.

The next question comes in from the line of Guy Stebbings calling from Exane BNP.

Just had a couple around risk. Firstly, coming back to risk-weighted assets and the treatment for payment holidays. Just trying to understand sort of what assumptions are being baked in here? Is it kind of a certain proportion moved to permanent arrears? And also how much is yourselves being particularly prudent in your treatment here? And how much was this sort of encouraged by the regulator? And then the second question was just on coverage of stage 2 which fell over the half year, which on the base it looks odd. I'm sure I probably just missed it in the disclosure somewhere. But can I just check, is that just mix working through when perhaps more home loans entering stage 2 and lower age LTVs? Does that sort of explain the move in the first half?

Okay. So just to take your second question. First, we have moved about EUR 700 million of exposure in relation to payment breaks into stage 2. So again, a conservative approach. And that highlights you why it appears that the coverage level has reduced. It's purely just related to that point. With regard to the -- what we've done on our order base, it is a prudent approach. And we are adopting a very prudent approach with regard to capital. We believe our capital is quite strong, and we want to highlight to the market that covering more severe eventualities, we still have a strong capital position as an organization. And that has obviously been supported by the capital we've generated through deleveraging over recent years together with underlying profitability. By way of the what does it represent, by way of how much, by way of default, I don't have that number to give you, but I did mention that it does equate to about EUR 65 million of provisioning. If you look at the customers that are left on payment break 2, it's about 50% or between EUR 700 million and EUR 800 million of exposure that has moved on to payment break 2. And I also mentioned that about -- there's about a 70% LTV on that book. So I would suggest you taking those various price points and various pieces of information into view that we are very, very -- we are conservatively provisioned from a capital perspective. And we've taken account of not only the expected loss, but also the unexpected loss that could occur in this book, and we wait and see how that plays out. So they're very simple.

There currently are no further questions coming through. [Operator Instructions] Okay, we do have some additional questions coming through. The next question comes in from the line of Jakub Lichwa calling from RBC.

Just a follow-up. The guidance on NIM, does that actually incorporate the potential issuance of MREL debt? Or not the 170?

It doesn't because it refers to 2020, and we have achieved an extension of the MREL debt issuance out to June 2021. While we are looking at the market to see -- take opportunity of market conditions, I would see that MREL issuance has been more in the earlier part of next year rather than the later part of this year.

The next caller in queue is Eamonn Hughes calling from Goodbody.

Eamonn, one more. Just to be clear on my own mind, is the RWA pickup is in relation to payment breaks, is that -- as with the impact on capital, is that reflective of the figure at the end of June? Or is this the reduced figure at the end of July, just to be clear?

It's June, Eamonn.

It's June. So all of the things being equal, you should already be starting to see some relief from that as customers move back to payments?

Yes.

And the final question comes in from the line of Stephen Lyons calling from Davy.

Just a couple of questions from me, if I can. First, just a point of clarification. I think you're quizzed on the regulatory relief from the changes in intangible software treatment. And I think you mentioned 25 bps. Is that the benefit that is to come? And separately, just on margin, there's quite a step-down in the running yield on the treasury book during the period. Just trying to get a sense of what that might trend into next year and what might that represent by way of kind of an additional drag on the NIM.

So it's -- the first question, the 25 basis points benefit is reflected in the 13.9% level of core fully loaded common equity Tier 1, so it is reflected. So it's there. With regard to treasury yields, we've seen a significant reduction in income from treasury assets due to the maturity profile. I don't expect that reduction. We'll see some further reductions in income in the second half naturally as the year moves on. But next year, we would see that flattening it out and not having such a material impact on our net interest margin moving forward. I don't have the number for you, Stephen, at this moment, but I can come back to you separately on that question.

Okay. And maybe just one final question, just on the CET1. I mean you've seen a lowering of buffers during H1, and we've seen the P2R composition change and yet you still have the CET1 target of 13% plus. Is it feasible that as we move into next year and market conditions are favorable and you optimize your capital structure further, particularly I'm thinking about P2R, that, that 12% could move lower?

I wouldn't see it at this moment. We still maintain -- we still are -- like all banks across Europe now have the dividend restriction by way of how we think about that capital structure. There's still naturally uncertainty with regard to how the market is going to -- and how the wider economy is going to operate over the next 6 to 18 and 24 months by way of them. We can just see the impacts on aviation and other aspects of what was normal business like. So we just have to wait and see. I wouldn't be suggesting that we would be reducing at this moment until we get a better view of how things are going to play out across the board.

That does conclude today's question and answer session. So I shall turn the call back across to yourself for any closing remarks.

No. I'd just like to thank everyone for the wide range of questions and interest and for listening to us this morning. So thank you very much.

Thank you for joining today's call. You may now disconnect your handsets.