Lloyds Banking Group plc

Thank you for standing by and welcome to the Lloyds Banking Group Q1 2020 interim management statement conference call. At this time, all participants are in listen-only mode. There will be a presentation by Antonio Horta Osorio and William Chalmers, followed by a question and answer session, at which time, if you wish to ask a question, you will need to press star 1 on your telephone keypad. Please note this call is scheduled for one hour. I must advise you that this conference is being recorded today. I will now hand the conference over to Antonio Horta Osorio. Please go ahead.

Thank you. And good morning, everyone, and thank you for joining our Q1 presentation. In light of the coronavirus outbreak and the exceptional circumstances that we find ourselves in, I thought I would give a brief overview of how we are supporting our customers and colleagues in these difficult times, supported by our balance sheet strength and multi-channel distribution model. But first, I would like to express my gratitude to my colleagues across the group who have shown exemplary dedication and professionalism, often in response to near impossible demands. I know that many of my colleagues will be anxious about the health of loved ones and the impact of coronavirus on their communities. but they remain focused on serving our customers every day. I therefore want to thank each of them for the remarkable contributions they are making to this national effort at work, at home, and in their communities. With their support, we are also committed to helping our customers manage through this crisis. None of us can be certain how long and how severe the impact of this pandemic will be, but we must recognize that our support for customers is already and will continue to impact our profitability and capital build. I will outline some of these measures in a moment, but as a responsible business, we recognize that it is the right thing to do in supporting our customers and helping Britain return to prosperity. However, I am confident that the strength of our balance sheets and our resilient business model mean we are well placed to underwrite these commitments and play our part in helping Britain recover from this crisis. I will summarize some of the measures we are implementing, and I will then hand over to William, who will run through the financials before we open up for questions at the end. I will start in slide two by looking at how we are supporting customers and colleagues through this unprecedented social and economic challenge. Coronavirus is having a significant impact on people and businesses in the UK and around the world. Our core purpose is to help Britain prosper, and this is now more important than ever before. We fully recognize that shareholders, as well as our customers, will judge us by how we live up to that mission. We are treating our retail customers flexibly and sensitively, including granting around 880,000 payment holidays to date. while implementing dedicated support channels within just two weeks of the start of the lockdown for our elderly customers and those customers who are doing such a wonderful job for the NHS. We also remain focused on how we can support our colleagues and communities. This includes suspending all headcount reduction programs while committing to pay all of our staff in full regardless of how their work has been impacted. This is important as it removes uncertainty for our colleagues and leaves them free to focus on supporting our customers and serving their communities. We have also enhanced our financial support for our charitable partners and the group's independent charitable foundations. I believe it is vital to further increase the support we give to mental health charities in these challenging times. As mentioned, we remain fully focused on supporting our customers, and our operational resilience is a key element of our ability to do this. Around 90% of our branch network remains open and Importantly, our digital banking proposition has remained fully operational throughout the lockdown, despite the significant increased registrations and daily logins we have seen. We also have around 45,000 colleagues working from home, having increased it from around 15,000 within just three weeks. I will now turn to slide three and look at how we are actively supporting our customers. We have further enhanced our support for customers, including through the various government initiatives which have been put into place over the last few weeks. We have granted around 400,000 mortgage holidays to date, helping customers through short-term financial difficulties. We have also granted payment holidays across our other retail lines while increasing the limit for contactless card spend to £45 and giving our customers interest-free overdrafts of up to £500. Insurance and Wealth has also adopted payment holidays whilst implementing a simplified claims process. ensuring that customers have their claims paid sooner and reducing the strain the process places on the NHS. Our commercial businesses have supported clients with around 37,000 overdrafts, capital repayment holidays, and deferred payments, all backed by our £2 billion COVID-19 fund for SMEs and mid-corporates. As I mentioned previously, we are fully behind the government's various schemes and have worked closely with the government to make them work. Landing under these schemes will involve extending our risk appetite during the crisis, and despite the protection offered by government guarantees, there will inevitably be some additional losses in due course. At the end of last week, we had approved over 400 million pounds in civil loans, and this has already increased to over 500 million pounds at the close of business yesterday. Our CL built proposition is also now fully operational, and we have registered as a commercial paper dealer so we can support our larger clients to access the CCFF. The government and the Bank of England have both acted swiftly and decisively in their actions will help to mitigate the impact of the crisis. However, there is also an important role for all of the banks to play and we are committed to putting the group's full strength to work in support of the UK economy. By doing this, we will help to reduce the negative impact on the UK economy and speed the recovery. I will now turn to slide four and look briefly at the economy. As I said in my introduction, there is significant uncertainty ahead, and the outlook is challenging, although the final impact on the economy will depend on the severity and duration of the economic shock. Economic forecasts have recently turned sharply negative. In finalizing our results at the end of March, we assumed a base case for GDP of minus 5% in 2020, with a recovery beginning in 2021, although we have to recognize that the outlook may deteriorate over the coming quarter. We have also seen customer activity fall significantly since the end of February, and William will talk about the impact that this has had on our financials. As William will explain, alongside our central assumptions, we are, as previously, also providing our current estimates of how we might be impacted in a more adverse scenario. Clearly, given the lower activity levels and the significant change in the rate environment among other factors, the operating environment is now very different to when we reported in February, and our previous guidance is no longer appropriate. The outlook is likely to remain uncertain for some time, and we will update the market once there is greater clarity. However, as I have said, despite the challenging outlook, we are well-placed to play our part, and I will now turn to slide five and look at how our strengths and capabilities will enable us to support the UK's recovery. The group benefits from several core competitive strengths, including, as you have heard me explain many times, our prudent approach to risk, our capital strength, our market-leading efficiency, and our multi-channel distribution model. Together, these strengths mean that we face into this period of uncertainty with continued confidence in our financial resilience. Our prudent approach to lending supports our low-risk balance sheet, which has seen no net loan growth over the last 10 years, and over 80% of the group's total lending is now secured. Although the economic outlook is uncertain and impairment will inevitably be impacted, our strong balance sheet is benefiting from our prudent approach to lending. We have a clear strategic focus on prime UK retail business, which includes over 75% of our loan portfolio. Our commercial portfolio includes around 35% exposure to SMEs and mid-corporate clients, which is over 80% secured. Importantly, we have limited exposure to the most at-risk sectors of the economy at this stage, and William will give you more details on this shortly. Our liquidity and funding position remains strong, including no net wholesale debts. The loan to deposit ratio has reduced further as a result of strong deposit inflows across both individual and corporate customers to our trusted brands, more than offsetting the increase in our loan book over the quarter. On capital, our CTUN ratio of 14.2% means that we have significant resources available to support our customers especially after the reduction in the UK countercyclical capital buffer. I have talked to you many times about our relentless focus on efficiency, and this will now give us even greater capacity to support our customers and to absorb additional costs associated with the coronavirus outbreak, such as enhancing home working capabilities. Finally, our multi-channel distribution model includes the UK's leading digital bank, and this is playing a vital role in continuing to serve customers throughout the lockdown. We have gained 217,000 additional digital users since the end of March alone. including 33% of new registrations from customers over 60 years old, up from around 13% previously. It is this strength that will form the core of our response to this crisis. Coronavirus represents an unprecedented challenge for the group and the whole of the UK, and we will be tested over the weeks and months ahead. However, I have great confidence in the resilience of our business model, the strength of our balance sheets, and most importantly, the professionalism of our staff. I will now hand over to William, who will run through the financials in more detail.

Thank you, Antonio, and good morning, everyone. I'm going to give an overview of the group's financial performance in Q1. After a decent beginning, in the first quarter, we've started to see the emerging economic impact of the coronavirus crisis. We are well-placed to face an uncertain future, but this will, of course, impact our performance going forward. Turning first to slide seven, I have a summary of the financials. Pre-provision operating profit of 2 billion is down 19% on the prior year. Supported by a net interest margin of 279 basis points and a continued focus on costs, Pre-provision operating profits were solid. However, statutory profit before tax of $74 million and the return on tangible equity of 5% were both heavily impacted by the impairment charge of $1.4 billion in the quarter. The results also include $387 million of negative below-the-line insurance volatility relating to the exceptional market movements we saw in the quarter. This stems predominantly from falling exchange prices and rising credit spreads. It's worth noting that this volatility is market-led, and we've seen some of it reversed in April, but it's clearly too soon to make a call on Q2. CNERF per share of 57.4 pence is up 6.6 pence in the quarter, including 4.9 pence of support from the increased net surplus in the group's defined benefit pension schemes. This is again driven by widening credit spreads, and we've also seen some initial reversal in April. As you've heard, the balance sheet remains strong. The loans deposit ratio has reduced to 103%, as strong corporate loan growth has been more than offset by deposit inflows, largely from those same corporate clients. We've also completed 6.9 billion of wholesale funding year-to-date. Alongside the term funding scheme, this means we now have only a small residual funding requirement in 2020. Our capital build has clearly been impacted by the statutory performance in the quarter and the limited RWA increase. However, benefiting from the 83 basis points from cancelling the 2019 dividend, the CT1 ratio is now very strong, having increased to 14.2%. I'll now turn to pre-provision profit on slide eight. Net income is down 11% impacted by the exceptionally low rate environment and a slowdown across all of our key markets, both of which we expect to continue in Q2. The net interest margin is down 12 basis points from prior year at 279 basis points. We expect to see the full impact of these lower base rates, changes in the balance sheet mix, and fee forbearance landing in Q2. Other income in the quarter was 1.2 billion. Post the coronavirus outbreak, this was impacted by lower activity levels across the group, as well as a market-led write-down in the assets of Lloyd's Development Capital and the Business Growth Fund of approximately 100 million. We'll maintain our focus on costs and indeed will absorb additional coronavirus-related expenses in 2020, while continuing to see absolute costs reduced. That said, I should stress that this benefit will of course be significantly outweighed by the revenue headwinds that we're anticipating. Turning now to slide nine and the impairment charge in a little more detail. Total impairment charge of 1.4 billion reflects our updated economic assumptions, as well as the impact of coronavirus-related disruption on existing restructuring cases. As you can see, the underlying impairment charge of 368 million in the first quarter is higher than last year, but this comparison is impacted by the very low commercial net charge in Q1 2019. Indeed, underlying credit quality we're actually seeing in the first quarter remains robust. Well, IFRS 9 economic scenarios, they have deteriorated significantly, and they drive the 844 million forward-looking model charge you can see on the slide. As you know, we run multiple economic scenarios around a base case and have maintained the probability weightings on our four cases. The severe downside, to which we attribute a 10% weighting, now generates an expected credit loss of over $7 billion, a pickup of $2.1 billion compared to the base case. Although consensus is expecting a V-shaped recession, in our base case we prudently assume that GDP grows by only 3% in 2021. We've also assumed that house prices fall 5% in 2020 and unemployment stays above 5% in both 2020 and 2021 and rises much higher in Q2 2020 in particular. These are all important points to consider when you look at the expected losses that we model under IFRS 9. Together this means that our stock of ECLs now stands at 5.2 billion, a cushion that is over 1 billion higher than at the year end. John has taken in Q1 based on our analysis at the quarter end and our view of the economic situation at that point as we look forward. Clearly, the economic situation remains very fluid and uncertain, and it's possible that there will be changes to our outlook in the coming quarters. As Antonio mentioned, in the current economic situation, it is inevitable that both the existing book and our new lending will be impacted, though this will be partially offset by government guarantees. The extent of the final impact, however, will depend upon the severity and the duration of the shock and how economic data and behaviours evolve. Looking at slide 10, the group's balance sheet is well positioned for the current environment, given the group's prudent approach to lending and the clear strategic focus on prime UK secured lending. Secured lending, as Antonio said, makes up over 80% of the group's balance sheet, with $310 billion in retail and $30 billion in SME and mid-corporates. The rest of the loan book comprises our prime UK consumer portfolio and our prudent exposure to UK large corporates. Looking at the AQRs by division, they have increased significantly in the prior year, although as with the total P&L charge, this is predominantly driven by the forward-looking ECL uplift associated with the worsening economic outlook. At an underlying level, the total AQR of 33 basis points and a write-off of £393 million are both in line with our through-the-cycle expectations and evidence the group's underlying credit quality. Again, we will not be immune from loan losses in the coming cycle, but we do start from a good place. Let me now turn to the strength of the portfolios, starting with the retail book on slide 11. Retail, as you know, has a deliberate focus on high-quality mortgages with an average loan-to-value of 44%, and nine-tenths of the book with an LTV below 80%. As you'll be aware, our 2006 to 2008 vintage mortgage book drives outsized losses in the Bank of England's annual stress testing exercise, but this portfolio is reducing at around 12% per year. In addition, much of this portfolio originally had LTVs over 100%, but the average is now slightly below the rest of the mortgage book at 43%, while over nine-tenths of these loans have an LTV below 80%. More generally, we've seen a significant interest in repayment holidays for mortgage customers and have granted around 400,000 to date. The average LTV of these customers is about 50% and there is no particular correlation to vintage. Our prime credit card book has seen limited drawdowns with balances down 6% since the year end, largely driven by the over 20% reduction in customer credit card spending levels in March. We currently have around 220,000 customers benefiting from payment holidays, having introduced them in April. And finally, our motor finance book is predominantly secured and subject to risk-based pricing assumptions and residual value provisioning. Having said that, there are uncertainties given the used car market is effectively closed right now. So to turn to commercial banking on slide 12. The commercial portfolio benefits from a diverse client base and sector caps and limits across the book. The significant de-risking undertaken in recent years means that around 75% of exposure is to investment grade clients. We have limited exposure to riskier sectors, including only 2 billion to leverage finance and low average LTVs in our commercial real estate book. Less than 3% of group lending is to the sectors seeing the greatest impact from coronavirus. the associated lockdown and we're working closely with those affected clients we saw around 8 billion being drawn on revolving credit facilities and other corporate institutional facilities in march this drawdown was more than matched by commercial deposits as clients sought to preserve liquidity we will continue to work with clients to understand their needs though it's interesting to note that rcf drawings have slowed significantly in april Alongside this, while lending balances in commercial banking have increased by 5.3 billion in the quarter, RWAs have increased by much less. This is because undrawn facilities are already risk-weighted at 75% of the level of the drawn balance. As Antonio mentioned, we're enthusiastic participants in the government-sponsored lending schemes, as we believe that the schemes are of the utmost importance to large sections of society. There will inevitably be some losses from these schemes in coming periods, although the final amount will depend upon the severity and duration of the economic shock. Let me move on to slide 13 to look at liquidity, funding and capital in a little more detail. The loans deposit ratio reduced to 103% as a result of the flight to safety we have seen within commercial deposits, as I mentioned earlier. We've also taken an opportunistic approach to wholesale funding as the markets have remained open for us. We've completed nearly £7 billion of funding to date across the whole co and opcos since the year end. Given our funding to date and our access to the new term funding scheme for SMEs, which we estimate to be up to £39 billion, we will now have only a small residual funding requirement for 2020. On capital, our CET1 ratio of 14.2% is comfortably above our requirements, particularly since the reduction in the UK counter cyclical buffer to zero. The headroom over the current requirements of 11.3% of nearly 300 basis points, or six billion, plus our solid pre-provision profitability that I mentioned earlier on, gives us significant capacity to absorb potential credit risk while continuing to lend in support of the real economy. As I mentioned a moment ago, we've seen limited risk-weighted asset expansion in the quarter. RWAs are up $6 billion, of which $2.3 billion is due to the previously flagged securitization rule changes in January of Q1, while a further $2 billion relates to currency and CVA. Our stance on large corporate lending means that we have so far seen very limited ratings migration, although clearly there may be some further impact in future quarters. And finally, to turn to slide 14. In conclusion, the UK faces an uncertain outlook. However, we remain absolutely focused on supporting our customers, protecting our colleagues, and remaining present in communities across the UK. Our multi-channel distribution model with the UK's leading digital bank is enabling the group to continue to serve customers throughout the lockdown. Our efficient low-risk business model and enhanced capital strength give us even greater capacity to absorb potential impairments while continuing to support our customers. Looking forward, we will come through this crisis together. In the meantime, we're learning a lot. During and after the crisis, we will further build on our connectivity with customers, adapt our product range, and continue to build the group's strategic cost advantage through new ways of working. We will, of course, be tested. but I have every confidence in the strength of our business and dedication of our colleagues. And with this, we will maintain our focus on supporting customers and the UK economy. That concludes the presentations for this morning. Thank you for listening. Antonio and I are now ready to take your questions, so I'll hand back to the operator. Thank you.