Earnings Transcript for DNB.OL - Q4 Fiscal Year 2023

Operator: Hello and welcome to the DNB Q4 Conference Call. Please note this conference is being recorded. [Operator instructions]. I will now hand you over to your host, Rune Helland, to begin today's conference. Thank you.

Rune Helland: Thank you very much and hello everyone and welcome to DNB's fourth quarter analyst call. The whole management team of DNB is here, eager to answer all the questions, including Ida Lerner, of course, and then Head of Corporate, Harald Serck-Hanssen, Head of Personal, Ingjerd Blekeli Spiten and the CRO, Sverre Krog, and Head of Wealth, Hakon, and also the Head of Market, Alex. So, before we start, Ida will give a short introduction of the highlights for the quarter. Ida?

Ida Lerner: Thank you so much and thank you all for taking the time to participate in this call. The Norwegian economy is robust and there are clear signs of a soft landing in stock. BNP continued to decline in the second half of 2023 and mainland GDP growth is expected to end up at 1% for the year. Our economists expect a growth in 2024 of 0.6% and 1.4% in 2025. Mainland corporate investment is expected to have decreased by 2.1% in 2023 and to see a further decrease by 1.7% in 2024 and then start to see an increase again at more normalized levels from 2025 and onwards. Household consumption declined in '23 as expected, but is expected to start to increase again in 2024 when real wages are up and are expected to start to increase again following two years of decline. Unemployment remains low at 1.9% and even though it's expected to move up towards 2.8% in 2025, this is still at a historically low level. Wage growth was around 5.4% in '23 and is expected to be around 5.1% in 2024. The key policy rate is now at 4.5% following the latest hike in December and is expected to remain at this level until September when our economists expect the first cut, followed by a gradual decrease to 3.25% at the end of 2025. Now moving on to the strong quarterly results from the index; there is a strong underlying result with a return on equity of 14.6% in the quarter and 15.9% for the year. This was driven by increase in NII of 1.8% from the third quarter and strong performance across product areas within commission and fees up 8.1% from the corresponding quarter last year, as well as FICC income where we continue to see strong results even this quarter. The loan volumes were affected by general lower market activity and are down by 0.5% in both customer segments. Deposits were also down in the quarter but up in the corporate customer segment. The credit portfolio remains robust and well diversified. This quarter we have impairment provisions of NOK920 million, primarily driven by customer-specific events in large corporate and small to medium-sized enterprises within sectors that are more exposed to higher interest rates, lower construction activity and lower overall consumption. The capital position of the bank is strong at 18.2%, 140 basis points above the regulatory expectation, which is now at 16.8%. With a sound profitability and strong capital position, we were happy to announce that the Board has proposed a nominal cash dividend of NOK16 per share to the Annual General Assembly, A clear signal that we continue to deliver on our dividend policy also. And with that, we open up for questions.

Rune Helland: Thank you, Ida.

Operator: Thank you. [Operator Instructions]. The first question comes from the line of Sofie Peterzens from JPMorgan. Please go ahead.

Sofie Peterzens : Hi, this is Sofie from JPMorgan. So, my first question would be on the dividend. In the past, you always said that you wanted to have a progressively higher year-on-year dividend. Given that you increased the dividend quite a bit to NOK16, should we think that this still holds, that the dividend will grow every year? Or will it be more a function of your net income? How should we think about the progressive growth in dividend? Then my second question would be, given that expectations or that interest rates are trending down, in the past, you used to say that history suggests that a 25 basis points cost in rate could potentially reduce your NII by a NOK1 billion. If you don't need guidance, maybe if you could just talk about the different moving forwards, how we should think about kind of pure sensitivity to lower interest rates. And then my final question would be, your stage three coverage is only 22% overall, but I noticed that in the theory book, for example, the stage three coverage is only 13%. Why is it so low and why are you comfortable with stage three coverage at these levels? Thank you.

Ida Lerner: I can do the first two and then Sverre can do the last. With regards to the dividend payment, we reiterated from stage today that our dividend policy remains intact. This is the second year in a row with a high nominal increase of NOK3.5 compared to the previous year, but we remain committed to our dividend policy with a cash element above 50% of the results and also, as you mentioned, aim to pay a higher nominal dividend per share per year, in addition to continuing to look at share buybacks as a tool to pay out excess capital over time. Interest rates, yes, policy rate topping out. We still point to a tailwind related to previously announced, but not fully implemented re-pricings in our customer portfolio. Market expectations is for rates to start moving downwards towards the end of the year, either September or December, in aggregate five decreases of 25 basis points in total by our economists and then remain at 3.25 for the foreseeable future. Now, as it is on the way up, also on the way down, the impact of this would depend on our actual re-pricings towards customers. So, we can't really sort of give you any more detail, but of course, we've lived through now 14 rate hikes on the way up. So, I think you have a meaningful reference base to think about what kind of effects we could be seeing also on the way down.

Sverre Krog: And in terms of stage three, apart from the part of the portfolio that is based below NOK50 million, which is model-based, every stage three exposure is individual customer assessment where we assess both capital and potential impairment. As such, we are pretty confident that the stage three exposure is the correct representation as it is.

Ida Lerner: And I just on commercial real estate, I think it's important to highlight also that 74% of the exposure in commercial real estate remains to be in low risk and that is always fairly very strongly scrutinized on a quarterly-basis as well and followed up. So that is, of course, important when looking at the state three impairment.

Operator: The next question comes from the line of Johan Ekblom from UBS. Please go ahead.

Johan Ekblom: Thank you, very much. Maybe to continue a bit on the asset quality side, so a couple of things. First of all, on the commercial real estate, there is a sharp increase in stage three and I think if we read the press, we can all have some idea what that's related to. It's also an increase in stage three ECL. Given the transaction that was announced in January, should we expect some of that increase seen in Q4 to reverse in Q1? So that's the first question. I guess the second one is, if I look at your stage two exposure, the retail industry is up again sharply and is now a quarter of the total retail exposure. How worried should we be about that going ahead? And then finally, just on the personal customer side, it looks like there was around a 20% reduction in the stage two exposure, which is kind of reversing almost all of the increase in stage two we've seen over the last 12 months to 18 months. So, can you maybe comment on why personal customer exposure looks so much better in December than it did in September, please?

Ida Lerner: Should I start and then, Sverre, you can also follow up on the other part. In terms, Johan, that we can't comment on customer-specific situations and I believe that you've read the press just as everyone else has. So, you have to draw your conclusions based on that, but what I can say is that everything that is in our numbers as of end year was also what was in our books as of yearend. What has happened since then, that means in January and moving into February, is not accounted for and will therefore be seen in the numbers when we move into or when we provide our first quarterly results. So that, I think, is the only thing I can comment on that apart from some others.

Sverre Krog: And when it comes to retail exposure, yes, there is an increase in stage two. Part of that is migration and it is one of the factors that we are watching, but we still see no cause for systemic concern there. There's also a seasonal frustration with more drawing of limits, but overall, we are still comfortable with our retail exposure. Could you please repeat the last question on personal customers?

Johan Ekblom: Just on personal customers, it looks like the stage two exposure fell quite substantially in the quarter, right? So, it went from NOK65 billion to NOK56 billion and that's kind of the level we were at when rates were 250 basis points lower than we are today. So, I'm just trying to understand, is it a model update or why is the stage two exposure 20% lower today than it was three months ago? It doesn't seem to tally with a rate type that was a surprise to many. And your expectation of fairly slow rate cuts from here, etcetera, I would have expected it to be kind of stable to increasing over time and 20% reduction seems rather a lot in a quarter.

Sverre Krog: Yeah, first of all, I think the first thing is that the majority of our personal customer's portfolio is in stage one. I think its NOK19.2 billion in stage one versus 56 in stage two. There will be fluctuations from quarter to quarter. You see the fluctuation that comes down from Q3 to Q4 is about equal to the world fluctuation from Q2 to Q3. So, there will be fluctuations from quarter-to-quarter. We don't see any systemic increases. There is nothing which gives us concern about personal customer portfolio. There are some, but not systemic increases in amortization reliefs or overdues. All both of those parameters are still below 2019 levels, so at a low level. So, nothing that gives us cause for concern or indicates any systemic change there.

Johan Ekblom: And maybe just to follow-up, Ida, on what you said in the beginning. I recognize we can't talk individual customers, but hypothetically, what was in the public domain in December was that the collateral was significantly larger than exposure and in a hypothetical situation where you would take over collateral, would there be a reason to book a provision if you feel you're 100% covered? Like are there provisions booked for costs or things like that, just to try and think of how the mechanics work or why there would be a provision for something that's got 100% collateral coverage?

Ida Lerner: Hypothetically, and in an ideal world, you will take provisions for all exposures that are in stage three. Having said that as a matter of point or two, these are individually, they assess and also worked on for quite some time. Thereby, we look at both the cash flow, we look at also the security position and there is an opportunity, a viable opportunity that you aren't taking large impairments related to exposures where you have a well-secured position. Did that answer your question?

Johan Ekblom: Yeah, more or less. I might follow up with Rune later.

Ida Lerner: Yeah, and what I can point to, what you would have then is that you have a capital add-on in terms of that its risk exposure amount increases, which you are also seeing and when looking at the numbers in the fact book. And I'm not sure if this is going to be helpful, Johan, but when we do the assessment, several scenarios are outlined where you value them differently. So regardless of the value of the asset today, you consider several different outcomes, which is why you would still end up with one, even though today the estimate is that you're in full coverage.

Operator: The next question comes from the line of Riccardo Rovere from Mediobanca. Please go ahead.

Riccardo Rovere : Thanks. Thanks for the good news. Good afternoon, everybody. Thanks for taking my questions. So, two or three, if I may. The first one is to get back on NII and sort of follow up on Sofie's question. The largest bank hiked 25 basis in August and you repriced the existing assets and liabilities, not the new business, the existing assets and liabilities on the 25 of October. So, it means that this quarter includes two months, so 66% more or less of that repricing, whatever the repricing was. And then the largest bank hiked again in September, 25 basis, the repricing was effective since the 26 of November, so let's say one month. So it's like saying that in this quarter you have the effect of a 25-basis point hike, two-thirds of the first one, one-third of the second one and in your slide you show that the spread effect is kind, if I remember correctly, kind of NOK 400 million for a quarter, which if I multiply that by four, I would end up again at NOK1.5 billion, which was, correct me if I'm wrong, the guidance that you provided, I don't know, six months ago, a year ago, or whatever it was, I don't exactly remember. Is there anything wrong in what I'm saying, because that's what your slide would suggest. This is the first question. The second question I have is, again on an NII, given the rate that it's NOK4.5 billion, and given at the beginning, or let's say one year ago, one year and a half, your guidance was NOK1.5 billion, NOK1.6 billion, when rates were moving up. Now the rates, and then all of a sudden, the sensitivity, the guidance you provided on sensitivity were getting smaller, a little bit smaller and smaller. Now it would make sense, correct me if I'm wrong, it would make sense when rates do go down to work exactly the other way around. So, you eliminate most of sensitivity at the beginning, you get the best at the beginning, and then less at the end of the rate cycle. That's fair to say. And then another question, I really don't understand how the NII components from the commercial paper and bonds can collapse by almost a NOK1.5 billion in a quarter when the book is going up significantly. Looking at the stock market, the book is up NOK165 billion, or something like that. Commercial paper and bonds have share value from NOK416 million to almost NOK570 million. And the NII component on interest income is down almost NOK1 billion. How can this be possible? Thanks.

Ida Lerner: Lots of very interesting and highly relevant questions, Riccardo, I'll try to answer it as accurately as I can, but you know that part of your question is also something that is impossible for me to answer in terms of future outlook and what potential repricing’s will come, but if I start with your analysis or your assessment in terms of what we are seeing this quarter, you are right in saying that we have seen partial effects of the repricing’s that was implemented in end of October and end of November. Those two repricing’s, we haven't provided an indication of what the effects will be. We were just saying that there would be a positive tailwind effect relating to that. When looking at the effects that you're seeing today, you also need to bear in mind these, as we've always said when we talked about and communicated the effects of the previous repricing, is that that's based on the portfolio composition as of that moment. What we talked about in the third quarter was that we saw somewhat of a movement within the composition in between types of savings accounts and in between transaction accounts and savings accounts as well, which we continue to see in the fourth quarter. In addition to that, you're also seeing decreased volumes in personal customers in deposits, an increase in currency-adjusted deposits in corporate customers, but also there, there is a difference between what type of deposits these actually are. On the loan side, you've also seen a decrease in loan volumes in the last two quarters, which is of course also impacting the annual effect of the repricing’s. So, I don't think I can give you more than that and saying that yes, you are right in terms of the implementation and when the repricing’s have been implemented and then we also have a positive tailwind effect moving into 2024 from these two repricing’s, in addition to the repricing that was announced following the Norwegian Central Bank change of key policy rate in December, that will be implemented end of February. When it comes to future outlook, that I'm unable to talk about that. That is a consequence of the repricing going forward. Again, we also want to point to the competitive environment that we see in Norway. Competition continues to be fierce. We continue to see strong competition both on the personal customer side as well as on corporate customers, but again, we point to the rational behavior of the banks operating in Norway, which continues to be an important factor. When, when you are -- I must say I'm quite impressed by the fact that you found this because we haven't focused as much on the interest on commercial papers and bonds as we probably should have in terms of showing you what that was. This is actually a fault in the elimination in the third quarter of 2023, which means that we had two high impacts at flow -- or income as well as costs in that quarter. It's neutral on an NII perspective, but the volatility that we see in these numbers aren't accurate. It's more of a restatement of what was wrong in the third quarter. So that is simply what has happened. There's no underlying change or anything like that. We should probably have highlighted that in a footnote.

Operator: The next question comes from the line of Namita Samtrani from Barclays. Please go ahead.

Namita Samtrani : Hi. Thank you for taking my question. Firstly, the group sprinted like a 15% ROE in 2022 and around 16% in 2023. So, I'm just wondering why hasn't the ROE target been revised upwards from the current above 13%, given you expect rates to only fall by 125 bps in the next few years? And secondly, just on the lending spreads in the corporate segment, they look a bit weak to me over the past year. Have you been able to pass on pricing to corporates, particularly in the ocean industries and future in tech industries? Thanks very much.

Ida Lerner: Thank you for your questions. I think it's an important element to our target on return on equity that we reiterate is our most important financial target that we are saying minimum 13% and we have longer term trending targets and this was set at our Capital Market Day at the end of 2022. So, we have decided not to change that even though markets have moved a bit differently than anticipated, but I think from our numbers, you can see that we do optimize and certainly aim to deliver above the 13% when that is possible. With regard to the lending spreads, the corporate side, it's fair to say that these loans are priced on a margin basis. They are priced with a reference rate and a margin. So, there is no impact of increasing policy rates in that. This is transferred immediately to the client in full and typically they have three years, four years, five years loans with a fixed margin. So, it's not as easy to read the monetary policy into the margin picture on the corporate side. But Harald, would you like to add?

Harald Serck-Hanssen : Yeah, I'm not sure what you're referring to in terms of the weakening, because if you look at Page 18 in the fact book, the lending spread is up from 2.22% to 2.26% in the corporate segment during the year. And if you look at some of the industries specifically, we've also had, like you mentioned, shipping, shipping offshore energy. We've had the improvement in portfolio quality as well. So, both increase in average margin and improvement in portfolio quality has led to a strong increase in return on equity.

Operator: The next question comes from the line of Jakob Kruse from Autonomous. Please go ahead.

Jakob Kruse : So, just on the net interest income side, could you just talk a little bit about the volumes that you're seeing on the deposit side of the corporate and retail side, just in terms of what the percentages are now on savings accounts and current deposits? And am I right that you're pricing quite aggressively on the savings account side, especially for the larger clients? Is that driven by competition in the market or are you leading the charge there?

Ida Lerner: Yes, if I start with your first question, we aren't specifying the competition or the split between transactional accounts and savings accounts on the corporate customer side. On the personal customer side, we've previously said a 25%-75% split. We are now seeing that that is affected by the fact that people are behaving rational and are moving some of their funds from transactional accounts into savings accounts. So, I would say that that has shifted slightly to now be more in the region of 23%-77%. And pricing for larger clients on the deposit side, yes, that is competition. It's a very different market than typical retail SME. So that is priced on the margin, but anything we take on our books is accretive to us and benefits us from the funding side. We would typically compare that to the senior debt lending we can raise in the market.

Jakob Kruse: I'm sorry, just to be clear, I'm talking about the retail client base, the larger, I think it's half a million or more. When you say competition, who are the main active retail client.

Ingjerd Blekeli Spiten : Retail client, okay. On the retail side, there is no individual pricing on the deposit side. Its different savings products with different prices and as Ida indicated, there's a slight, a mixed change in our deposit base, which is natural because when there's more to gain from moving the funds from one product to the other, we see that people actually do so, but all of our deposit products are profitable, but they're different accounts with current accounts, not yielding an interest rate, but also savings accounts yielding a different interest rate to clients. If you move up to the private wealth part of the business, private banking, you would find individual pricing for a smaller segment of that, but that's a smaller part of the volumes that is reported in the retail sector.

Jakob Kruse: So, sorry, just to -- these savings accounts plus, so Sparekonto Pluss, which I think is paid for by 5% after NOK0.5 million of funds, isn't that essentially a savings account for a slightly larger client, which looks like a pretty high level of pricing compared to other Nordic banks with similar accounts?

Ida Lerner: It is a savings account for -- you don't need to be sort of specifically, particularly wealthy or a large client to benefit from that product. It is a product that we launched towards the end of last year, and it is due to the competitive environment, and the competitive environment cannot be seen across the Nordics in that sense. Here you have local markets.

Jakob Kruse: So, is it, and who is driving that competition? Is it the savings banks, or is it like all the above?

Ida Lerner: It's all of the above. It's the market in general.

Jakob Kruse: Okay. Thank you.

Operator: [Operator instructions]. The next question comes from the of Hugh Moorhead from Berenberg. Please go ahead.

Hugh Moorhead: Thanks for taking my question. Another one on deposits; have you seen much of a change in the mix shift into term products during the quarter or in early 2024 and how might you expect that to evolve during 2024? And then also on wholesale funding issuance, long-term wholesale funding, I think there's about NOK100 billion due to move in 2024. Should we expect a similar level of issuance this year, or might it be a little bit higher? Thank you.

Ida Lerner: With the funding side, you're right in terms of the -- we expect to do this approximately the same level of funding as we did last year, NOK100 billion. That will be shifted towards covered bonds and senior preferred and not senior non-preferred as we saw last year. So, that is the change. Your question in terms of the mixed shifts in term products, was that your question on deposits?

Hugh Moorhead: Yes, sorry. So, the shift from transactional or sort of demand savings products into term accounts.

Ida Lerner: Yeah, and that was what I was referred to in terms of that we're seeing that there are two things that is happening in the personal customer segment that we point to. First of all, that our customers to an increasing degree, as we mentioned in terms of the rational behavior, is that they're using some excess liquidity to repay their debts, which is of course very natural where we are today. In addition to that, we're seeing some shifts from transactional accounts into savings accounts and that's where I talked about the changes, like where we previously had 25% on transaction accounts in personal customers, where we now have 23% on transactional accounts and 77% on one type of savings account and we have many different savings accounts, so that's important to point to as well. But on the corporate banking side, we are not specifying that. I think it's also important to say that even though we see an increase in asset under management this time, we're not seeing big shifts in terms of deposit volumes flowing into money market funds, or that that's flowing into to other type of mutual funds either.

Operator: We have a follow up question from Riccardo Rovere from Mediobanca. Please go ahead.

Riccardo Rovere : I just wanted to understand why up-risk went up so much in the quarter. Maybe is this anything to do, I don't know, with Poland? And let's assume that Norges Bank is correct in saying that rates will stay more or less at this level for a good part of time before. The market is different, but let's assume that we decide this right. Do you see any chance that it's up to chaps to release today? That is not the current in case of rates to stay more or less where they are for most of time.

Ida Lerner: Could you repeat that last one there, Riccardo, please? I'm not sure we fully got it.

Riccardo Rovere : The Norges Bank is saying that rates will stay more or less where they are for a good part of '24. Let's assume that we decide the Norges Bank is right. The market thinks differently, but let's use the indication of who decides where the rates will be. Is there anything in the results of your compare having released today that we consider not recurrent or not sustainable if rates to stay where they are for a good part of '24?

Ida Lerner: Well, I understand where you're coming from. It's slightly challenging to be very precise about it. We have talked about moving bits and pieces in our portfolio that is related to customer behavior and we believe that there will be customer related activity also on the lending and the deposit side, also in the stable rate environment. Growth expected to be lower, but we do expect more clients to select us and our products. I would not be surprised if some customers continue to repay on their loans if they have excess liquidity and there might be further clients paying even closer attention to how they manage their savings to put it that way, but there are no bigger shifts that we see any indication of. I think it's been 14 rate hikes behind us. It's been fairly predictable and stable in the larger scheme of things so far and I think that we have no reason to believe that there should be any larger shifts. But of course, there is a dynamic picture with more than two million retail customers and 300,000 business customers that can impact in some ways or others. With regards to up-risk, I'll pass it on to Ingjerd.

Ingjerd Blekeli Spiten : And you're right in saying, if you look at the core tier one capital ratio, you can see that we have an effect of 30 basis points on the core tier one capital ratio related to increases in risk exposure amount related to operational risk. This is purely regulatory driven and will most likely impact all of the banks being regulated in a similar way. Where you have an average or the operational risk exposure amount element of operational risk, it's a pure equation of how much income you have, which means that you have an average of the last three years and then the output means that you increase your operational risk element in the risk exposure amount. This is something that is looked at, at the end of the year, which means that you have an impact at the end of the year when we restate the numbers. So, if income continues to increase in 2024, there will be an operational risk element associated to this as well. If it decreases, it will then subsequently also move down just purely as an effect of how you calculate risk exposure amount associated with operational risk and it has absolutely nothing to do with Poland. Just to emphasize that.

Operator: The next question comes from the line of Andrew Coombs from Citi. Please go ahead.

Andrew Coombs : Thanks for taking my question. I think we've exhausted net interest incomes and perhaps I could just turn to OpEx. If I look at the OpEx, just a couple of points of clarification; firstly, the NOK80 million non-recurring in the quarter, which line items are booked in? That's the question. Second question would then be the step up in the IT consultant cost, whether that's expected to continue or at this level or whether you expect to dip back. And then third and final question, if you look at the increase year-on-year, it's up 12%, strip out the NOK80 million, strip out the pension, strip out the NOK200 million on activity-based expenses, I think you're still looking at a 5% kind of underlying increase. Should that be something we should be extrapolating in terms of cost inflation going into 2024? Thank you.

Ida Lerner: Yes, thank you. If I start with your question related to the non-recurring item, that is a discontinuation of an IT system, so that you will see an IT expense. When looking at the -- in terms of looking forward on relation -- in relation to IT expenses, we have converted external consultants into internal employees, which means that you will see that on increases in salary expenses rather than consultancy fees. In the fourth quarter, we had a high activity related to IT, but that also drove the cost. In addition to that, we have higher license and supplier costs overall, which is also of course inflationary driven as we've seen that the renegotiation of those contracts. We tried to do our best to smoothen out those costs over the year, but you will most likely always see a bit of a restatement effect in the fourth quarter where we sum up everything and see what is it that we've potentially underestimated in the year? We are quite clear on the fact that we don't want to under invest in IT efficiency automation in a period where we are in today and we will continue to do so also moving ahead. Again, working diligently on our cost base, working diligently on finding the best balance in terms of external consultants and having internal employees. When you point to the underlying growth, and I think if you look at the annual growth as well, I think you're right in saying if we end up around 5%, 6% and the loan growth has been 5.4%, I think that's an acceptable level. I shouldn't really pat myself on the shoulder here. I realise that, but it's in terms of, if you look at the underlying growth of cost, I think that's acceptable. Looking ahead, I don't think we can give you any further guidance than saying that the wage inflation or wage growth is expected to be around 5.1% next year and then we haven't seen the full effect of inflationary pressure related to third party agreements, but there we are focusing strongly on having the right partners and working also on our purchasing power when it comes to this, which I think is important for not only us, but all banks.

Ingjerd Blekeli Spiten : And just as an add on, we highlighted several areas with initiatives that we are working on to increase our cost efficiency and you've heard us mention these before, related to YES Bank and with an aggregate of NOK300 million. Our distribution, we have the opportunity to relate it to AI and the ability to reduce manual handling, if I should put it that way, in our call centers, as well as increasing efficiency in our KYC processes. These are all things that we're working on in order to offset as much as possible of the future inflationary pressure.

Operator: We currently have no questions coming through. [Operator instructions]. There are no further questions, so I'll hand you back to your host to conclude today's conference.

Rune Helland: Thank you very much and thank you all for participating and we here indeed, we wish you a fantastic day. Thank you so much.