Feb 27, 2015
Executives
Norman Blackwell - Chairman of the Board Antonio Horta-Osorio - Group Chief Executive George Culmer - CFO Juan Colombas - Chief Risk Officer
Analysts
Chris Manners - Morgan Stanley Tom Rayner - Exane BNP Paribas Chintan Joshi - Nomura Arturo De Frias - Santander Rohith Chandra-Rajan - Barclays Andrew Coombs - Citi Fahed Kunwar - Redburn Partners Ian Gordon - Investec Bank Raul Sinha - JPMorgan Cazenove Sandy Chen - Cenkos Securities
Norman Blackwell
Good morning, everyone. On behalf of the Board and the executive team, I would like to welcome you to our 2014 results presentation.
Thank you for coming. Before I hand over to Antonio to go through the results in the normal way.
I would like to say just a few words to mark, what I think's, an important milestone in our recovery. When we outlined our strategy update, last October, we noted that we would be entering this next phase of our strategy from a position of strength, having delivered against the key objectives that were set out in 2011.
I think the financial performance we're reporting today confirms how successfully the Group has been reshaped, from the depths of the banking crisis, to deliver a low cost, low risk UK-focused retail and commercial bank with a strong balance sheet and restored underlying profitability. As a consequence of that transformation, I'm delighted that the Board has decided we're now able to propose the resumption of dividend payments.
We do see this as an important milestone that enables us to start rewarding our loyal shareholders including of course, the taxpayer. However, we recognize that we still have more to do.
Restoring our financial health is only the first step. As we look ahead, continuing to rebuild trust, with both our customers and the wider public, is also a business imperative.
We're, therefore, committed to continuing to invest in our customer propositions, developing simple, transparent and fair products that our customers want and which they can access through the channel of their choice. We will also continue to support the UK economic recovery through the commitments we have made in our Helping Britain Prosper plan.
Through these initiatives, we will aim to rebuild the strength of our customer and public franchise, while, at the same time, delivering sustainable growth, thereby helping us to achieve our twin aims of becoming the best bank for customers and for shareholders. With that, let me hand over to Antonio and George for the results, as usual.
Thank you.
Antonio Horta-Osorio
Good morning, everyone. Thank you for joining us.
I will start with the key strategic and financial highlights for the year, before outlining how our successes in 2014 mark the culmination of four years of strategic delivery that have transformed the business and created a solid foundation for the next phase of our strategic journey. George will then present the financial results in detail, after which, I will remind you of the strategic priorities for the next three years and the outlook for the business.
Then, we'll do some Q&A. 2014 was a year of continued delivery or the Group, with the achievement of the key objectives set out in our 2011 strategic plan resulting in a significant transformation of the business and improvement in performance for the benefit of our key stakeholders.
We have continued to increase net lending and deposits in our key customer segments across our various businesses and are continuing to support the UK economic recovery. Strategically, we're now a low-risk bank.
Since the end of 2010, we have successfully reshaped the business, focusing on the UK and reducing our international presence to only six countries and our non-core portfolio by approximately £150 billion. At the end of 2014, we had a remaining runoff portfolio of less than £17 billion.
We have a strong balance sheet and liquidity position. Pre-dividend, our core Tier 1 ratio and leverage ratio have strengthened to 13.0% and 5.0%, respectively and our ratios are amongst the strongest within the banking sector, worldwide.
Our funding position is also strong, with a significantly reduced total wholesale funding requirement of £116 billion and a loan to deposit ratio of 107%. As a consequence, our credit default swap spread has tightened significantly, with our current spread of 45 basis points amongst the lowest of the major banks worldwide which is a source of competitive advantage.
We have become a simple and efficient bank as well which enables us both to maintain superior levels of investment in the business for future growth and to improve the customer experience, while also generating healthy returns for our shareholders. In 2014, we achieved our target of reducing the Group's cost base to £9 billion, excluding TSB, with a cost to income ratio of 51% across the Group, providing us with a cost leadership position as an additional source of competitive advantage.
The combination of our low-risk business model, balance sheet strength and cost leadership has created a solid foundation for us to compete effectively and serve our customers, with the transformation of the business having been achieved, while also delivering a substantial improvement in service quality across all brands. In 2014, we delivered a 26% increase in underlying profitability to £7.8 billion.
This was driven by increased net interest income, reduced costs and a significant improvement in impairment charges. This increase in profitability, coupled with the reduction in risk-weighted assets, as we continue to improve the risk profile of the business, has driven a significant increase in the Group's return on risk-weighted assets.
We have also delivered a significantly improved statutory profit before tax of £1.8 billion, after making provisions for legacy charges including PPI which George will cover shortly. And today, as the Chairman has already indicated, we're also pleased to announce the resumption of dividend payments, with the Board recommending a payment of 0.75p per share in respect of 2014, amounting to £535 million.
I would now like to show you how our success in 2014 marked the culmination of four years of strategic delivery, built on our four pillars of reshape, strengthen, simplify and invest and how this delivery has transformed the business for the benefit of our customers and our shareholders. We have delivered a low-risk bank by reshaping and strengthening our balance sheet and funding position.
We have significantly reduced risk in our lending portfolio, through our careful portfolio management and the implementation of our clear low-risk appetite and tighter controls. Coupled with the positive impact of the more favorable economic backdrop, this has led to a significant reduction in non-performing loans which now represent less than 3% of lending balances, compared to over 10% in 2010.
At the same time, the proportion of our mortgage book with the loan to value in excess of 100% has reduced dramatically from £45 billion to less than £7 billion or 2% of the portfolio. While these trends are encouraging, we have strengthened impairment provisions, with increase in coverage levels from 46% to 56% over the same timeframe, reflecting our prudence as a low-risk bank.
Since the end of 2010, we have also successfully reshaped the Group, reducing our international presence from 30 countries to only six, with more than 95% of our activity now in the United Kingdom. And our non-core portfolio reduced by around £150 billion in a capital-accretive way.
This significant balance sheet reduction, coupled with an ongoing focus on reducing risk in our lending portfolio has, in turn, led to a 40% reduction in risk-weighted assets to less than £240 billion. We have also significantly improved our funding and liquidity position, reducing our total reliance on wholesale funding by over £180 billion, with or loan to deposit ratio strengthening to 107% from over 150% at the end of 2010.
At £116 billion, our total wholesale funding is now broadly matched by our primary liquid asset portfolio of £109 billion. Being a low-cost and efficient bank is central to our strategy, as it enables us to continue to strongly invest in our customer propositions for future growth, while delivering strong returns for our shareholders.
Since 2010, we have reduced our cost base from over £11 billion to £9 billion, excluding TSB, in line with our latest upgraded guidance. This significant reduction was, in turn, largely driven by the successful delivery of the first phase of the simplification program that we launched in 2011, with our cost to income ratio of 51% now the lowest amongst our major UK banking peers.
This reduction in our cost base, coupled with lower impairments, has driven a major improvement in our profitability and returns, with our underlying results strengthening from a loss in 2010 to a profit of £7.8 billion in 2014 and our statutory pretax profit increasing by £1.5 billion, despite significant legacy items. Taken together with the substantial reduction in risk-weighted assets I mentioned a few moments ago, this has driven a major turnaround in the Group's return on risk-weighted assets from a negative return in 2010 to a positive return of more than 3% in 2014.
This improvement in profitability has been a key driver in transforming our balance sheet, with our key capital and leverage ratios having been significantly strengthened through a combination of our strong underlying performance, a reduction in risk-weighted assets and a number of management actions including the sale of St James's Place, the international private bank and Scottish Widows Investment Partnership. At 12.8%, our fully loaded core Tier 1 ratio has increased by 5.7 percentage points since 2010, with the strong increases in our total capital and leverage ratios to 22% and 4.9% respectively, resulting in all these metrics being amongst the strongest of our major banking peers worldwide and positioning us well against the backdrop of evolving regulatory requirements.
This transformation of our business also includes the great progress we have made towards our strategic aim of being the best bank for our customers, by continuing to invest in our customer propositions and by supporting the UK economic recovery. This will be the major focus of the next phase of our strategy, given the progress made in rebuilding our financial strength.
In March 2014, we launched our Helping Britain Prosper plan which contains a number of public commitments in areas where we can make the biggest difference and can create value for our customers across households, businesses and communities. Since its launch, we have exceeded each of our lending commitments within the plan, while also delivering lending growth in our key customer segments.
Turning firstly to our support for households; as the leading provider of mortgages in the UK, we're committed to helping our customers get on to the housing ladder. And since the end of 2010, we have supported 275,000 first-time buyers, lending over £33 billion over this period.
Specifically in 2014, we supported 89,000 first-time buyers, well in excess of our Helping Britain Prosper plan target of 80,000. We believe that small businesses and SMEs are the life blood of the economy and have, therefore, pledged our support for this important customer segment through the Helping Britain Prosper plan, while also continuing to increase net lending in these contracting markets.
In 2014, we exceeded our plan commitments by supporting over 100,000 startup businesses and increasing net lending to the SME segment by over £1 billion. Over the past four years, we have achieved cumulative growth of nearly 20% in net lending to SMEs, in sharp contrast to the corresponding 16% reduction in the market.
Our support for our customers goes beyond lending as we have an important role to play in our communities. We have, therefore, included a number of key commitments within our Helping Britain Prosper plan.
In 2014, we delivered against these commitments, most notably by providing over 940,000 cumulative paid volunteer hours to support community projects. And to further improve the customer experience and to support sustainable growth, we have continued to invest in our product propositions, as well as our branches, digital and telephony channels, by reinvesting one-third of our Simplification savings in the business.
As part of our multichannel approach, digital has been and remains, a key area of growth and investment, reflecting our customers' evolving preferences in how they wish to interact with us. At the end of 2014, we had 10.5 million active online users and 5.2 million mobile banking customers, the latter a 29% increase compared to the prior year.
Our investment has, in turn, delivered additional tangible benefits to our customers, ranging from reduced processing times, improved ease of access and convenience, as well as fewer errors and greater efficiency. This customer-focused approach has resulted in a significant improvement in our key customer service metrics.
Our FCA reportable banking complaints have reduced from 2.4 to 1.5 per 1,000 accounts over the past four years, with the latest figures showing that the Group's complaints levels were approximately half the average of our major banking competitors. Similarly, the number of complaint outcomes overturned by the Financial Ombudsman Service has reduced to 28%, a figure that is industry leading.
In terms of overall customer satisfaction, all of our major banking brands have seen an increase in net promoter scores with the Group's overall score improving by 50% since 2011. These results do not make us complacent.
Rebuilding customer trust remains a key imperative for the business which we will pursue relentlessly. In support of this, we're continuing to strengthen the control environment with key improvements including the embedding of product governance as a key control to identify and monitor risk and changes to the ways we distribute our simpler and more transparent product range.
In addition, we have recently made further changes to our performance and reward framework for customer-facing colleagues in branches, with an overwhelming focus on customer service. In summary, the successful delivery of the strategic priorities we set out in 2011 have transformed this business for the benefit of our customers and our shareholders.
We're now a low-risk, low-cost, UK focused, retail and commercial bank, with market-leading capital ratios. These achievements have, in turn, enabled us to resume dividends as an important element of shareholder returns, while also providing us with a solid foundation to pursue our strategic priorities for the next three years and deliver sustainable growth.
I would now like to hand over to George, who will run you through the key financial highlights for 2014.
George Culmer
Thank you, Antonio and good morning, everyone. I'll give my usual overview of the financial performance and position of the business, starting then with a brief summary of the P&L.
As you've just heard, underlying profit increased 26% to £7.8 billion, with the movement in total income offset by a 2% reduction in costs and a 60% improvement in impairments. Excluding SJP from last year's numbers, income was up 1%, while underlying profit was up 40% and jaws a positive 3%.
Statutory profit before tax was £1.8 billion, a fourfold increase over 2013 and includes Simplification costs, TSB build and dual running costs, as well as legacy and ECN exchange charges. Statutory profit after tax was £1.5 billion, with the effective tax rate of 15% largely reflecting the impact of tax-exempt disposals, predominantly SWIP, in the first quarter.
Turning to the P&L in more detail; net interest income was up 8% to £11.8 billion, driven by better deposit prices, lower wholesale funding costs and loan growth in key segments, partly offset by disposals and expected pressure on asset pricing. The net interest margin of 2.45% is 33 basis points higher than 2013 and 5 basis points higher than the half-year.
The Q4 margin was 2.47% and includes a one-off charge of 5 basis points as a result of the consolidation of the savings products range we announced in December. Looking forward, we expect the NIM in 2015 to be around 2.55%, with continued pressure on asset pricing more than offset by improvements in the liability spread and mix and reduced funding costs.
In terms of assets and liabilities, total customer assets were down 3% to £478 billion and average interest earning assets by 5%, while customer deposits increased by 2% to £447 billion. Looking at lending and deposits by segment; for the 12 months we've seen a repeat of the scenes we've called out through the year.
For lending, excluding TSB, runoff and other, loans and advances grew by 1%. Within this, we've grown mortgages by 2% in line with the market, with gross new mortgages of £40 billion, up 14%.
In SMEs, net lending is up 5%, compared with a market contraction of 2%, while in mid markets, our 2% growth compares with the market that's down by 3%. As you know, we don't set a growth target for global corporates and for the year lending was down 10%, reflecting both a small number of large repayments in the first half and our targeted approach in this segment.
Finally, growth in our newly formed consumer finance business has accelerated strongly, with UK assets increasing by 17%, driven by a return to growth in our cards business and strong growth in motor finance, due to the strength of the UK market and the launch of the Jaguar Land Rover partnership in the first quarter. On deposits, our strategy remains to focus on our retail relationship brands and our commercial transaction banking business.
In retail, our multi-brand approach has continued to deliver with deposits in our relationship brands increasing by 4%, while in transaction banking, deposits are up by 10% as we've growth both the client base and share of wallet. Turning next to other income; in other income, as we've said through the year, the environment is challenging.
The underlying performance was down 9%, due mostly to disposals, the tough conditions in retail and in financial debt capital markets in commercial and the impact of regulatory change in insurance. In the second half, we've seen income levels stabilize with Q4 volumes in line with Q3 at around £1.6 billion for the quarter, with stronger performances in commercial and insurance offset by lower fee income in retail.
Moving forward, with the reshaping of the Group complete, we would expect other income to remain broadly stable in 2015. On costs, we've hit our target for the year of £9 billion, excluding TSB.
Total costs including TSB, were £9.4 billion and 2% lower than prior year, with disposals and runoff accounting for £392 million reduction and Simplification a further £449 million and both offset by reinvestment in the business. Costs in the fourth quarter were £2.5 billion, up 12% on Q3, largely due to the bank levy charge of £254 million and increase in operating lease depreciation from the growth in Lex Autolease.
In Q4, we also completed the final phase of our Simplification program, delivering annual run rate savings of £2 billion, well ahead of the original target of £1.7 billion. And as we said in October, we're now targeting an additional £1 billion of run rate savings by 2017 in the next phase of this program.
In terms of cost to income, our market-leading ratio now stands at 51.2% or 49.8% excluding TSB and adjusting for operating lease depreciation. And, as we said in October, we're targeting a ratio of 45% as we exit 2017, with reductions in every year.
Moving on to asset quality, on impairments, we've seen a 60% reduction in the charge for the year to £1.2 billion, with the AQR improving to 24 basis points compared with 57 basis points in 2013. Impairments reduced in every division and continue to benefit from better credit quality, improving economic conditions, provision releases and write-backs and reductions in the runoff portfolio.
In terms of impaired loans and coverage, the quality of the Group's loan portfolio continues to improve. Impaired loans now stand at 2.9% of total advances compared with 5% at the half-year and over 6% at the end of last year.
At the same time, we've also seen improvement in coverage, with the coverage ratio increasing to 56% from 54% on June 30 and from 50% at the end of 2013. Given our focus on low-risk retail and commercial banking, together with improved credit analysis and risk management, we expect the AQR for 2015 to be around 30 basis points.
Looking briefly at underlying performance by division; we've delivered strong increases in retail, commercial banking and consumer finance. In retail, we continue to deliver strong profits and returns with a 7% increase to £3.2 billion, reflecting improved net interest income which was up 9%, as well as a 21% reduction in impairments.
In commercial, the 17% improvement to £2.2 billion is a very strong performance in tough market conditions. Income was up 1% and underlying profit again benefited from a significant reduction in impairments.
Returns in commercial banking also continues to improve. Return on risk-weighted assets was 1.92%, close to our 2015 target of 2% and well on the way to our new target of 2.40%.
This improvement was driven by the improved profitability and a targeted change in asset mix including exiting lower-margin business in global corporate. In insurance, underlying profit was down by 15%, impacted by the regulatory changes and tough market conditions that we talked about at the half-year and in Q3.
Going forward, the environment will remain tough; however, we expect a stable result in 2015 with adverse economics offset by growth through investment in our digital offering, as well as bulk annuities and corporate pensions. Consumer finance again benefited from reduced impairment charges as well as higher income from asset finance and these more than offset the increased investment in the business and were the key drivers of the 5% increase in underlying profit to just over £1 billion.
Finally, the improvement in the runoff portfolio is primarily due to lower impairments. The improvement in TSB mainly reflects the reallocation of support costs to retail and the increase in other income is mainly due to the change in treatment of interest payable on the AT1s following the ECN exchange.
Looking at the usual reconciliation from underlying statutory profit; as a reminder, the £1.7 billion charge in asset sales and volatile items includes £1.1 billion relating to the ECN, while the charge of £280 million in 2013 included £787 million of gains on the sale of government bonds and there were no such sales in 2014. Simplification costs were £966 million.
This comprises around £800 million to complete the original program and deliver the targeted £2 billion of savings and £160 million of redundancy costs which forms part of the £400 million we called out at the recent strategy day to deliver the next phase of the Simplification program and our target of a further £1 billion of savings. TSB costs were £558 million, representing build cost of £232 million and dual running costs of £326 million.
Our PPI totaled £2.2 billion, down from the £3.1 billion in 2013. Other legacy charges is up from the £500 million we reported at Q3 to £925 million which is higher than in previous years and includes a number of one-off items such as a settlement for LIBOR and repo.
The Q4 provision increase of £425 million includes a further £100 million for interest rate hedging, £120 million for German insurance and around £200 million for other conduct-related matters and associated costs. Finally, other statutory items of £374 million include a credit of £710 million from the changes to our DB pension arrangements we announced in the first half.
As previously mentioned, we expect the gap between underlying and statutory profits to close. In 2015, we'll see the last of the material costs for TSB and liability management.
While conduct remains uncertain, I'm confident that, going forward, underlying profit will flow through into statutory profit and so drive capital growth. On PPI, we increased our provision in Q4 by £700 million, due to an upward revision in expected reactive complaint volumes, additional remediation costs and upward pressure on uphold rates and average redress.
Reactive complaint volumes have continued to fall, down by 12% in Q4 over Q3 and down by 22% year on year. Volumes, however, remained slightly above expectations, due mainly to CMC activity and reactive volumes and associated expenses account for around £400 million of the Q4 provision increase.
On the past business review, we've largely completed the proactive mailing and remediation of previously defended cases is now also well advanced and we expect to complete the vast majority of this activity in H1. In terms of cash spend, this was around £200 million per month in Q4.
In 2015, the costs will rise slightly in Q1, due to remediation work, before falling in the second half to a substantially lower level as past business review and remediation run off. Turning then to the balance sheet; our strong balance sheet and key ratios continue to improve.
During 2014, we generated around £34 billion of funds, led by a deposit growth of £10 billion, lower global corporate lending of £8 billion and a £16 billion reduction in the runoff portfolio. That runoff portfolio now stands at just under £17 billion and well below both the original and improved guidance for the year.
We used the funds we've generated in the year to reduce wholesale funding from £138 billion to £116 billion, to build primary liquid assets and to fund a further £8 billion of net lending to key clients and customers. In terms of net assets, tangible net assets increased over the year from £34.6 billion to £39.2 billion and the TNAV per share from 48.5p to 54.9p.
This substantial increase was driven by our strong underlying earnings and positive movements in pensions and other reserves. On pensions, we've significantly derisked our pension schemes over the last two years and, in 2014, we benefited from changing the asset mix and our interest rate hedging program which we completed in the first half of the year.
Other reserves include the cash flow hedge reserve which has benefited from falling swap rates and the available for sale reserve which has benefited from reduction in gilt swap rates. Turning next to risk-weighted assets; on RWAs, these now stand at £240 billion, down £32 billion or 12% in the year, clear evidence of our continued derisking of the balance sheet.
This reduction has been led by runoff where RWAs are down by £14 billion, due mostly to disposals and commercial banking where RWAs are down by £18 billion or 14%, thanks to the active management of this portfolio. In retail, RWAs reduced to around 7%, reflecting the improved risk profile of the mortgage portfolio, while the increase in consumer finance reflects the growth in that business.
Finally, looking at capital; as you've heard, our fully loaded CET1 ratio increased to 12.8% from 10.3% at the start of the year and well ahead of our targeted growth for the 12 months. This increase is after the charges for ECNs, PPI and other legacy and it's been driven by underlying profit, the dividends received from insurance and, as just mentioned, the reduction in risk-weighted assets.
As you know, the capital framework continues to evolve and I now expect the steady state CET1 requirement for the Group to be around 12%, compared with our previous estimates of around 11%. Despite this increase, the return on required equity target we announced in October of between 13.5% and 15% by the end of 2017 remains unchanged.
Going forward, given our strong levels of underlying profitability and the anticipated reduction in below the line items, I'd expect the business to generate between 1.5% to 2% of additional CET1 each year before dividends, starting in 2015. On total capital, our ratio improved to 22%, positioning us well compared to peers and for later in 2015, when we expect to receive greater clarity on TLAC and MREL requirements.
Finally on leverage, we also remain in a strong position. We have increased our ratio on Basel III basis to 4.9% from 3.8% at the start of the year.
This includes a 0.5% benefit from AT1 issuance adding to the positive effect of strong underlying profit. So to sum up, 2014 was another year of achievement.
Underlying profitability is strong, statutory profits saw a fourfold improvement and capital and leverage continued to improve. And as you've heard, the Board's recommended dividend of 0.75p per share in respect of 2014, representing a payment of £535 million.
The Group's aim is to have a progressive dividend policy with dividends starting at a modest level and increasing over the medium term to a dividend payout ratio of at least 50% of sustainable earnings. The intention is to pay an interim and final dividend for 2015, subject to performance.
That concludes my review and I'd now like to hand back to Antonio.
Antonio Horta-Osorio
Thank you, George. The successful delivery of the strategy commitments we set out in 2011 has resulted in a significant transformation of our business, in turn supporting our aim of being the best bank for our customers and our shareholders while providing us with a strong foundation to deliver the next phase of the strategy.
Last October, we set out a clear and simple strategy for the next three years which builds on the strategic plan announced in June 2011. Our priorities are to continue to create the best customer experience, to become simpler and more efficient and to deliver sustainable growth.
We will deliver sustainable growth by capturing significant growth opportunities within our prudent risk appetite and, over the next three years, we expect to grow net lending to our key customer segments by £30 billion. To achieve this, we target to maintain our market leadership position in the competitive and key markets of mortgages and current accounts and to outgrow the market in areas where we're currently underrepresented.
We expect to outperform the markets in our SME and mid-market segments, increasing net lending to each of these business customer segments by over £3 billion in the period. In our consumer finance division, we also expect to outperform the market by growing UK customer assets by £6 billion with our auto finance business achieving double-digit growth and increasing customer assets by £4 billion and our credit cards business delivering a £2 billion increase in customer balances.
Over the next three years, we also expect to grow customer assets in our insurance division by £10 billion through the enhancements we're making to our retirement planning proposition and by leveraging the Group's operational scale, customer reach and insight. In conclusion, the successful delivery of our strategy has transformed the business, enabling us to drive a significant improvement in profitability, giving taxpayers the opportunity to get their money back at a profit and allowing us to resume dividend payments.
This is a big tribute to the hard work and commitment of everyone at Lloyds during the last four years. This makes me confident in the future prospects for the Group as we enter the next phase of our strategic journey with our clear set of strategic commitments building on the firm foundations that have been established through our successful transformation of the business.
As I just mentioned, we have significant opportunities for growth within our prudent risk appetite. And through the strategic initiatives we announced in October, we confirm we expect to deliver a sustainable return on equity of between 13.5% and 15% at the end of the strategic plan period and through the economic cycle.
Dividends which are a key element of shareholder returns, have been resumed and we will build on this symbolic resumption announced today by targeting a medium-term dividend payout ratio of at least 50% of sustainable earnings. In the shorter term, we expect the Group to continue to perform strongly.
In 2015, we expect our net interest margin to increase further, other income to remain broadly stable and our low-risk business model to be reflected in a low AQR. We also expect the business to remain strongly capital generative.
While we recognize that we still have a lot more to do and despite uncertainties relating to the political, regulatory, economic and competitive environment, we believe that the Group is extremely well positioned. In fact, the combination of our strategic priorities for the next three years, underpinned by our increased investment in digital, our differentiated business model and unique brands, make me very confident that we will deliver our dual aims of being the best bank for our customers and achieving strong and sustainable returns for our shareholders while helping Britain prosper.
Thank you. We're now available for questions.
Q - Chris Manners
Chris Manners from Morgan Stanley here. I guess three questions, if I may?
The first one was on the net lending growth target of £30 billion; obviously, returning to net lending growth on a Group basis something we'd all love to see. Just trying to understand, is that the total loan book, is that the franchise loan book, how should we think about that growth and where do you see it coming in which segments?
The second point was on the NIM guidance; obviously, NIM dropped in the fourth quarter. I think everyone was really encouraged to say it was going to rise in 2015, given assets growth compression mentioned, just maybe a bit more color on where that uplift is going to come from; presumably deposit pricing is going to be part of it?
And the last one was on your capital stack; saying 12% now, how do you think about the D-SIB buffer, because we thought you might have a 3% D-SIB buffer, going forward and just the components there? Thanks.
Antonio Horta-Osorio
Thank you, Chris. I will answer you the first question and then George will take two and three.
So the £30 billion refers to the increase in our key customer segments, as we have been describing them every quarter which is basically £6 billion on both SMEs and mid-corporates, £3 billion each which means according to present expectations to grow around 5% in SMEs as we have been growing and to increasing our growth in mid markets from 2% upwards. So the target is £3 billion in SMEs, £1 billion per year, £3 billion in mid-corporates, £1 billion for the year, £6 billion for those two segments over the next three years.
Then you have another £6 billion in consumer finance, our high growth area division, where I said £4 billion will be on the car financing business and double-digit growth we expect for the next three years and £2 billion on credit card balances. So another £6 billion.
The remaining £18 billion is what we foresee to grow on the mortgage markets, where we're assuming, after last year's growth of close to 2%, we think this year will again be around 2%; therefore, assuming the market growth for the next three years. And we will grow with the market; we will grow £18 billion in terms of mortgages over the next three years.
So I'm leaving out, just to clarify for your model, as always I'm leaving out the £17 billion of the rundown. I'm leaving out the closed book debt we have in terms of Dutch mortgages.
And I have not mentioned our overdrafts in the retail area and the large corporates. Large corporates, as you saw in the 2014 results, was the reason why the target segment, the core book, did not grow at 2%, 3%, because large corporates came down.
I have mentioned repeatedly in our quarterly meetings and presentations that large corporates we don't target credit growth because of debt capital markets, market conditions. On the previous year, we had grown a lot large corporates.
Last year, we reduced because of lower margins, more risk progression in the market that we did not want to join. I expect, during 2015, large corporates to grow in line with the average of the other segments.
So I do expect the core of the Bank to grow between 2%, 3%, the average of everything that I just told you. Was that clear?
Chris Manners
Very.
Antonio Horta-Osorio
George, could you please on NIM and capital stack?
George Culmer
On NIM, Chris, as you see the current NIM for 2014 of 2.45% which was up from the 2.12%. And the main drivers to that which we set out in the waterfall I had over 20 basis points on the liability side.
I had an accounting benefit from the ECNs. Going the other way, I think there was about 7 basis points for, basically, mortgage pricing and I also get a benefit from wholesale funding.
As you say, the Q4 bit was a one-off. It was the 5 basis points from consolidation savings.
But with all those features as well, all those other elements featured in that, of course, as well. So we did see a further benefit from wholesale funding Q4 versus Q3.
We did see a further benefit from deposits Q4, Q3 and a bit of asset. As we move forward, the story will sort of remain the same.
I think there's still a bit of headroom in terms of liability pricing. I do expect to see a bit of asset pressure as we move forward, although it's interesting in terms of as expectation of rates move out and what that does on things like SVR.
What I do also expect to see is further benefit from lower wholesale funding. And I will see that in terms of, as a lot of crisis funding continues to roll off and replaced by something that's much more reflective of where the Bank currently sits in terms of cost of money and I see that benefit coming through.
So as I said, we've given our guidance, I think it's pretty robust guidance and I think I've got a positive outlook. On capital yes, we said around 11%, we're now saying around 12%.
What has happened since, I think, as we talked through last year we said there were risks involving regulatory conversations continue that there was a risk there that it would increase. And we have pushed it up.
That reflects us passing through a couple of stress tests, ICG conversations, etcetera and just factoring all those in. I think the capital debate has moved forward.
It's interesting to see what everyone has come out with over the last week in terms of expectations of the coalescing around numbers. We're not a G-SIB, so we don't have that specifically applying for us.
There are still some uncertainties. You know what's coming out of Basel and whether it's standardized operational risk we still have to work through those.
But for now, we certainly think around 12% is reflective of where we see ourselves and how we see ourselves in comparison with our peers, compared with our low-risk business model that we operate. But that's where we sit.
Antonio Horta-Osorio
And we're keeping the target return on equity of 13.5% to 15% to the new capital target of around 12%.
Chris Manners
Thanks. Just to clarify, I was talking about D-SIB rather than G-SIB.
So obviously, you put up the slide showing how strong your market share is now and how important you are to the UK economy. I thought you might have a high D-SIB buffer.
George Culmer
The reality is actually, whilst I say that we're not a G-SIB, I would expect that we will probably get treated like a G-SIB.
Tom Rayner
Tom Rayner from Exane BNP Paribas. Yesterday, one of your peers talked about its capital targets as well, 13% for them, above which they felt they'd be happy to start distributing all their free cash flow effectively.
Irrespective of the debate whether it's 12% or 13%, you're pretty much at 13% yourselves anyway. Eligible Tier 1 is above 2% which I think is more than you need and your eligible Tier 2 is nearly 4%.
So on a fully factored in CRD IV basis, I think you're 19% total capital, so a long way ahead of your peers. So when I looked at your guidance for 150 basis points to 200 basis points of capital generation, I guess my question is, pretty soon is there any reason why you shouldn't be able to start distributing if not all of it, pretty much all of it?
And then my supplementary question to that would be, if you're not allowed to and you're building up bigger pots of surplus, as will some of your peers be, is there then a risk that we see more margin pressure coming into the industry because the other thing that will start happening is you start competing for more volume in an environment where loan growth might still be on the slow side. So that's my question, thank you.
Antonio Horta-Osorio
I'll just offer a few comments because we're not going to give you any more guidance on future dividends than the one that we have said. It's a nice problem to have, number one.
Number two, we'll take it step by step. So we're really proud of getting dividends back to shareholders and to our 3 million individual shareholders and taxpayers, after 2008 for the first time.
We said we would start at a token level. As you very well said, we have finished the year better than we thought with a 13% fully loaded capital ratio, pre dividend.
And we will take it semester by semester. So we will set up an interim, we'll see at yearend and we will discuss at the Board then and we will set the specific dividend at each moment.
It is clear that we intend to move to a payout ratio of at least 50% of sustainable earnings, over time. And it is clear, as George told you, that we believe we'll create 1.5% to 2% of capital per year because and this is very important, because we have a business model which is both low risk and low cost.
This is critical. We have these two key competitive advantages.
The low risk drives not only impairments down, but should drive the cost of equity and the capital requirements down. That's why, as George said to Chris, if others are now mentioning 13% or 12% to 13%, we, as a low-risk bank, we believe we're very comfortable on the low end of around 12%.
And second, having a cost to income of 51%, when all of our major peers are between 58% and 67% gives us a major competitive advantage in terms of providing better products to clients at the same time as we have superior returns to shareholders. So all of it results from the fact that, not only we have a simple business model focused in UK retail and commercial banking, but we have two critical competitive advantages of the lowest credit default swap or risk if you want and the lowest cost to income in the UK.
Tom Rayner
And on the margin bit of the question, if somebody stops you distributing the dividends, what do you do instead? Do you start competing more aggressively for faster volume, I guess.
Antonio Horta-Osorio
It's a nice problem to have, Tom. We will take it then, if it happens.
Chintan Joshi
Chintan Joshi from Nomura. Can you give us some update about the SVR book?
Constantly, it's pointed out as something that is a risk factor; just want to get an update. From what I can see from industry trends, it shouldn't have picked up in churn rate, but wanted to see what you are seeing, that's the first.
And I've got another one on margins.
Antonio Horta-Osorio
Do you want to say the second one as well?
Chintan Joshi
Yes. Just if you can elaborate on your hedge assumptions within your NIM guidance for 2015.
George Culmer
Yes, on the SVR book, we've seen pretty stable trends, actually. And the one that people focus on particularly, in terms of the Halifax book, the [inaudible] we came in at about £61 billion at the start of the year.
The movement in the balance, I think, is a reduction of about 7% which will be consistent with, actually, our totality of SVR book. It's not actually in line with the movements in books with lower rates on.
It's come down about 7%. So it's [inaudible] or whatever, in terms of closing, but we've seen a pretty stable trend.
And obviously, one of the - and we alluded to this in one of the earlier questions, one of the benefits of base rate rises being put back is that that has remained pretty sticky and I think we expect it to stay with us for some considerable time. But that's what we're seeing.
In terms of hedge assumptions, we continue to be well over 90% invested. We've put premium by stable, predictable earnings and that reflects our policy on hedge.
We don't see material shifts in terms of reinvestment rates, the differentials between earned and reinvestment in terms of roll-offs, etc. There's not a huge proportion of the hedge that's expected to roll next year.
So I'm not actually looking at a big differential in terms of 2015 plays 2014, in terms of structural hedge contribution to earnings. As you know, we've got a targeted weighted average life of about five years.
We're currently inside of that; we're shorter than that, at the moment. So the strategy remains pretty unchanged, as I say.
And we see earnings year on year, it doesn't have a material impact in terms of overall shape.
Chintan Joshi
And just a follow-up on actually both points. On the hedge, agreed, 2015 versus 2014, not much impact.
Assuming the current yield curve, would you see some impact in 2016 or 2015? That's on the hedge.
And on the SVR, can you talk about trends also on your buy to let book, if you are seeing any increase in churn there? Or is it similar to the SVR churn rate?
George Culmer
I'm not aware of any different trends on the buy to let book. I've not seen any different trends there.
2016, 2017, all those sorts of things, it's a way out and depends upon what rates do and obviously, there's been movements over the last month. So in terms of how hedges roll off and reinvestment rates, when you move out 24, 36 months, let's see what's in the market and see what rates are available then.
Arturo De Frias
Arturo De Frias from Santander. First of all, congratulations to you and the team for a truly remarkable turnaround.
And then, a couple of questions; one on dividends and one on long-term strategy. I was going to ask the same question that Tom asked, about you not being allowed to pay nearly all of it.
So I will rephrase slightly the question and focus more on the short term,(laughter) and ask, the 0.75p that you are announcing today corresponds to 44% payout ratio. I'm sure you wouldn't like to start with 44% and then come down.
So should we assume that, at the very least for 2015 onwards, we're going to see that 44%? That's the question on dividends.
And then, the question on strategy; it is true that you have a remarkable advantage on costs and on funding to grow. But it's also true, as you show us in this chart on market sales which I found really interesting, that you have already very high market sales in some of the key markets; current accounts, mortgages, SMEs.
You also said that you don't want to grow in large corporates. Of course, you can grow a lot in home insurance, in credit card, in consumer finance, etc., but the biggest books, you already have 20-plus-% market.
And also, there is a limit to the growth that you can achieve there. Knowing that the transformation is pretty much done, could you share with us your thoughts in terms of non-UK growth, inorganic growth, international expansion in the medium term?
Thank you.
Antonio Horta-Osorio
So three comments on what you said. The first in terms of dividends, we're not going to anticipate anything else.
I understand your problem. We'll leave it to each one of you to make your own assessments and we'll discuss it, for sure, over the next few quarters.
Strategically speaking, Arturo, I think you are right. But we see significant growth possibilities and I think that is demonstrated by what we started doing as we had said we would do.
Because I think the interesting thing in terms of our strategic plan is not only what we did, but that we did what we said we would do, because sometimes, it's not exactly the same thing. And we said to you, 2 or 3 years ago, it starts growing aggressively in consumer finance.
This has been done. The car financing portfolio grew at more than 25%, where the market grew around 11%.
And we believe we also grew around 11%, if you want same footfall basis. But given that we won the Jaguar Land Rover representation, that more than doubles our growth in car financing which is very important; it's one of the main brands in the UK.
We told you we would start increasing the credit card portfolio. And we did it finally, over three years, last year, as targeted, where it grew by 2% and you have growth targets which are much bigger for credit cards, going forward.
On credit cards, to give you an idea, we only have 15% market share. We never did the non-franchise business, so we have a huge opportunity on the non-franchise business, as we do and have in executing well on the franchise business.
In SMEs, well, we have grown 20% net over the last four years, in a market that shrank 16%. We still only have around 18% market share and we believe that we can grow clearly towards the 25%.
The same thing in mid markets, where we have an 18% market share as well. So to be very fair on what I say, you should not expect huge market share increases, first, because we're a prudent bank and have a low risk appetite; and second, because market share gains to be then will take a long time to execute.
For example, in credit cards, our ambition is to go from 15% to 16.5% in three years which is a 10% increase from 15% to 16.5%. But this will enable us, in our opinion, to grow above nominal GDP progressively.
And, because you have to see it in the whole, if we execute as we have been doing and we have a clear commitment to you of increasing costs by less than the revenues, we will continue to increase our competitive advantage and go towards a cost to income of 45% which will increase further our competitive advantage, I believe, because I see others going up, not down. And therefore, we will be able to grow if we offer better products for customers and superior returns for shareholders.
So we're very comfortable about our UK-focused strategy of households, SMEs, mid markets, UK. And we have great possibilities of growing, over time, more than the cost in creating value.
The third point of our strategy is very simple. We have no plans of expanding international.
We have no plans of doing anything besides where we're which is, basically, a small presence, as you know, in Holland of mortgages which is a closed book and where we have a good presence in Germany of online deposits and a small asset finance business. We have a business in Ireland which is going to zero.
We have a branch in Singapore to support UK companies in Asia, a branch in New York to support UK companies in New York, very simple, 95% in the UK. And for the next three years we're going to continue and deepen because I think, when you do well, you should deepen instead of diversifying and continue to do well what we have been doing well.
We're not complacent at all; we will continue relentlessly to pursue these goals.
Rohith Chandra-Rajan
It's Rohith Chandra-Rajan. If I could come back to the margin expectations for next year please and you've given us a lot of detail on the asset side.
Just on the deposit side of the margin math for next year, certainly some of your peers are talking about relatively flat deposit margins. I was wondering if your expectation of the liability side is more to do, certainly on the deposits, is more to do with mix shift in your book, either between brands as you've talked about before or from time to sight deposits?
George Culmer
In the explanation I gave earlier yes, the components we've seen will continue to play a part, I would have thought, in terms of different weightings, wholesale funding is going to play a bigger part as we move through next year; that's going to be a large part of that. You've seen this year and you'll continue to see next year, our ability to flex between brands is an advantage.
And you've seen that this year; you will see more of that next year. But also in terms of shaving a few basis points, etcetera., I still see that possibility within the core retail and commercial banking core deposits as well.
So I see that possibility.
Rohith Chandra-Rajan
And then just very briefly just on your other income comment which clearly has been an area that's been more challenging, I guess, over the last few years. Just wondering about your confidence of stability in that line for next year and what are the headwinds, so things like interchange fees, etc.?
George Culmer
Yes, it's a good question and you're right, it's been an area where it's been hard, for factors and reasons that we all know. And as you allude to one there, as we move forward there continue to be challenges.
So our comment of broadly stable was fully appreciative of what's happening in all this change and that's factored in for 2015, so that's already in there. But across the book there were some encouraging signs.
I talked about in the presentation in terms of commercial, for example which had a very strong Q4 and came back strongly. We're also making investments across the business; I talked to some things in insurance with regards our aspirations and hopes around things like corporate pensions, bulk annuities which we're investing money in as well as additional offering.
And would hope that to see a rebound in the insurance contribution. But the environment stays tough and in terms of retail, I think it will continue to be a tough environment, just given the product mix and the environment that we're in.
But I think broadly stable is a fair assessment. I would hope for growth thereafter in 2016 and onwards, but my expectation is it's going to stay a pretty tough market for fee generating products.
Andrew Coombs
It's Andrew Coombs from Citi. Firstly, if I could possibly just follow up from the previous question; on the other income point, we talked about the interchange fee cap there; you've also got TSB dropping out at some point during the year; you've also got the runoff contribution presumably declining, so there are a number of headwinds.
You talked about a tough environment for retail products, but there must be an offsetting positive somewhere, so perhaps you could just elaborate on where you see that coming through from; is it the commercial bank or--?
George Culmer
It's the previous explanations, commercial and insurance. Insurance as I said, there were some adverse economics that they have to deal with which is just the wonders of insurance accounting in terms of how we discount some of the free assets.
But there are some initiatives in insurance. And as I said, yes, commercial banking had a very strong Q4 bucked the trend and particularly in the financial and capital markets put in a good performance.
We have hopes but, again, it will take time.
Andrew Coombs
Just a broader question on mortgage pricing. When you look at the number of competitors, there's been some quite substantial rate cuts made over the past three to four months.
If we look at Halifax, there has been some adjustments but they haven't been of the same magnitude and that's been a consistent point that Lloyds have made. So I guess I was wondering, when you think about the pricing differential, how much does your scale and your service proposition, how much of a differential does that allow you to maintain whilst remaining competitive?
Antonio Horta-Osorio
Of course, we look into all of what you just said. And the fact is that we grew broadly with the market last year, as was our objective and we continue to believe we will grow in line with the market this year and we don't necessarily have to have the lowest prices for that.
That's one comment. The second one is, as you know, we have a multi-brand strategy which I continue to believe is a competitive advantage, especially in a low interest rate environment.
And the third one is that we manage the margin, not separately, but as the difference of the two, between loans and deposits, we do it on a weekly basis and we do it at the highest level of the organization which is another competitive advantage. So I would expect, as George said before, that the environment in terms of margins of assets, minus margins of liabilities, to continue to evolve broadly in the same way over the next few quarters.
Fahed Kunwar
It's Fahed Kunwar speaking from Redburn. I had a couple of questions.
The first is on your statutory ROE target of 13.5% to 15%. So your adjusted ROE in 2014 was 13.6%, I know your statutory was only 3%, but I'm assuming you don't have a legacy cost, going forward, in the medium term or at least they drop out.
I'm just wondering why the target is so low, I guess. You moved from 11% to 12% right now in your core Tier 1, are you potentially factoring in the fact that that might actually keep increasing and you would like to hit that target, even if you have to hold 13% or 14% core Tier 1 or is there something else going on in that number?
I can give you my second question now as well. The second question actually is on other income, but it's actually in another manner.
A lot of the European retail banks are talking about a move from retail customers and some small corporate customers moving from deposits into AUM, other type of saving products now. You're probably the preeminent bank assurance model, definitely in the UK and I know there are near-term headwinds to ORR [ph], but going forward, why is that happening in the UK and if not, why do you think it won't happen in the UK, going forward?
Thanks.
George Culmer
The 13.5% to 15% I think is an entirely appropriate target and I think stands good comparison with the previous target the Bank had when we put out the first the strategy review in 2011, so we've improved it. And I think it stands very good comparison with the targets of our peers, so I think it's an entirely appropriate and a good target.
In terms of just some elements around calculation you're right, the expectation is, as we move forward and those below the line items drop away, you should see a convergence between the 3% and the 13%, just taking those as static numbers. There will, though, always be some element to drag; you'll have things like fair value unwinds, you'll have amortization of cost, etc., so you're not going to have a complete one for one.
But there will, as you say and I've said, there will be a significantly lower level of dilution as we move forward. What we have also seen is that assumptions change and when we introduced that in October that was based around a capital requirement of around 11% and we had base rate assumptions for 2017, I forget whether it was 2.5%/3%, etc.
And what we said at the time was that we would, if we saw movement in those assumptions and we've now seen something on capital as base rates continue to move around, we would look to absorb those and stick by those ROE targets. We've seen a movement on capital as those base rates continue to move, but we're sticking with our target and will continue to do so if we see further wiggle room, I think, in terms of some of the key elements of that.
So it's an appropriate target; we would stick by that target and what you will see. As I said, those ROEs, the statutory and the underlying come together.
Antonio Horta-Osorio
On your second question, yes, it's quite an interesting question, strategically I mean. I would make two or three comments.
The first is that we have, as you said, a major opportunity in that area, because we have the largest presence in retail in the UK and we're underweight in terms of assets under management, as you said. And we both have Scottish Widows in terms of insurance products, but we also have the partnership that we recently initiated with Aberdeen which we really value.
So we have both product, if you want, asset management and insurance products available. The first one.
The second one is we will develop that of course which is a major opportunity. But relating to the European context and the move to direct our customers towards those products, I think we're going to be careful.
And we're going to be careful for two reasons. First, we want absolutely to be best bank for customers, so we have to think what is the best interest of the customers.
And I personally have some doubts, then in the lowest interest rate environment of the last century, it is a good idea to move clients into fixed income products that will be exposed to rising interest rates which I think are inevitable. The question is when.
And second, we have to do this in a conduct appropriate way and we have been working very seriously with the FCA in terms of execution only products, versus advice how to do it in Internet, mobile and this will take some time to develop. So I would say versus Europe, you have a totally different approach in terms of Europe which I think is leading the UK and Europe should start thinking about.
Second again, in the interests of our customers, I would be very careful in trying to push our customers to fixed income products in spite of the cycle.
Fahed Kunwar
Can I just quickly follow up on a couple of points? Sorry, on your 12%, 13.5%, 15%, you probably won't answer this question, but how high does the core Tier 1 have to go before you potentially bring that target down, i.e., how much is built into it?
George Culmer
You're right, I won't answer.
Ian Gordon
It's Ian Gordon from Investec. I've got three pretty dull questions, actually.
First one, can you just update me on your expectations and intentions on the residual ECNs? In December, you seemed to be only talking about --
Antonio Horta-Osorio
That's a good question, residual.
Ian Gordon
In December, when you updated the market, you were only talking about a portion of the residual ECNs, whereas the Daily Mail may disagree with me, I don't understand why you don't get rid of the whole lot or at least convert them. Secondly, just coming back to conduct, sorry to be boring, but with regard to the £200 billion of other, other legacy charges in Q4, can you just provide a bit of color of what that is?
And then finally, Irish provisioning. I know you don't give us real quarterly disclosures, but it think in Q4 there was, for the first time, a release about £50 million or £60 million which probably just reflected where certain disposals fell, rather than a proactive write-back.
I appreciate there's less granularity of future trends for you, because of your residual £2.6-odd-billion Irish provisions, it's mainly corporate not retail. But you are now starting to look rather more conservative and rather more fully provided than some of your peers.
Is that [inaudible] or is there real conservatism baked in? Thanks.
George Culmer
On ECNs our position is clear. We announced that a capital disqualification event that occurred in the non-treatment of these as core Tier I capital in the stress test.
We made that determination and we've applied to the PRO. We made that application on December 18 and the PRO they know they have three months to make their determination.
They actually determine, not around the capital SJP incurred, but simply around capital positions, etc. We made on December 18 and we await that response.
In terms of where we're going, we've been very clear in terms of apportion. Those prioritized bonds, those that we touch, where we will be exercising the regulatory par call.
But that will not be the end of the story in terms of where we go with that overall residual holding. So your point is valid that there was more action that we will take there.
In terms of the other or other, there's a number of items which is material unto itself. It relates to things like, in terms of the incentive schemes.
Things like bank assurance, there's a portion in for that. We've got a portion in for things like forbearance.
We've got associated legal costs. So there's a list of things, none of which is material unto themselves that go into that.
Juan Colombas
In Ireland, you are right, we have sold two big portfolios in Q4. We did the first one in 2013, because we sold non-performing loans of the mortgage book in Ireland.
We have done the same in 2014 and then you can see that the level of arrears in the mortgage book of Ireland is very low now. And we have sold also a big portfolio of commercial loans in Ireland in Q4.
The three transactions have had write-backs and I think you are right that we have conservative approach to our Irish book. The only thing I would say, it is not new, so it has been since the beginning.
Raul Sinha
It's Raul Sinha from JPMorgan Cazenove. Can I have two, please?
Firstly on capital; I was wondering if you could tell us if you would be disclosing your capital stack, going forward. And the reason for asking the question is, I wanted to check if you have assumed a buffer within your capital requirements for potential countercyclical increases.
I know it might be a very long way away, but it does give us some clarity about how well capitalized you are, even relative to the 12% and how that can move. And obviously, the latest consultation allows you to disclose Pillar 2A.
So that's the first question. Now the second one is on your 2.55% NIM guidance, pretty straightforward.
Have you assumed any interest rate hikes for that or within that? And if you could comment on, if base rates were to go up in the second half of the year, how that would impact your margin, going forward?
Thanks.
George Culmer
On the capital stack, the around 12% we would have allowance for small management buffer in there. In terms of disclosures, I may take a pause on that.
Yes, as you said we've got the 2A out for the first time, along with everybody else. But I don't know about additional disclosures, so if we have a pause for thought in terms of where we go on capital.
I know what people would like to see. There's an issue of what we're allowed to show and what would be useful to show.
So I hear what you say, but it's something that we will ponder. NIM, the house view is the back end of the year if it's going to happen would be our earliest scenario, so our 2.55% is not dependent upon a base rate increase.
And I think, as we previously said, given position of structural hedge and then there are questions of how much you'd pass through. But certainly, in the early base rate movements, don't expect to see particularly sensitive in terms of earnings with those base rate changes.
Unidentified Analyst
[Inaudible]. A couple of questions, please.
One, just on the runoff portfolio; that's obviously come down more than was previously guided last year and I wonder whether you could update us on your thinking for the runoff of that portfolio this year and when we might finally see to the end of that. And then secondly, just back to insurance, because I always feel that this division's a bit of a sleeping giant, really.
I know you've got some ambitions which you've set out for us today and I just wonder when we might really expect insurance to start returning to profitability growth. It seems to have been going the other way over the last few years.
So when will we actually see profits in the insurance division turn positive again?
Antonio Horta-Osorio
Okay. Starting on second one and [inaudible] will give you color on the first one, because for the first time we're not targeting runoff decreases, because we consider it's basically even, but Juan will give you some color on that.
Now on the insurance company, like George mentioned, the insurance company decreased the profitability because they had quite an adverse environment last year. On one hand, we had the floods which affected our GI business very significantly.
There were floods in several moments of the year, much more than the average. And secondly, because the levels of these changes, that changes the plans that we had for annuities and that's also impacted the corporate pensions.
That's why, as George mentioned, there were abnormal circumstances and apart from that, the three-year plan that we have for insurance is of growth from a stable base. So those are the plans that we have and insurance is an integral part of our business.
And I think we have established significant competitive advantages from having insurance within the Bank. On one hand, we're able to much better respond to changing customer needs because we have it in-house so the teams can work together before changing customer needs.
Like you have, for example, for that coming change in pensions in April that we don't know how the customers are going to react, but we're fully prepared. Secondly, by the fact that we have the operations centralized we have lower unit costs.
And third, we were also able to swap portfolios that were mutual beneficially between the Bank and the insurance company in terms of long duration portfolios being bought by the insurance company that has long-dated liabilities and that were no longer appropriate for the Bank, given the changing liquidity rules. So this is just an example of the three major synergies we have created, as we have been explaining through the years.
So we're absolutely convinced that the plan is upwards and what you mentioned which is correct, was really due mostly to very adverse trading conditions last year in several of the products.
Unidentified Analyst
Just want to clarify that, leaving weather-related events aside which is obviously unpredictable, should we expect there to be some profit growth within the division this year?
George Culmer
Well, as I said in my presentation, we're looking actually for a stable result, but what that reflects is management initiative, real initiatives in terms of, as I said, corporate pensions, bulk annuities, GI, etc., being offset by a quirk of accounting. From an accounting perspective what was one does is you discount the free assets basically using swap rates where swap rates are moved.
So from an accounting perspective of the underlying profit level, I start with that headwind, but actually those initiatives will take me back. When swap rates return to more normal levels, you'll get the benefit of that coming thorough.
So what matters is from a management action underlying basis, that division is moving forward, accounting is holding it back.
Juan Colombas
Yes, on the run-off you can see in the appendices the detail of it, we have £17 billion. It is £6 billion retail international and £11 billion is the commercial bit.
The idea is to continue with the strategy of decreasing it, so we have to complete it because runoff has to be run off. And that's the idea, so we will continue with it, but we're not disclosing any targets because we think it is not material any more.
Antonio Horta-Osorio
I think we will probably emphasize even a bit more value versus volume, given we achieved the volume. In the end of last year we were able to do the transactions already.
We've free capital impact positives. We had capital gains on many transactions as you know, apart from the capital accretion.
And we will give even more focus to the value versus the volumes, given that it's basically achieved and there is no significant risk in the portfolio any more.
Sandy Chen
It's Sandy Chen from Cenkos Securities. Actually, this is probably the second question, just a follow-up on insurance, two insurance questions in a decade is probably quite good.
I would just like to look more closely at your insurance volatility assumptions, underneath it, because on page 31 just looking at the yields on UK Government bonds, it had gone up from assumed yields of 2.6% in 2013 to 3.5%. Corporate bond yields have gone up from 3.2% to 4.1%.
I'm just trying to tail that with what were you saying in terms of volume swap rates and what the underlying assumptions are in the insurance business because, when I look at the expected investment returns versus the actual, I noticed there was a gap of £219 million on the insurance business. Should we take that out of the underlying insurance PBT as an actual?
George Culmer
You get very volatile results if you do. Obviously, over time, my positives and negatives in terms of investment fluctuations around those long-term reserves, long-term assumptions, should sum to zero, but in any short period of time they will not.
You can look at the total insurance result at a profit before tax line, but because of the vagaries of the accounting in terms of just defining any trend in that you will struggle. The comment around the swap rates is a look-forward comment, so that's particularly in terms of 2015 and it's one particular aspect to it.
So it's something that you won't see in those assumptions, but you'll see it in our numbers that come through. So if you look to the profit before tax line you'll see how that result has been impacted by actual market returns in the period.
The reason why the insurance industry has gone that's a long-term assumption whereas you're dealing with products with 10, 20 years and the vagaries of how they get impacted on a yearly basis by some of those investment returns doesn't give you the good indication, hence the underlying.
Sandy Chen
I guess it kind of leads to a follow-on question in terms of, how does this compare to your assumptions on your own pension liabilities?
George Culmer
I can't give you an answer today in terms of line by line. We can get back to you with a comparison.
Antonio Horta-Osorio
No more questions? Okay.
Thank you very much, everyone for coming. See you shortly.