Full Year 2019 Lloyds Banking Group PLC Earnings Call

London Feb 20, 2020 (Thomson StreetEvents) — Edited Transcript of Lloyds Banking Group PLC earnings conference call or presentation Thursday, February 20, 2020 at 9:30:00am GMT

TEXT version of Transcript

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Corporate Participants

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* António Mota de Sousa Horta-Osório

Lloyds Banking Group plc – Group Chief Executive & Executive Director

* Vimlesh Maru

* William Leon David Chalmers

Lloyds Banking Group plc – CFO & Executive Director

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Conference Call Participants

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* Amandeep Singh Rakkar

Barclays Bank PLC, Research Division – European Banks Analyst

* Andrew Philip Coombs

Citigroup Inc, Research Division – Director

* Christopher Cant

Autonomous Research LLP – Partner, United Kingdom and Irish Banks

* Claire Kane

Crédit Suisse AG, Research Division – Research Analyst

* Fahad Usman Changazi

Mediobanca – Banca di credito finanziario S.p.A., Research Division – Equity Analyst

* Fahed Irshad Kunwar

Redburn (Europe) Limited, Research Division – Research Analyst

* Guy Stebbings

Exane BNP Paribas, Research Division – Analyst of Banks

* James Frederick Alexander Invine

Societe Generale Cross Asset Research – Equity Analyst

* Jennifer Alexandra Cook

Mediobanca – Banca di credito finanziario S.p.A., Research Division – Former Analyst

* Joseph Dickerson

Jefferies LLC, Research Division – Head of European Banks Research & Equity Analyst

* Martin Leitgeb

Goldman Sachs Group Inc., Research Division – Analyst

* Raul Sinha

JP Morgan Chase & Co, Research Division – Analyst

* Rohith Chandra-Rajan

BofA Merrill Lynch, Research Division – Director & Senior Analyst

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Presentation

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [1]

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Good morning, and thank you for joining our 2019 full year results presentation.

I will briefly talk about the group’s financial performance and then review our strategic progress as we are now in the final year of GSR3. Vim will then give an update on our retail bank before William runs through the financials.

We remain focused on delivering our purpose of Helping Britain Prosper whilst building additional strategic advantages for the benefit of our customers and generating strong and sustainable returns for our shareholders. Against these objectives, we have again delivered significant strategic progress while continuing to invest in the business. We have made around GBP 2 billion of strategic investments since the start of GSR3 and are on track to meet our commitment of more than GBP 3 billion by the end of 2020. We have also generated solid financial returns in 2019 despite the challenging external environment and the large PPI charges we took in the first 9 months of the year in response to the unprecedented volume of information requests ahead of the time bar in August.

Underlying profit for the year amounted to GBP 7.5 billion with a market-leading underlying return on tangible equity of 14.8%. Statutory profit after tax was GBP 3 billion and statutory return on tangible equity was 7.8%, both significantly below last year, mainly driven by PPI. Excluding PPI, ROTE would have been 14.4%, ahead of prior year, illustrating the profit-generation capacity of the group as PPI comes to an end.

Our unique business model delivered this solid statutory performance, which together with our robust capital position has enabled the Board to recommend an increased final dividends of 2.25p per share, taking the total ordinary dividends to 3.37p, an increase of 5% on last year in line with our progressive and sustainable ordinary dividend policy. And we are moving to quarterly dividends from Q1 2020. Our approach of progressing our strategic transformation at pace and continuing to deliver strong and sustainable returns to shareholders while being watchful and responsive to external risks remains the right one, and this confidence is reflected in our 2020 guidance.

In terms of the financials, as I said, we delivered a solid performance despite the previously mentioned headwinds. Net income of GBP 17.1 billion was slightly lower than prior year, with the net interest margin remained resilient at 2.88%, in line with our guidance. At the same time, we maintained our relentless focus on costs and reduced total cost by 5%, including BAU costs by 6%; and delivered positive operating jaws. This enabled our market-leading cost-to-income ratio to reduce further to 48.5% even while we continued to invest strongly in the business. We are maintaining our prudent approach to risk, with credit quality remained strong and the net asset quality ratio of 29 basis points within our guidance despite the 2 large single-name cases we talked about earlier in the year. And the group built 86 basis points of free capital. Pre PPI, the capital built reached 207 basis points, demonstrating the capital-generative nature of our business model.

The group continues to target an ongoing CET1 capital ratio of around 12.5%, plus a management buffer of around 1%. For now, given the announced increase in the countercyclical buffer likely only partially mitigated by the proposed Pillar 2A offset both at the end of 2020, we are holding a level slightly above this, finishing 2019 at 13.8%. From 2021, our current view all else being equal,is for the Pillar 2A to fall further as pension contributions increase, enabling us to bring capital back towards our target level of circa 13.5%. The business model remains strongly capital generative. In line with our ongoing guidance, we expect free capital build of 170 to 200 basis points in 2020. And the Board will continue to consider potential excess capital repatriation at each year-end.

We have grown our portfolio prudently in key segments. Open mortgage book, consumer finance, SME and Mid Markets have grown by over GBP 6 billion since the start of GSR3, whilst large corporates are deliberately lower as we continue to optimize the commercial portfolio towards higher risk-adjusted returns.

The open mortgage book was up GBP 3.5 billion pounds in 2019 as a result of the Tesco book acquisition announced in September. Our SME portfolio has continued to outperform and has grown by 3.3% since the start of GSR3, ahead of the rest of the market. We are also focused on delivering the growth opportunities in our Insurance and Wealth business. Since the start of GSR3, our open book assets under administration have increased by around GBP 37 billion, supported by GBP 18 billion transferred from the Zurich acquisition.

On the liability side, I have talked to you before about our strategy to grow high-quality current accounts and reduce tactical balances. Since the start of GSR3, we have grown personal current accounts by 11%, well ahead of the rest of the market. This shows the strength of our customer-focused multichannel, multi-brand strategy.

I will now turn briefly to the U.K. economy. The U.K. economy remains resilient despite the challenges in 2019 from the slowing global economy and elevated uncertainty from both domestic politics and the future relationship with the EU. With the new majority government now in place and the U.K. having left the EU, there is now a clearer sense of direction and some signs of gradually improving economic indicators. Households’ spending power is rising at close to 2% a year, the strongest for 3 years, reflecting a combination of stronger pay growth and low inflation. Employment continues to reach all-time highs. The unemployment rate remains close to its recent 45-year low, and we are seeing some signs of improving consumer confidence. On the corporate side, business confidence also shows evidence of a gradual recovery as Brexit-related uncertainty has reduced. And similarly, housing market data displays early signs of upturn in both activity and prices driven by the reduced uncertainty. However, despite the early signs of improvements in economic indicators and the expected significant government stimulus through infrastructure projects to be potentially announced next month as part of the budget, the interest rate curves are yet to react. There remains uncertainty given the ongoing trade deal negotiations which continues to weigh on absolute growth, and of course there remains uncertainty about how the coronavirus outbreak will impact the world economy.

I will now give you a brief update on the group’s significant strategic progress in 2019.

2 years ago, we launched the third phase of our strategic journey with the aim of transforming the group for success in a digital world while continuing to support our core purpose of Helping Britain Prosper. Our strategy is underpinned by increasing levels of strategic investment, which is only possible due to our unique business model and market-leading efficiency. This investment drives improvements to the customer experience and delivers further productivity enhancements, which ultimately both creates greater investment capacity and underpins strong and sustainable returns. As I have said on many occasions, we see this as a key competitive advantage of our business model. Our plan is built upon a number of ambitious targeted outcomes across 4 pillars covering the breadth of the group. With 1 year remaining, we are performing well against these and running ahead of plan in many areas. I will look at some of the outcomes in more detail.

Through the combination of our unique business model and strong digital capabilities, we are the only provider to serve all of our customers’ financial needs in one place. Our unique Single Customer View is now available to more than 5 million banking and insurance customers, covering multiple products, including pensions, home insurance and protection. And we remain on course to extend this to around 9 million customers by the end of 2020. Engagement levels with Single Customer View significantly surpass those of stand-alone insurers as well as initial Open Banking user activity. Our continued efforts to enhance customer experience has resulted in consistent improvements in our Net Promoter Scores, up by 3% during the first 2 years of GSR3 or by nearly 50% since 2011.

In line with our commitment to Helping Britain Prosper, we have continued to demonstrate support for U.K. businesses. We are a leading lender to SMEs. We have increased our stock of lending by around GBP 8 billion since 2010 versus a market that has decreased by around GBP 21 billion. This has resulted in a market share increase of around 6 percentage points to 19% at the end of 2019. We are also seeing a strong start for our joint venture Schroders Personal Wealth. In 2019, Retail wealth referrals increased by 33%, with associated gross new assets under administration growing by 21%. Both have shown a strong pickup since the launch of the joint venture. We are confident that Schroders Personal Wealth can build on this positive start and meet the ambition of becoming a top 3 financial planning business by the end of 2023.

We also continued to operate a disciplined approach to cost management supported by investment in transforming ways of working and new technological capabilities. And we have today announced a new target of less than GBP 7.7 billion of operating costs in 2020. Our cost advantage relative to peers now stands at more than 13 percentage points, having improved by a further 3 percentage points in the last 2 years, and we remain committed to driving further efficiencies. As well as investing in our own capabilities, we also recognize a need to embrace external innovation and work collaboratively with fintech providers that can offer products and services that will deliver additional value to our customers. This has resulted in a number of exciting partnerships, and we continue to monitor opportunities in this space.

Successful execution is reinforcing our competitive advantage and creating new ones. We are future-proofing the business, delivering increasing levels of investment in key areas. In absolute terms, our technology spend increased by 14% year-on-year in 2019 and remains among the top quartile of global peers, while as I highlighted earlier, our cost-to-income ratio continues to improve. As a result, the group continues to deliver strong and sustainable returns for shareholders, with statutory return on tangible equity above peers over the period. Despite this, we are not complacent and remain focused on ensuring that our key strategic and financial priorities are delivered in 2020 while also thinking ahead to the next phase of our strategy.

Alongside this significant strategic progress, we are also continuing to deliver on our ESG targets. And today, we have published a separate investor presentation outlining our approach. This makes clear that we see ESG as a core element of building a sustainable business, not just an ancillary activity. We have a proven track record on ESG with our Helping Britain Prosper Plan, and I would like to highlight some of the areas we have led the market such as being the #1 U.K. bank in supporting green bonds for U.K. corporates and being the first FTSE 100 company to set public diversity targets for gender and ethnicity. We have also become the highest corporate payer of U.K. taxes in each of the last 4 years. And in January, we announced a series of new and ambitious targets that recognize the need to tackle climate change and promote green finance for the future business prosperity of the U.K. This includes targeting more than 50% reduction in the carbon emission we finance by 2030.

I will now hand over to Vim, who will talk about how we are delivering a leading customer experience in the retail bank.

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Vimlesh Maru, [2]

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Thank you, António. And good morning, everybody. I’m delighted to be here today to share the strategic progress we are making within the retail bank.

I’ll start with an overview of our business. We have an outstanding customer franchise with significant reach through our multi-brand and multichannel model. The combination of these allow us to interact with a broad spectrum of customers, generate data and insight and deliver excellent service through whichever channel they wish to engage. We are a truly customer-focused business and continually strive to make things simpler and more transparent for our customers. And our success here is reflected in an improvement in customer satisfaction scores by almost 50% since 2011, as you’ve heard from António; and a reduction in customer complaints by more than 75% during the same period. On the back of these strong foundations, we are delivering on our targeted strategic priorities. We remain on course to maintain our #1 branch market share by the end of the plan. We have the largest digital bank in the U.K. with 16.4 million digitally active customers and 10.7 million mobile app customers, both of which are up 3 million since 2017. And finally, we are delivering more tailored propositions to our customers. I will provide more detail on each of these later in the presentation.

During the first 2 years of GSR3, we have delivered a resilient financial performance against a challenging backdrop which has been characterized by low interest rates, heightened levels of competition and a number of regulatory developments. On the latter, we have often proactively made changes ahead of those implemented across the industry. Despite this, we have delivered stable income in the period with resilient margin trends due to the result of clear management actions in light of the competitive environment, a shift in business mix as we deliver a combination of organic growth in targeted segments and the identification of inorganic opportunities that are value accretive to our business. These actions have largely offset a more challenging environment for other income, a trend that we have seen across the industry. As a means to offset these pressures, in line with the group, we have demonstrated strong cost control despite investing heavily in our business, with BAU costs down 7% in the period and investment up 14%. In addition, underlying credit quality metrics have remained robust. As a result, the business, which accounts for around 50% of the group, has continued to deliver strong returns above the group’s target level.

Turning now to 2 pillars of our multichannel strategy.

The behavior of our customers continues to change. Whilst digital adoption has increased significantly in recent years, especially in our mobile channel, interactions with our branch network have continued to decline, albeit at a more moderated pace, in the last few years. Whilst these trends mean the way in which we serve our customers through the branch network will change accordingly, it is worth reiterating that we do not see branches as a cost lever. Branches represent a small proportion of group costs, and this is outweighed by the significant value to our multichannel model. Indeed, over 70% of our customers interacted with us through more than one channel in 2019. Given the strategic importance of our branch network, our priority has been on refocusing and reformatting this to meet the varying customer needs. The pivot towards serving more complex customer needs has delivered a number of tangible successes to date such as increasing market shares in relationship mortgages and business banking current accounts as well as a 19% increase in mortgages protected through the branch network.

The continued shift to digital channels and in particular mobile during the course of GSR3 is creating new customer expectations with a focus on simplicity and real-time insight, with these expectations also influenced by their experiences outside financial services. In response, we are delivering functionality enhancements that resonate with our customers. These enhancements include areas where we were first to market such as the integration of Google Maps in our app, which has the dual benefit of increasing customer satisfaction whilst also improving self-service capabilities and consequently freeing up colleague capacity. Our actions have supported an improvement in our mobile app NPS by 3% to 68.4 between 2017 and 2019. These developments, combined with our targeted propositions to customers, have enabled us to further strengthen our customer relationships, with current account customers growing by 9% since 2014, whilst average balances per customer have increased by more than 50%, showing that we remain the primary bank of choice for our customers. In a period where new entrants to the market have been increasing in share, we believe this demonstrates the success of our business in not only attracting new customer relationships but increasing our relevance for existing customers. The growth in PCAs also contributes to our balance sheet structural hedge that William will talk about later.

As the largest retail bank in the U.K., we have an unrivaled understanding of our customers with a vast array of data points providing unique insights on behaviors, preferences and expectations. This knowledge, combined with our significant investment in data and digital capabilities, is allowing us to better identify the varying needs of our customer base and consequently deliver more tailored propositions that deliver real value. For example, half of our customer base hold larger balances and have more complex needs. Through our multi-brand propositions, we have tailored our solutions for these customers. As an example, our Club Lloyds proposition, which offers credit interest, lifestyle benefits and access to preferential conditions for additional needs, aligns well with this population, with these customers holding balances nearly 3x higher than the average customer. It is this level of customer understanding that enables us to deliver products and services that offer true differentiation supported by the investment in our data capabilities. In the future, it also provides the opportunity to diversify our revenue streams. This will remain an area of major focus for us in the coming years as expectations for personalization continue to rise. And given our unique proposition, serving all financial needs in one place, we believe we are well positioned to build on this.

Finally, we have a leading franchise across a number of our business lines and have made good progress over the course of the latest strategic plan. In areas such as mortgages, we have operated with a clear strategy. Within the highly competitive intermediary channel, we have prioritized margin and risk over volume, as well as delivering excellent service for our intermediary partners, whilst we have grown more significantly in the relationship channel, supported by increased investment during GSR3. Elsewhere, we have continued to take share in targeted segments such as PCAs, car finance and consumer loans. Looking ahead, we will continue to adopt a channel-specific strategy in mortgages. In the intermediary market, which accounts for 75% of new business, the extent of our participation will likely be dictated by market pricing trends, as you saw in 2019 where our growth increased in the second half as the market improved. In consumer lending, we have successfully integrated MBNA, delivering a return on investment of 18%, above the original target. Going forward, we see opportunities for the — from the expansion of MBNA into personal loans. We also see opportunities in Motor Finance, where we have recently renewed a number of key relationships, including, I’m pleased to announce, Jaguar Land Rover.

We will continue to improve links between the retail bank and our joint venture Schroders Personal Wealth. We also expect the sophistication of our Single Customer View to provide customers with more functionality and further increase engagement, whilst we will better integrate our home and protection offerings within our digital and physical channels. In addition, working with Scottish Widows, at the beginning of this year, we launched our new lifetime mortgage proposition through the intermediary channel, and we will roll this out further during the course of this year. Finally, in business banking, our branches will be used to facilitate more meaningful conversations. And as António mentioned earlier, our collaboration with fintech partners as a group will enable us to combine innovative services with our significant scale.

These initiatives will leave us well positioned for the future and ensure that we continue to deliver a leading customer experience.

Thank you. And I will hand over to William, who will run through the financials.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [3]

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Thank you, Vim.

As António said, I will now give you an overview of the group’s financial performance in 2019. We can then open up for Q&A.

Turning to the first slide with a summary of the financials. As you’ve already heard, in 2019, the group delivered solid financial returns and a resilient underlying performance in what was a challenging external environment. NII of GBP 12.4 billion was down 3%, with a resilient NIM of 288 basis points, in line with our guidance. Other income of GBP 5.7 billion continued to be somewhat pressured in Q4 and was down 5% on the year.

Moving down the P&L. The 5% reduction in total costs was driven by both operating costs and remediation being lower year-on-year. Within that, operating costs were down 4% year-on-year, meeting our guidance of less than GBP 7.9 billion. Remediation was down 26%, albeit a bit above our expectation for 2019 as a whole. This operating performance resulted in solid pre-provision trading surplus of GBP 8.8 billion, which was relatively stable on the prior year.

Moving further down the P&L. Credit quality remained strong with a net AQR of 29 basis points, again within our guidance. Together, all these translated into a resilient underlying profit of GBP 7.5 billion. Statutory profit before tax, however, of GBP 4.4 billion was down 26% compared to previous year. This is given the impact of PPI. PPI is also reflected in the earnings per share of 3.5p, which was 36% lower than in 2018.

I’ll now discuss the individual items into more detail. We’ll begin with net interest income and margin on the next slide.

NII of GBP 12.4 billion was down 3% on 2018 based on a resilient net interest margin and broadly stable average interest-earning assets. The NIM of 288 basis points fell by 5 basis points year-on-year and 3 in the fourth quarter. This margin pressure in 2019 as a whole was mainly driven by continued competitive pressure on the asset side. And to a degree, this is likely to continue over the coming quarters, as we discussed at the Q3 results.

On the other side of the balance sheet, lower deposit costs and higher retail current account balances provided partial offsets during 2019. Also, in the fourth quarter, the stated margins were a further benefit of about 4 basis points from aligning MBNA product terms with the rest of the cards business. This represents the completion of the EIR adjustments, as I highlighted in Q3. Average interest-earning assets were essentially stable at GBP 435 billion in 2019. The Tesco book acquisition and other targeted loan growth in SME and Motor Finance were offset by closed mortgage book runoff and the tail effect of the Irish portfolio sale in 2018. We expect average interest-earning assets to stay broadly unchanged in 2020.

In protecting the margin, we’re maintaining our active approach to managing the balance sheet, including [taxes of our] acquisitions such as the Tesco portfolio. These help partly mitigate the impact of rates and the competitive environment in which we’re situated. Going forward, in 2020, we expect the NIM to be between 275 to 280 basis points. This importantly assumes an average 5-year swap yield of 75 basis points throughout the course of 2020.

I’ll now move on to the next slide and to asset margins across our key segments. The margin has remained resilient in 2019.

Turning first to mortgages. Our approach to focusing on margin and risk rather than volume and the new business flexibility provided by the Tesco book helped to protect our margin in what was a competitive environment. Furthermore, the rollover of new maturing fixed business is now also happening on much more favorable terms versus the last couple of years.

The gross margin on our total mortgage book stood at 1.7% in the second half of 2019, down 10 basis points compared to the same period last year. Back book attrition, meanwhile, remained in line with our expectation of 15%, with a significant proportion of customers now on relatively small balances. In consumer finance, we’ve continued to grow our portfolio, mainly in Motor Finance which was up GBP 1 billion over the year. This targeted growth supports the group margin. More broadly, the consumer finance market evidences some competitive pressure. The increase in the gross margin to 7% in consumer finance was driven in part by the MBNA product terms alignment that I mentioned earlier. Excluding this benefit, the margin would have been 6.6%.

And finally, the margin on the Commercial Banking portfolio showed stability at 2%. The asset base here was down by around GBP 5 billion over the year, primarily in the second half. And this in turn was mainly driven by our ongoing repositioning of the commercial business, the commercial portfolio. Focused on the global corporate and larger mid-market segments, we are actively repositioning the commercial business towards higher risk-adjusted returns. We are addressing low-returning client relationships and maintaining a very clear focus on RWA optimization, and this approach is going to continue into 2020.

Now let’s look at the other side of the balance sheet and our liabilities, including the structural hedge. The current low interest rate environment is challenging for all retail and commercial banks. Over the last 2 years since the start of GSR3, in-year 5-year swap rates have reduced significantly; and the curve, as you know, has flattened. Despite this, we’ve delivered a resilient margin. This demonstrates the strength of our approach to actively managing the balance sheet and indeed protecting value.

In support of this, we continued to grow current accounts and reduced tactical balances. Current accounts were up by over GBP 3 billion in the year and now make up nearly 30% of our deposits versus 16% only 5 years ago. This improving profile continues to support the liability margin, which in turn was stable over the past year. We do continue to see further opportunities to grow current accounts, leveraging our multi-brand strategy and allowing us to maintain pricing segmentation in a low rate environment. Tactical balances, on the other hand, are expected to reduce further as we continue to enhance the mix of our deposit portfolio.

Turning to hedge. And generally, given rates, we held back from reinvesting in the structural hedge during 2019. We do, however, invest when we can protect value, following our disciplined hedging approach. In Q4, for example, we reinvested some maturities as term rates improved. The hedge balance, therefore, stood at GBP 179 billion at the end of 2019, which is up around GBP 7 billion since the end of September. The weighted average life of that is remaining at about 3 years. The approved hedge capacity stands now at around GBP 185 billion, meaning that in turn we have approximately GBP 6 billion uninvested, which in turn provides us some additional flexibility should rates change.

So next, I turn to other income on Slide 26. Other income came up — came in at GBP 5.7 billion, down 5% year-on-year.

2019 as a whole continued to see an unhelpful backdrop for our commercial bank and markets business. To a lesser extent, we also saw lower other income in Retail [from 2018]. The latter was particularly impacted by lower fleet volumes in Lex Autolease. Q4 was a little softer than Q3 at GBP 1.27 billion, driven by continued softness in Commercial Banking; and a number of smaller items, including some pressure on retail current account fees. Insurance and Wealth, on the other hand, is continuing to perform well, albeit it’s also impacted by rates. The year saw healthy growth in workplace pensions supported by auto enrollment and higher general insurance income, net of claims. In the first half, as you know, it also benefited from the change in the investment management provider and longevity benefits.

Central items are down a little, partly due to lower gilt sales and an exceptional 2018 for LDC, as we had flagged previously. Gains on the sale of gilts and other liquid assets amounted to GBP 185 million compared to GBP 270 million a year earlier.

Now looking forward in 2020, we plan to continue investing to build the resilience of the other income line. For example, in Insurance and Wealth, we’re investing in financial planning and retirement, protection and home insurance product capabilities. These will allow us to continue to benefit from the structural and market share growth opportunities that we see in this market. In commercial, we’ve invested in a corporate payments platform to increase flow revenues. And in Retail, we’re developing value-added rewards and loyalty propositions to our current accounts to support a continued high-quality customer proposition. Together, this all means that we expect other income to build gradually during 2020. To be clear: It will still be market dependent and improvements are likely to be somewhat back-end loaded, but we do not think Q4 should be annualized in 2020.

I’ll now look at costs on Slide 27. In today’s revenue environment, doing what we can to preserve operating leverage and investment capacity is clearly critical. Total costs were GBP 8.3 billion and down 5%, driven by reductions in both operating costs and in remediation. We reduced operating costs to less than GBP 7.9 billion, which was down 4%, in line with our guidance which we enhanced twice over the last year. Remediation of GBP 445 million relates to a number of small items across existing programs, was 26% lower than the previous year. Although Q4 was a bit above our expectation, we expect remediation costs to reduce to around GBP 200 million to GBP 300 million per year from 2020. Alongside this, we drove a 6% reduction in BAU costs. This increased efficiency was combined in turn with continued investment.

Above-the-line cash investment totaled GBP 2.4 billion in the year, including GBP 1 billion of strategic investment. That in turn was up 6% in the year. Around 63% of the GBP 2.4 billion investment spend was capitalized, which is in line as you know with previous periods. Notably, the reduction in operating costs came at the same time as improved customer experience, with NPS going up, as António and Vim highlighted in their presentations.

So turning to costs, and we look in particular at 1 or 2 items here. As you know, the group has a focused cost culture and a strong track record of delivery. Going forward, there remain further opportunities, and examples of these are listed on the slide here, including automation, reduction on our — in our property footprint, our cloud strategy and just simply doing things better. For example, there are meaningful further opportunities in private and public cloud for a more flexible and indeed lower-cost base. Reflecting on all of this and as António said earlier, we expect operating costs to be less than GBP 7.7 billion in 2020 and for the cost-income ratio including remediation to be lower than in 2019. As I said, focus on cost control is particularly important in the current environment. It is something we will continue to concentrate on, and it will remain a source of competitive advantage for the group.

Turning to the next slide, we’ll take a look at credit. Credit quality remained strong. The net AQR for 2019 was 29 basis points. This is in line with our guidance, as you know, for the year. It is impacted by 2 material single-name cases, as highlighted already at Q2 and then again at Q3. Excluding these, the net AQR remained low and stable.

Looking at the balance sheet, we remain in a prudent and a relatively benign position. Stage 2 and 3 balances are stable versus 2018. Coverage has reduced slightly, mainly driven by write-offs of fully provided commercial assets, moving into Stage 3 of heavily collateralized assets and methodology refinements in the Commercial Banking portfolios. Looking forward, the underlying credit portfolio remains strong. IFRS 9 may introduce additional volatility. And recent years’ benefits from retail debt sales and commercial write-backs will flow, but we nevertheless continue to expect the AQR to be less than 30 basis points in 2020.

Turning to the next slide to take a look at the portfolios.

Our mortgage portfolio credit quality remained strong. New to arrears are low at around 0.4%, and the book has a low average LTV of 44.9%. New business LTV is correspondingly also low at 64.3%. Our legacy mortgages originated in 2006 to 2008 continue to reduce every year. These fell by 12% in 2019. Although the portfolio is seasoned and is performing well, it generates disproportionately large stress losses. With continued reduction in its size, albeit at a gradually slowing pace, the impact on our stress results will consequently reduce.

Moving to cards. New to arrears in credit cards remained modest at around 0.7%, and charge-off rates correspondingly are low and stable. In motor, we continue to price and reserve prudently. Used car prices softened during the year, but they stabilized during Q4. And finally, our commercial book remains high-quality; and it benefits from diversification, low interest rates and effective risk management. This includes a prudent approach to what we define as vulnerable sectors, with each representing less than 1% of the group’s loans and advances. Likewise, collateral is an important safeguard. SME lending, which is one of our targeted growth areas and represents more than 30% of the commercial portfolio, is largely secured. The 2 single-name cases we have talked about during the year are not representative of the wider commercial portfolio. Again, overall credit quality remained strong.

I’ll now move to address the below-the-line items. As I mentioned earlier, statutory profit after tax of GBP 3 billion was down 33% and, as you know, impacted by PPI. Focusing on restructuring for a moment: The charge of GBP 471 million was down 46% on the last year, primarily reflecting the completion of the MBNA integration and the ring-fencing work. These reductions were partially offset by initial costs relating to the establishment of Schroders Personal Wealth. Looking forward, in 2020, we expect restructuring to be somewhat higher as we continue to transform the business. This will include severance costs; the state rationalization; and regulatory-driven costs, for example, the IBOR transition. You will note that no further provision for PPI was taken in Q4.

We continue to work through the information requests received by the August time bar. We’ve now reviewed over 60% of the 5 million PIRs completed. The conversion rate remains low. Indeed, we’re comfortable with our 10% assumption and continue to work within the existing provision. We’re also pleased to say that the final agreement has now been reached with the official receiver, and that is included in our provision.

Moving to taxes. The higher effective tax rate of 32% reflects the nondeductible PPI provisions. It is in turn partially offset by the release of a deferred tax liability. We continue to expect a medium-term effective tax rate of around 25%. However, in 2020, given the corporate tax rate is now likely to remain unchanged, it should be slightly lower, as we see a DTA revaluation of about GBP 300 million coming through.

Looking briefly at returns. As I mentioned earlier, the underlying return on tangible equity in 2019 was strong at 14.8%. The statutory return of 7.8% has clearly been impacted by PPI. Indeed, if you exclude PPI, the statutory ROTE would have been 14.4%, as António said, up just under 1 percentage point from the previous year. Now I realize that’s just a hypothetical number, but it does illustrate the profit generation capacity of the group as PPI comes to an end. As we’ve communicated earlier, we expect the underlying and statutory profits to converge, and this convergence will be driven by resilient underlying performance and lower below-the-line items. In 2020, therefore, we expect increased statutory profits and a statutory ROTE of 12% to 13%.

So let’s turn to the balance sheet.

Group loans and advances stood at GBP 440 billion at the end of the year. We enjoyed some growth in key segments, offset by continued runoff of the closed mortgage book and lower balances in Mid Markets and Global Corporates, as I described earlier. The open mortgage book of GBP 270 billion was ahead of last year, in turn enhanced by the GBP 3.5 billion Tesco book acquisition. Motor Finance, meanwhile, increased by GBP 1 billion, while SME continued to grow ahead of the market.

We’ve maintained our focus on pricing with discipline, particularly in the intermediary mortgage market. Our open mortgage book strategy remains unchanged. We are very focused on efficient management of the balance sheet. RWAs reduced by GBP 3 billion in the year as we continued to optimize the Commercial Banking portfolio, as I mentioned earlier. This more than offset the impact of IFRS 16 and the Tesco book acquisition together. Looking forward in 2020, we expect RWAs to be broadly in line with 2019 despite regulatory headwinds. Indeed, our estimate of regulatory pressure on RWAs is currently below our initial estimate of GBP 6 billion to GBP 10 billion in 2020.

And now moving to TNAV. Tangible net asset value per share reduced by 2.2p to 50.8p in the year. The in-year generation of 1.1p (inaudible) PPI was more than offset by dividends of 3.3p. As you can see from the quarter-on-quarter TNAV walk at the lower part of the slide, market movements in the fourth quarter did have a meaningful impact.

And finally, before I conclude with 2020 guidance, we’ll take a brief look at capital. Organic capital build remained strong, with the group generating 207 basis points of free capital in 2019 before PPI and 86 basis points even after the PPI charge. The group’s organic capital build in the year was supplemented by 34 basis points from the cancellation of the remaining buyback in the third quarter. Meanwhile, we deployed 9 basis points of capital for the Tesco book acquisition. The pro forma CET1 ratio, therefore, ended at 13.8% after the announced final dividend of 2.25p per share. The ordinary dividend is equivalent to 123 basis points of capital. Looking forward, the group continues to target an ongoing CET1 capital ratio of around 12.5%, plus a management buffer of around 1%. For now, given the announced increase in the countercyclical buffer, very likely only partially mitigated by the proposed Pillar 2A offset, both at the end of 2020, we are holding a level slightly above this, finishing 2019 at 13.8%. From 2021, our current view all else being equal is for the Pillar 2A to fall further as pension contributions increase. That will enable us to bring capital back towards our target level of circa 13.5%.

The business model, as you know, remains strongly capital generative. In line with our ongoing guidance, we continue to expect free capital build of between 170 to 200 basis points in 2020. And as António said at the start, the Board will continue to consider potential excess capital repatriation at each year-end.

So turning to 2020 guidance. To recap: In 2019, the group delivered significant progress against our strategic priorities and generated solid financial returns. As a result, the Board increased our total ordinary dividend to 3.37p per share, which is up 5% on 2018. As António noted in his presentation. We’ll be moving to quarterly dividends from Q1 onwards, with the first payment being in June.

And looking forward, our 2020 guidance is outlined on the slide to my left. It reflects the health of our business and indeed the confidence that we have in it. In setting our guidance, we remain focused on delivering our purpose of Helping Britain Prosper whilst building strategic advantage and generating strong and sustainable returns.

And this concludes the presentation for today and we’re now ready to take your questions. So thank you for listening.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [4]

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Thank you, William. So let’s start the Q&A. Maybe we can start here in the center, maybe with Joe, Rohith afterwards. Then we’ll go to the left side.

Joe?

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Questions and Answers

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Joseph Dickerson, Jefferies LLC, Research Division – Head of European Banks Research & Equity Analyst [1]

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It’s Joe Dickerson from Jefferies. Just on the outlook for the noninterest income, can you talk about what you’re seeing in the Insurance business? Others are talking about a potential hardening of rates in 2020. Are you seeing anything like this or expect anything like this to help drive that business? And then in terms of the full year on the capital guide, can we expect that you will distribute down to that 13.8% level in respect of the full year in terms of excess capital repatriation?

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [2]

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Thanks, Jeff — thanks, Joe. William, shall you take these ones?

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [3]

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Sure, sure. Well, maybe just to address the insurance point first. The — just to give some background, if you like, on what’s going on in the Insurance business because it’s important context really. We see 2019 performance, as you know, as being a year of investment in the business. It was partly influenced in the first half by the change in investment manager and by the longevity benefits that we got, but it was also characterized, if you like, by building the business across all lines really, auto enrollment being one, annuities being a second. As we go into the second half, those benefits from the change of investment management provider and the longevity benefit drop out; and the underlying business, if you like, starts to perform. So looking forward into 2020, there’s a number of factors going on. One is the change of investment management provider and the annuity — and the longevity benefit are unlikely to repeat, but having said that, the engines of the business, including annuities, for example, including protection, for example, start to take over. There are within that also some cost benefits which should be coming through probably in the second half of the year, and that also will help build the Insurance contribution through the other income line. In terms of specifics of your rate hardening, to a degree, I’m not sure whether that’s a particularly general insurance-related question. I imagine it is to a degree, but I don’t think we’re relying upon them for the performance in the Insurance business during the course of 2020.

The capital question. The — we have taken a deliberately prudent stance in relation to capital. We’ve obviously observed the countercyclical buffer change. We’ve observed what we think is very likely the partial mitigation through Pillar 2A. We have a view on what will happen to capital requirements in the years thereafter, as António and I articulated in our message. It is the case that we have the benefit of being at 13.8% now and therefore have anticipated the change in the countercyclical buffer mitigated partly by Pillar 2A. And therefore, in theory, if you like, the build that we enjoy through the course of 2020 of 170 to 200 basis points that I mentioned in the speech, in theory, if you like, is distributable capital, but that will be a matter for the Board, at the end of 2020, to decide what the capital repatriation policy should be.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [4]

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Rohith?

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Rohith Chandra-Rajan, BofA Merrill Lynch, Research Division – Director & Senior Analyst [5]

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Rohith Chandra-Rajan, Bank of America. I had a couple of questions on net interest income, please. The NIM guidance for this year. So your exit run rate is 2.81%, so guidance for 2.75% to 2.80% is a — is pretty resilient on that exit position. I was just wondering if you could talk through some of — some specific areas. So you talked a little bit about the hedge. So what’s the impact of the reinvestment that you’ve done in Q4 and also an expectation that the 5-year swap is slightly above current levels? So you were previously guiding for [2 50] headwind from the hedge this year. How has that changed? And also, what do you — any guidance on the impact in 2021? The second thing is the SVR book fell by GBP 12 billion in the year. What impact does that have? And what pace of attrition do you see going forward? And then finally, on the NIM, the repositioning of the commercial book, what impact does that have in the year? And I guess, relative to those 3 potential headwinds, where do you see the offsets? And the second was just a clarification on the balance sheet. You’ve talked about flat interest-earning assets. Is that flat on the Q4 number of GBP 437 billion or the full year number of GBP 435 billion? And how do you see the balance sheet mix or the loan book mix, I guess, evolving over the course of the year?

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [6]

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That’s a lot of questions.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [7]

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Thank you, first of all, for the questions, Rohith. Maybe I’ll start with the net interest margin and give you some sense of the dynamics going on there. When we look at the net interest margin, there’s a number of features. There’s a number of factors going on. One is, as you say, the structural hedge and the replacement, if you like, of the structural hedge balances that roll off during the course of 2020. Two is what is happening in our major product markets, mortgages obviously being a big one but also what we’re doing in unsecured, what we’re doing in motor. Furthermore, there’s also the dynamic introduced by the corporate optimization and Commercial Banking optimization that I described earlier on. Savings, on the other side, the liability side of the balance sheet; and then what our — your question was just to our sensitivities, if you like, to market rates. So those are the dynamics. To give you some context and color around them: We — in terms of our guidance, we see about 200 million less structural hedge income in 2020 versus 2019. That’s been factored into our guidance of 2.75% to 2.80%. In terms of the mortgage picture, there’s 2 features going on. And Vim may want to comment, I’m sure, on the SVR point, which we’ll get to in a second, but there’s 2 features going on principally. One is we are seeing a much more benign front-end pricing environment now to what we were seeing this time 12 months ago, which means that, as we roll off, if you like, our fixed mortgage book is rolling on to more attractive rates. That differential is favorable. It’s positive today versus negative as it was 12 months ago.

When we then look at what else is going on, on the balance sheet, there’s a bit of a mixed effect. It’s modest, to be honest, but there’s a bit of a mixed effect in terms of unsecured and motor. There is a little bit of growth there, as I pointed out, historically and looking forward. And then our corporate optimization, our commercial optimization, it’s very much about addressing the low-yielding relationships, if you like. And that comes through in part in net interest margin and, again, feed through into the guidance that we’ve given. Savings maturities, there’s a little bit of that going on in 2020. And then finally, your point about sensitivity, your question on sensitivity: There’s not a huge differential between 75 basis points versus where the 5-year swap curve is today. It’s about 10 basis points, I think, off the back of last night’s pricing.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [8]

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Yes.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [9]

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If we were to take a more market-aligned scenario into account, we would think that shaves off a couple of basis points in terms of our view on the NIM, which puts us in turn at the lower end of our guidance. So still within guidance but at the lower end of our guidance. And that’s a cumulative effect of, if you like, the ongoing or introduced part of the structural hedge coming in at slightly lower levels than we anticipated [of] 75 basis points, plus the absence of a base rate rise. That cumulative effect, as I say, shaves off a couple of basis points, shifts us towards the lower end of our guidance.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [10]

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Before Vim goes to SVR, do you want to comment which was [the best within] IEAs?

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [11]

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Yes. I think [you] mentioned GBP 435 million.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [12]

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Vim?

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Vimlesh Maru, [13]

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Okay, yes. Just to add to William’s point. I guess, on the mortgage side, Rohith, I mean, 3 key elements that matter. One is where the reversionary book goes. So like your question in terms of attrition: That’s been stable in the second half of the year. So — and that’s obviously on a smaller base as that keeps coming down. So that’s sort of a — stable. Then retention of customers, that’s also stable during the course of the year, which is good news. And then as William called out, the new business margins that we’re seeing right now in the market are looking better than maturing margins at the moment. And therefore, we get a carry there, which is obviously we’ve started to see that happen in the sort of final quarter of the year, and that’s obviously a positive in terms of what we see coming into this year.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [14]

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Thank you, Vim. Shall we go here, please? Can you bring the microphone. We have 3 questions on this side. Guy, please.

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Guy Stebbings, Exane BNP Paribas, Research Division – Analyst of Banks [15]

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Guy Stebbings from Exane BNP Paribas. Can I come back to the other income line and Insurance, first of all? You referenced the strong benefit from auto enrollment rates picking up and coming from the workplace plan and retirement income. My understanding is, given the embedded value accounting approach without another step-up in auto enrollment rates, that line goes backwards in 2020. So if you could just confirm whether that’s true or not. And also you referenced strong general insurance. Presumably the runoffs in St Andrew’s becomes a headwind there. So if you put that together with some headwinds on regulatory changes for other income line, with some of your peers giving guidance around the overdraft fee changes, for instance, and high cost of credit, I’m just trying to gauge whether 5.7 is a sort of sensible run rate or the H2 5.1 to 5.2 is more like where we’re going to end up for the full year. Then just a quick second question on current account growth, which has obviously been very strong and helping the growth in the structural hedge. If we look at the current account switching data, it tends to be quite negative over the last few quarters for Lloyds, so I’m just trying to understand the very strong data that you’re reporting for [kind of current growth rate] and how we’d reconcile that with the current account switching data.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [16]

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Okay, that’s fine. Okay. So William will take the first, and Vim will speak to you about the second.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [17]

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Sure. Well, thanks for the question, Guy. On the insurance topic, you’re right. Auto enrollment is effectively [better value accounted]. The step-up that we saw in 2019 was in part a function of the contributions step-up. We do ultimately expect that to be insufficient. And there will in turn be a further step-up, but I very much doubt it will be 2020. So as a result, what you see in auto enrollment is an ongoing business, which is again one that we very strongly believe in and we’ll continue to invest in, but you’ll see it slightly dip or slightly lower, if you like, in 2020, that piece of the business, versus 2019 simply by virtue of that accounting. But again I want to underline it’s a business that we strongly believe in and we’ll continue to invest in, and we will see that as a going-forward point. The GI point: I — there is a — there are a number of factors going on within GI both as to premiums and growth of the business and the opportunities that we see around the business. I wouldn’t identify St Andrew’s as a — I mean, to a degree, it’s relevant, but it — I wouldn’t identify it as a particularly strong issue in the overall profile of the GI business that we are building, in the process of building right now. There will be other factors that will be far more important.

The regulatory changes. You mentioned a higher cost of credit in particular and the overdraft pricing issue. The — we’re not going to put a number on the overdraft issue. Most of the overdraft issue is in the net interest margin line, not in the other income line. Much of the overdraft issue has been to a degree contemplated and anticipated by some of the product changes that Vim can talk about that we’ve introduced in years prior to today. So some of the pressure, if you like, from that overdraft change has been preempted by some of the moves in the product line that, as I say, precede 2020. So that particular issue is unlikely to change the other income line. I think, your point more broadly on regulatory pressures and are they exerting pressure on the business, for sure. They’re there. The business that we have, I think, is a very successful business model that will succeed no matter what, but the regulatory pressures, for sure, they (inaudible) pressure on the income.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [18]

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Vim, would you like to add something…

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Vimlesh Maru, [19]

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Just to — yes. So I’ll add 2 things, I guess. I’ll do — finish the overdraft point and then I’ll just talk about switchers. So as William says, we eliminated unarranged overdrafts and returned item fees 2 years ago, so in effect, the change that we’ve got to make now is different to what most of the industry is having to go through. And therefore, I guess we’re not specifically calling that out this time around, and it’s all embedded into William’s margin guidance. So I think that’s probably just worth iterating. And also I think from an ROI perspective it’s not in there, so because we’ve made the change already a couple of years ago. But as we’ve said in the market as well the — 90% of customers will be better off, so that will be a headwind, but as I say, that’s in the guidance. And then on switchers, I think I tried to allude to this in the presentation as well, that there’s a — really important for us to focus on existing customers as well as new customers. And you’ve seen the data in terms of existing customers, what we’re seeing in terms of growth in balances from those existing customers. We’re also seeing, as you’ve seen, 9% growth over the period of current account customers too. It doesn’t have to come through the switching service for us to book new current accounts too. And then when you look at the switching out data and what we can see, what we see in the switching out data, the quality of where the growth is coming in the switching out data is pretty low. And that’s why you’re not seeing that impact our business in the way you might think it does.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [20]

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Yes. So I mean we are growingly segmenting our personal business, and we have key segments where we want to grow. And we came to the conclusion, just to build on what Vim says, that for example the Halifax switch offer that we’re giving to customers was quite discriminated and did not attract the right customers that we wanted to attract. So it’s an example of what you now see. So we are very pleased about how our attraction of the right current accounts is going. And I think that is highly demonstrated by the fact that our PCA balances, as you were asking, Guy, continue to increase above the market and significantly 11% versus 7% since the beginning of GSR3. And we could go to a much longer time zone. That really demonstrates the high quality of those current account balances. Those are stable balances not driven by trust and convenience. And they have the additional advantage that, given they are stable, they have a higher yield because they are invested on average about 4 years maturity, which we have — now have shortened because of the yield curve being flattened. So you have to look at the evolution of current account sales in the market with that perspective and also with the fact that current accounts are free. So you can have as many as you want. The question is what — which one is your primary bank accounts. That can only be measured by the current account balances.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [21]

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.Can I — Guy, before we leave your question. I think there’s one aspect that we didn’t adequately address, which is on whether you should annualize the Q4 (inaudible). So perhaps just to give some response to that. The — I think I mentioned some points in my speech which ended with you should not annualize the Q4 other income print. Reasons — so just to give some context and reasoning behind that: When we go through the business lines. We look at Commercial Banking, for example, and there will be a couple of variance in Commercial Banking. One is, for sure, the market dependency. And if you see a market that comes back to life, you’ll see a lot more activity in the commercial banking market. Equally, if you don’t, the second prong, if you like, second strand, to the Commercial Banking business is around the cash management part. That’s been an area of substantial investment for the group over the last couple of years. We now have a platform which is successfully being rolled out and delivered to a number of clients. So that’s a strand which is much less market dependent, if you like. It’s therefore a more reliable indicator of commercial bank activity and as it will build into the second half of 2020. You look at Insurance. There’s a number of areas in Insurance. Again it’s not going to repeat the more one-off natures, as I mentioned, in the first half, but you’ll see some underlying build in annuities, for example. You see some underlying build in the protection product, for example. There is, as I mentioned, in the second half of 2020 some cost benefits which we’re expecting, which will come in through the other income line simply because of the way in which Insurance is accounted in our business. You look in turn at the retail banking business. There’s a transitioning customer behavior going on, as you know, in the payments area. And so as they move away from cash and towards cards, we expect better payments revenues off the back of that. And these factors allow us to build into 2020 in the other income line. So what it means, I think, is that we see other income which is going to be gradual, number one. Number two, it’s going to be back ended. Number three, to a degree at least, some aspects of it will be market dependent too, but it would be very disappointing to see Q4 annualized. We do not believe that Q4 should be annualized.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [22]

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So we’ll finish those 2 questions. And we’ll go to that side, to Raul, James, et cetera.

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Amandeep Singh Rakkar, Barclays Bank PLC, Research Division – European Banks Analyst [23]

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It’s Aman Rakkar from Barclays. I had 2 questions, 1 on the net interest margin. Can I just clarify your comment earlier? You were saying, if basically you kind of updated your net interest margin for a 75 basis point 5-year swap, you’d come in at the lower end of the guidance that you’ve of 2.75% to 2.80%. And then you mentioned that, that basically captures the fact that you’re also not getting a base rate hike. What happens if we actually get a base rate cut? Because when I look at forward curves, it looks like there’s an increasing chance of a cut. Is that an incremental risk of you basically coming in at the low 2.75% next year? And I guess part of the answer to that will be dependent on deposit betas. Do you think you can basically absorb the majority of a base rate cut in terms of your customer margin? That’s question one. And the second was regarding CET1. So the messaging around capital seems quite positive. I was wondering. Are you able to provide any guidance on Basel IV either in terms of the impacts on your business, when it would come in; and a view as to whether it will be implemented on the 1st of Jan 2022.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [24]

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Sure. Maybe just to take each of those 3, Aman. The first point, I should clarify, if it wasn’t clear enough, our guidance is based upon 75 basis points in-year 5-year swap rate on average through 2020. So that’s the basis for our guidance. The market rate for the 5-year swap rate is circa 65, 66 basis points right now, a difference of about 10. If we get that market rate aligned with the absence of a base rate rise in the back end of 2020, the impact of that is a couple of basis points. We see that as being within our 2.75% to 2.80% margin guidance.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [25]

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Right.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [26]

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It just puts us towards the lower end. So that’s the first point. The second point, you said what if there is a cut. I think there’s a couple of points to make around that. Clearly, a cut is not what we envision. We think, as António mentioned — or we anticipate, rather, a significant fiscal stimulus which in turn changes the monetary outlook, and that’s the reason why our scenario is as it is, but should we get a cut, there’s a couple of points to make there. One is that a base rate change of that type allows a degree of friction, if you like, within the overall product base, which means that you can recoup some of the issues there. The second is in the context of a base rate cut you may very well see a widening gap between the swap rate and the rate at which mortgages are being sold. And so you may see some widening in the margins off the back of that, which is effectively similar to what you’re seeing now, frankly. And in that context, we would expect to see some recompense, if you like, or some benefit from a more benign margin pricing environment, which in turn would help us build margin and indeed, to a degree, the volumes of the business. The — so that’s the second one. Sorry. António, do you want to add…

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [27]

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In any case, just for you to have clarity on this in terms of our base rate rise expectation to be back ended. So it’s does not really impact the NIM of the year. [Just free] to have that clear, on our plan. [Would you go to] second point?

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [28]

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Yes. I think, if we go on to your core Tier 1 question, the Basel point. Basel IV is obviously something that we’re keeping a close eye on. We are at the moment in a situation of some uncertainty about what the authorities choose to enact in terms of Basel IV, finally enact. We’re also in a state of uncertainty about how the PRA might choose to incorporate that or adopt that; and indeed what mitigation might be possible around a Basel IV set of rules, if you like, whatever they might be. And so we’ve stepped back from giving guidance on Basel IV partly because right now we are simply giving guidance on 2020, full stop, but also because, frankly, the uncertainties around Basel IV are still very considerable. And so we’re reluctant, if you like, to start giving guidance which in turn may well be wrong.

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Amandeep Singh Rakkar, Barclays Bank PLC, Research Division – European Banks Analyst [29]

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Sorry. Just one follow-on then…

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [30]

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[It’s about the height of risk].

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Amandeep Singh Rakkar, Barclays Bank PLC, Research Division – European Banks Analyst [31]

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Yes, if I’m allowed. So potentially, this time next year, you could end the year with a 13.8% CET1 ratio, pretty decent visibility about Pillar 2A coming down such that 13.5% is the right number for you. So is Basel IV enough of a risk on the horizon such that you wouldn’t pay down to 13.5% during the course of 2021 or…

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [32]

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I mean, our positioning, that is very simple and is unchanged. So we have an ongoing capital guidance of around 13.5%. And if at the end of the year, when the Board decides, if the Board will decide not to pay down to 13.5%, there will have to be a significant reason which we will have to explain you to, right? So it’s exactly as in previous years. That is the policy. We come to the end of the year. The Board decides with information available then. Our guidance is 13.5%. Should we not go to 13.5%, we’d have to explain you why, as we told you this year given what happens with this. But at the end of the year, we have prudently hold already, holding already the 30 basis points that we see this year, which will then come down next year, all right? So the Board has always the same policy. At the end of the year, with information available then, we would decides on dividends and on repatriation of excess capital. And the usual practice is the same. We would distribute down to the target. If we don’t, we will have to explain why. Please, Andrew?

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Andrew Philip Coombs, Citigroup Inc, Research Division – Director [33]

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It’s Andrew Coombs from Citi. If I could just stay on capital and the capital stack. You’ve been very transparent on your thoughts on countercyclical, the 2A offset. And I think the remaining question that hasn’t been asked is around the impact from the Bank of England stress test and the implications for your PRA buffer. On the basis that you haven’t changed your 1% headroom above the 12.5%, should we assume, when you look at the stress test in coordination with your internal stress tests, the 2B has not changed? And second question only, could you just elaborate now with the benefit of hindsight on the stress tests and a bit times passed why was there such a leg-up in your losses for the consumer book under stress in the Bank of England stress test?

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [34]

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Do you take both?

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [35]

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Sure.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [36]

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Thank you, Andrew.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [37]

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Thanks, Andrew.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [38]

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William will take your questions.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [39]

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First of all, I — you wouldn’t expect me to and I’m not going to comment on Pillar 2B. It’s a matter for the PRA. The second point, in terms of the stress test results. The stress test results are, first of all, characterized by us passing. We, in fact, passed by a higher hurdle to the relevant CET1 requirement than we did the year before. So I think it’s important to characterize it in that way before we begin. Why was it a relatively significant drawdown? A couple of reasons. I think one is, given that we’re a retail business, as you know, IFRS 9 hits us probably harder than a commercial business or a corporate business. And that’s simply because of the perfect foresight that is going on in this stress test bringing losses forward. Two is it’s a very U.K.-focused stress. Three, conduct has been a feature, unfortunately, of our results for some time. And it also featured in the stress test. As we roll forward, we very much hope that conduct will come down, and hence our illustrations today of numbers, if you like, if you exclude PPI charges. But that, we hope, will be a lesser issue in stress tests moving forward than it has been historically. And then to your particular point, within the kind of Retail book, what is causing a bit of stress? It’s the mortgage portfolio in particular that I mentioned on the slide up there earlier on, which is to say the [’06 to ’09], call it, the [’06 to ’08] mortgage portfolio is a mortgage portfolio that incurs higher stress losses. Now as we see it, it is a well-performing book that is well seasoned and we feel very comfortable with it, but when you run it through the stress, particularly the PRA-generated stress, it is generating significant stress losses.

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Andrew Philip Coombs, Citigroup Inc, Research Division – Director [40]

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Okay. If I could perhaps come back to the first question, phrase it slightly differently. Your 1% management buffer that you incorporate, is that — what are the inputs into that 1%? What makes you feel comfortable that 1% is the right number?

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [41]

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Andrew, as William says, we can’t really comment on the PRA buffer, like any other bank cannot comment on PRA buffer, but I would have — that’s, given that you saw that we kept exactly the same capital guidance, of capital requirements around 12.5% and a management buffer of around 1%, if you do the math, I think that is quite helpful.

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Andrew Philip Coombs, Citigroup Inc, Research Division – Director [42]

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Understood.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [43]

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Shall we go to Raul and the other side of the room?

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Raul Sinha, JP Morgan Chase & Co, Research Division – Analyst [44]

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It’s Raul Sinha from JPMorgan. I guess the first one is on the comment around the outlook slightly starting to improve for the U.K….

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [45]

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On the — sorry…

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Raul Sinha, JP Morgan Chase & Co, Research Division – Analyst [46]

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On the outlook improving, the recovery trends. I mean you’ve probably got the best insight of all the banks [given your current account share into] what’s going on, on the ground. So just to understand a little bit more, what are you seeing? And then secondly, trying to marry that with your flat balance sheet guidance on average assets because I think you also said pricing has improved. So if I take that along with the fact that you’re seeing some signs of recovery, why are you not being more positive on the asset growth aspiration for (inaudible)? And I’ve got a second one. I don’t know if you want me to wait.

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Vimlesh Maru, [47]

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Do you want me to start the first one?

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [48]

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Why don’t you say the second one?

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Raul Sinha, JP Morgan Chase & Co, Research Division – Analyst [49]

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So the second one is on the head office, which is quite big in the context of the group…

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [50]

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You mean our building.

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Raul Sinha, JP Morgan Chase & Co, Research Division – Analyst [51]

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Well, these [GBP 36 billion] of RWAs. And it’s makes GBP 800 million of, obviously, profits. LDC is within that. And HSBC yesterday said that they are going to close their principal finance business because of the peak-to-trough losses in the stress tests. And I was wondering if you’ve got any thoughts about whether or not this is also one of the areas which is causing your volatility in the stress test performance, the head office. How should we think about the outlook for the profitability of that and the RWAs?

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [52]

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Thank you, Raul. Look, I mean, you are absolutely right. I mean we are the largest retail and commercial bank in the U.K. and we — and throughout the country. So I think we have quite important information available [as] leading indicators. And what we see is actually quite a clear picture, which is coming into December, and we have discussed this in previous presentations, you have seen a resilient household sector built on rising real wages and continued rising employment. And households are [the part in] consumption which is more than 2/3 of the economy, but you were seeing a decline on business confidence that sooner or later, if continued, would not only damage the investment but the employment and would affect the rest of the economy. So what happens with the election, as I said in my remarks, where you have a clear government with a clear majority? You now have, in our opinion, a much clearer sense of direction. And in line with that, what we are seeing is the following: real wages, we just had the final numbers, the highest in the last few years, if you do the average of the 3 months. So real wages continue to grow at around 2%. This is compounded by another record employment number. You see house prices with early signs of recovering for 2 months in a row; and much broader number of transactions, much bigger number of transactions. And this is throughout the country. This is not only London and South East. Consumer confidence levels, as several service have published, have also improved. And on the business side, where the problem was, you have seen a significant pickup in confidence. We see that throughout the country as well in our contacts with our customers, which should lead over time to more investments, which is positive. Finally, on the positive side, we clearly expect a significant fiscal stimulus on infrastructure projects from the government in the budget, which should change, as William said, the relative stances of monetary versus fiscal policies. So what do you have on the negative side? You still have significant uncertainty, as I also said, on the trade deal with EU in particular but also with the other main geographic regions. So that also still has some uncertainty. And obviously we should not underplay whatever the impact of the coronavirus might be in terms of supply chains, on one hand, and trade; on the other hand, on consumption of China, which is the largest part of the world GDP growth every year. So those are the negatives.

And my view, as I see the economy at this moment in the U.K., is that these all taken together is positive. So your question then is why are you not increasing assets as a consequence and also given what we are seeing on mortgage prices. Well, it depends on the segments. We are absolutely minded to continue to grow on our key target segments, as I mentioned in my presentation. So in terms of car finance, we have a 15% market share. That’s lower than our overall 18% market share. We intend to continue to grow there. In SMEs, we have constantly grown above the market. In mortgages, the prices have — the margins have continued to improve, as Vim said, and this has been back ended in Q4. And into Q1, our January performance is better than what we expected. So you should expect us to act accordingly, but William also said and I mentioned as well, we are continuing to — on the large corporate space, we are continuing to optimize the portfolio in the sense of some products and relationships where we have [some cost] of equity returns. And as you saw, the commercial bank has been, as a consequence, a big contributor to the cash flow, to the free capital that we release every year. And that should continue. So our guidance for the moment, although stable, has these 2 differences between large corporates, if you want, and our target segments, which lead to the guidance. And that’s squares the 2 parts of your question.

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Vimlesh Maru, [53]

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And maybe if I just add one thing just on the mortgage market. The beauty of our intermediary channel strategy is that it’s not fixed. It’s a triangle that we’re looking at. And if things look better, we’ll do more, as we did in the second half.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [54]

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It’s okay. James?

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Raul Sinha, JP Morgan Chase & Co, Research Division – Analyst [55]

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The group center question…

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [56]

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Yes…

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [57]

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Sorry, sorry, sorry. Yes.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [58]

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Well, I’ll get to your group center in just a second. I’d just simply add one point to the comments there of António and Vim, which is that because of this optimization exercise, if you like, in the commercial business, it’s not a static balance sheet. We are getting out of some exposures simply because the relationships are not yielding what we would like to see, but we are going into others. And so don’t think of it as just a static set of relationships. It’s actually one that’s turning and changing all through the year. The — on your — on the head office point, the central piece, if you like, is made up of a number of different blocks. The LDC component is one of them. Treasury and gilt sales, for example, is another. I think I mentioned in my comments that we expect to see that down during the course of ’20, the gilt sales piece I mean, during the course of 2020. We hope that we will see some improvement actually in LDCs. There will be some offsetting factors there. And then the third element is central, as ever, I suppose, is composed in part of transfer pricing relationships and how we price and set the business up. And that’s a picture which is not really dependent upon external market conditions so much. It’s dependent upon the internal choices that we make as to how we establish and run the business.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [59]

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James?

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James Frederick Alexander Invine, Societe Generale Cross Asset Research – Equity Analyst [60]

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It’s James Invine here from SocGen. William, you talked about the Pillar 2A coming down with the pension contributions. I was just wondering if you could tell us, please, what the gearing is on that. So for every GBP 100 million that goes in, what happens to the Pillar 2A? The second question, I guess, is just to confirm that within your ongoing 170 to 200 basis point guidance you’ve included the current existing plan that you’ve agreed with the trustees. So you’re not assuming any renegotiation. And then the third is I was just wondering if you could give us a view on where the deficit stands today versus the GBP 6 billion scheduled payments that you’ve got.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [61]

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Sorry, James. I caught, well, 1 of those questions. I may need to come back to you just to clarify on the other 2. On the pensions relationship, the trustee contributions point that you made. We are about to undertake the next revaluation and pensions contribution discussion with the trustees. That will be effectively with a date of the end of 2019. And then the negotiation will proceed during the course of 2020, with the expectation that we’ll wrap it up at the back end of 2020, which then establishes our contributions going forward. So the contributions for 2020 will be as planned, if you like. Contributions thereafter will be a function of that discussion that we have with the trustee, which will be subject to the normal inputs, if you like, in that conversation. Now just give me your first and third question again, as I’m not sure I fully…

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James Frederick Alexander Invine, Societe Generale Cross Asset Research – Equity Analyst [62]

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It was just for the money that goes into the pension fund. What’s the gearing? What you get back on your Pillar 2A.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [63]

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So the Pillar 2A contributions. What is the impact of the pension contributions?

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [64]

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Yes, yes. That’s probably something which I won’t talk about publicly because it’s really a matter between us and the PRA, as to the extent to which they see Pillar 2A benefits from pension contributions, save to say that the pillar — or a component of the Pillar 2A, if you like, is to accommodate a pensions stress. And so logically the amount of capital that you need for that stress should go down as the pension fund gets better funded. So you can see the correlation there. I won’t go into the particularities, the exact math of the offset.

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James Frederick Alexander Invine, Societe Generale Cross Asset Research – Equity Analyst [65]

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Okay. And then just do you have a view on how big the deficit is at the moment?

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [66]

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It’s in line with our expectations based upon, obviously, the disclosure as to the accounting and the liability, if you like, less the contributions, as we had anticipated before.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [67]

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Shall we continue here? Chris.

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Christopher Cant, Autonomous Research LLP – Partner, United Kingdom and Irish Banks [68]

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It’s Chris Cant from Autonomous. If I could ask on your ROTE guidance, please. You’ve cut the guidance for 2020 to 12% to 13%. And I understand you’re still adding back the amortization costs within that. In 2019, the amortization add-back was worth about 120 bps on your reported return, but obviously your EPS figures include those costs, as do most peers in their calculations. So if I take your guided range of 12% to 13%, knock off 120 basis points, multiply it through by the 50.8p of TNAV you’ve just reported, that implies statutory earnings for 2020 of 5.5p to 6p. Am I missing anything in the maths there? And when I look at consensus of 6.5p of earnings for next year, given everything you’ve said, it does feel like that other income number is going to come down quite a lot if it is the EPS number you’re pointing us to given the rest of your guidance on provisions and NIM.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [69]

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Okay. Thanks for the question, Chris. I’m going to answer that in parts, if you like, because I — what I don’t want to do is to give you guidance on any particular EPS number that you may be arriving at. The first of those 2 parts, the ROTE calculation, you’re right. The amortization point is in the ROTE, and that is [responsible — well], I see it more generally as about 100 basis points, but you’re absolutely right. It’s there. We have thought about that. And I think, to the extent that we’ve taken into account any adjustments that we’ll do, they’re more likely to be off the back of GSR4 rather than right now. So the point is we’re certainly cognizant of the point, but it’s going to be addressed in GSR4, not today. As to your calculations, it may be worth just running with Douglas around the calculations that you have. And he can give you some guidance, but again I’d hesitate before being too precise about confirming any particular EPS outcome that you’re coming out with.

On the other income point, I think I would come back to the discussion that we had earlier on around what’s going on in the other income line.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [70]

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Exactly.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [71]

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And the strands there, really just to briefly recapitulate, if you like. We are seeing in each of our business lines clearly a degree of pressure but also a degree of opportunity as to each of them. Going through them very briefly: Commercial Banking, I mentioned the 2 strands earlier to a degree about market activity but also to a degree about transaction banking or cash management, I should say. Within Insurance, we see the advancement in annuities, both bulk and individual. We see the advances in protection. We see some cost benefits, which don’t get locked in until the second half. And in Retail, as said, as payments practices change, so will payments revenues. So there’s then the central item, which as I mentioned earlier on, I think, is going to see less of gilts income; hopefully, a little bit of improved performance off the back of LDC. You add all of that together. I’m not going to give you any other income guidance number, if you like, because we don’t, but it is firmly encapsulated within the overall P&L guidance that we’ve given you, including the ROTE of 12% to 13%.

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Christopher Cant, Autonomous Research LLP – Partner, United Kingdom and Irish Banks [72]

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If I could just follow up briefly in terms of bridging from your guided statutory ROTE target to an EPS number. I appreciate you don’t give a figure, but if I ask it slightly differently: the TNAV number of 50.8p for the full year. You’re around the level you say you need in terms of CET1. You’re going to be doing quarterly dividends during the course of 2020, which will avoid any meaningful build, I guess, in TNAV during the course of the year because you’re distributing on a more regular basis. So that does appear to be kind of your base jumping-off point for 12% to 13%. So is there a bigger range of uncertainty around your statutory ROTE guidance, or can we use that in the maths? Because you have given us a 12% to 13%.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [73]

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No, I don’t think so. I’d hesitate before reading too much into your dividend point, though, Chris. I mean the dividend, as you say, may get distributed more often and…

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [74]

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That doesn’t change the total distribution.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [75]

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That’s true, but on the other hand — it doesn’t change the total distribution, number one. But also, number two, the cash, if you like, sits in the balance sheet and therefore contributes to TNAV for quite a long period. You only actually hit the targets or only make the distribution at the point of distribution. You may accrue for it earlier on, but it’s still in the TNAV.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [76]

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And I think, Chris, another point to — obviously, you have to consider is that, if you look at the TNAV evolution. I think the impact of PPI on TNAV was higher than the dividends distributed. And PPI, as we just said, is about over. So that’s another point. It increases TNAV throughout the year, right? Fahed?

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Fahed Irshad Kunwar, Redburn (Europe) Limited, Research Division – Research Analyst [77]

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It’s Fahed from Redburn. Just a couple of questions. The first one is on restructuring charges. So I think going forward you’re looking at a restructuring charge in excess of the GBP 471 million that you booked for this year in 2020. A lot of the U.K. banks and other banks have come out with restructuring charges that have been higher than expected. So I’ve got the kind of sense from the presentation that there’s more to come on the cost base. Should we expect kind of permanently higher restructuring charges on the back of that as well, if we are to assume that costs keep coming down? That’s question one. And question two is on capital distribution. So I think we can [order the maths] that you have excess capital in 2020. You’re trading at 1.1x price-to-book. Your P&L is — or your revenue line is going backwards. You — any growth you’ve had in the last couple of years has come from inorganic acquisitions, on NII, MBNA and Tesco’s. Would you consider more organic acquisitions? And how do you think — or inorganic purchases? And how do you think about into buying loan books versus buying stuff to help your wealth business, your Insurance business and that’s struggling line?

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [78]

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Just to start with your final question, and then William can elaborate and ask — answer the first one as well. I mean our strategy is exactly the same. Within our positioning, if there are loan books that fit our positioning with our type of customers, we would consider them. We are not considering anything significant at the time, as we speak, but we will continue with the policy that we have followed in the past. If there are loan books like Tesco or like others that fit within our positioning and have interesting customer segments at attractive returns for our shareholders, you should expect us to look at all of those. And potentially, we could acquire some, but I mean this is completely the repetition of the policy because, as I said, we don’t have anything at the moment that we are looking at.

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Fahed Irshad Kunwar, Redburn (Europe) Limited, Research Division – Research Analyst [79]

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Can I ask one follow-up question there? Is there a regulatory kind of burden on how much you can increase that loan book buy because of your size in the U.K.? And would that incentivize you to look outside of your loan book, to other parts of your business?

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [80]

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No, I don’t think so. I don’t think so. We have a particular attention to our market share in terms of current accounts, where as we showed you our current account market share in terms of balance is around 22%, but in terms of loan books, we are below that. So we don’t think there is any [special cause to enter]. It will be a matter of target segments, the right customers, attractive economics for shareholders, as I think the past transactions are showing.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [81]

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You had a question on restructuring charge as well, Fahed, which perhaps I’ll answer. The restructuring charge, as I mentioned, for 2020, we expect to be somewhat higher than it was in 2019. 2019 saw the runoff of a couple of programs, ring-fencing and [MBA] among them. 2020 is going to see 1 or 2, if you like, factors going the other way. I mentioned increased severance. I mentioned property, portfolio rationalization. I mentioned response to regulatory change, in particular IBOR. Those are features. There are other bits and pieces, if you like, in that overall restructurings picture, but those are 3 significant ones that are important to point out. Your question was is that going to be a kind of an ongoing feature, if you like, of the business. The — it’s an interesting question in a way because the restructuring line is a response to what is going on in the world around us. And so in a sense the question has through — has to depend upon a point of view as to regulatory change. How often are we going to see IBOR-type shifts, for example? It’s a question that relates to how is technology going to change. How often are we going to see movements from — to cloud, if you like, off the back of legacy systems? And it’s a function of those types of issues. And if you have a view, if you like, that regulatory change is, hopefully, going to be slightly less prevalent, looking forward, than it has been in the past, then in turn we should see our restructuring charge benefit off of that as we go forward. Having said that, as you know, we’re in an environment of rapid technology change right now and restructuring charge is in part a response to that. I don’t expect that to slow down anytime soon.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [82]

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Please. You already have the mic.

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Fahad Usman Changazi, Mediobanca – Banca di credito finanziario S.p.A., Research Division – Equity Analyst [83]

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It’s Fahad Changazi from Mediobanca now. A couple quick questions. Firstly, just a real quick one on Solvency II. You got 170% pre-divvy Solvency II. Can I just confirm that you’re happy with this level? You’re happy with the leverage after repayment of loan last year and consequently GBP 500 million of divvies. Second question: You accelerated the bulks in H2. There is some seasonality in that, but I remember in Q3 you mentioned the sourcing of assets and the yield on those assets. And Vim mentioned that now you’re going to LTMs. So I was wondering. Could we expect at least GBP 2 billion of bulks each year? And where that’s going. And can I just confirm, William, that you did say we can expect 0 longevity releases in 2020? And just very finally, the longevity swap you did with a pension, the GBP 10 billion, will that have any tangible impact on the P2A?

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [84]

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Yes, good question.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [85]

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Thanks, Fahad, for those questions. They’re all important ones. Solvency II, yes, we’re happy with where we are on Solvency II. There are, as you know, a number of kind of counterbalancing factors that go on into that. At the moment, we’re in a low interest rate environment. Low interest rate environments are not especially helpful from an insurance capital point of view. They increase the SCR. They increase the risk margin, but so far we are managing with that, and we expect to manage with that during the course of 2020. So we feel good about the capital position. And we feel good about the dividends during the course of 2020 coming off the back of the insurance company.

Second question, bulks. You’re right. It’s been an area of increased focus and attention from us. It is an area that it’s not only us, if you like, that are competing in that field. And so there’s a relatively competitive landscape, if you like, in terms of sourcing assets. To a degree, we should be able to source some assets from within the banking business that we run that in turn afford proprietary opportunities, if you like. Now we need to be very mindful of, a, the arm’s-length nature of those transactions and, b, concentration risks. But subject to those caveats, it is, if you like, one of the benefits of being a combined group. So I think the asset picture is, as a whole, a competitive picture, for sure. We should enjoy some competitive advantage there. The yield point, you’re right. I would say the bigger challenge to the pricing, if you like, around bulks right now is more actually subject to the low interest rate pressures that we see rather than necessarily the competitive environment, the challenge being that in a low interest rate environment the pricing that you can offer on a bulk is just inherently less attractive to a client. That, I think, is a more important factor for now. Hopefully, we’ll emerge after that over the course of the year.

The annuities. I would go beyond bulks a little bit when we talk about our annuities strategy because I’d also want to point out the individual annuities aspect to it. And Tony mentioned it in his speech with respect to the opening up, if you like, of the individual annuities platform that we have. That’s an important engine of the business and is an important engine in 2020 of the business.

You then asked about longevity releases. We had a big longevity release in the context of 2019, as you know. I wouldn’t rule it out for 2020, but I wouldn’t expect it to be of the order of magnitude that we saw in 2019. If we do get it — I think the other point that’s worth making, if we do get it, it’s likely to be back end, second half of 2020, not front end as it was in the course of 2019. And then finally, the longevity swap: In a way, I’m glad that you brought that up because the longevity swap is quite a good example of the Pillar 2A analysis debate, if you like. We have a few risks in the pension fund. We have hedged and eliminated most of them. Longevity is one of those that was outstanding. By taking out the longevity swap, we have effectively addressed, if you like, part of that risk. We haven’t done the whole pension population. I think it’s about half of the pension population is covered by that GBP 10 billion swap that we did. Part of the reason that we did it — and ultimately this is going to be up to the PRA, not up to us, but part of the reason why we did it is because it removes or reduces the stress (inaudible) pension fund in an adverse longevity environment. And that in turn should allow us to get some Pillar 2A benefits off the back of it. Now that’s a discussion between us and the PRA, about the quantum of those benefits, but that’s certainly part of the objective.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [86]

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Very good. Thank you. Claire?

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Claire Kane, Crédit Suisse AG, Research Division – Research Analyst [87]

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It’s Claire Kane from Crédit Suisse. A couple of questions, please. The RWA optimization, how much of that strategy is driven by trying to improve stress test performance? Because I know you said you had an improved stress test performance last year in terms of the hurdle rates, but you’re now going to the next 100 basis points lower and effectively wiping out all of that hurdle. So you mentioned you should have an improvement from runoff of the legacy mortgage book, hopefully, lower conduct, but how reliant are you on decreasing risk in mid and Global Corporates to help with that? And can you just comment on the differential on margin between that business and new mortgage business? Because I guess that’s where the new growth is coming from. And then my second question is on the capital generation guidance, 170 to 200. Can you tell us how much you’ve penciled in there for the GBP 800 million of pension contributions? Because clearly that’s gross 40 bps, but you have visibility on which schemes are in surplus, so perhaps it’s not quite as large as 40 bps. And then on the Insurance dividend, you said you feel good about the outlook there, so are you assuming you have an increased Insurance dividend for capital generation purposes next year?

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [88]

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Sure. Thank you, Claire. William will take your questions.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [89]

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Sure. Thanks, Claire. RWA optimization. First of all, it’s not inspired by the stress test. The RWA optimization is about improving the returns of our commercial business. If you look at the returns within our business and the capital allocation against them, it has been the case that Retail has been a relatively positive return. And the commercial has been positive, but it’s been less positive, if you like, versus the Retail business. And we would like to correct that balance over time. The testimony to that, in a sense, is the fact that much of the Retail — sorry, much of the commercial optimization exercise is actually going on at the better end of the credit spectrum. So it is not involving the relationships that would typically contribute to stress losses if you were to have an adverse macroeconomic environment. That’s where we see some of the weaker returns. And that’s where we see the optimization opportunity, if you like, being better for the group.

And the third of your questions, around the Insurance dividend. The Insurance dividend typically contributes around 13-ish basis points of capital to the group. We have 2 ways of looking at it. We have a run rate dividend, if you like, that comes off of the Insurance business based upon the performance of the Insurance business and obviously subject to the Insurance Board’s okay on that. And then we have — to the extent capital management activity is undertaken within the Insurance business for any given issue, for example, we put an equity hedge on it during the course of 2019, then that in turn reduces the requirement of the for equity — or for capital, I should say, in the Insurance business, which then generates an additional opportunity for capital repatriation point, for a better word, from the Insurance company to the group. And so we see the dividend, if you like, in 2 pieces in that respect: the ongoing business and the capital actions piece.

2020. We have in our pro forma numbers actually — for end of 2019, we have included the business-as-usual dividend. And over the course of 2020, we’ll obviously see how the progress of the business matches up to see what the dividends will be at that time.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [90]

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Okay. I think we can take one further question…

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Claire Kane, Crédit Suisse AG, Research Division – Research Analyst [91]

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Sorry. I did ask about how much the pension contribution would take a hit. Because GBP 800 million gross is not going to be fully come off the CET1 given some of the schemes are in — not all in surplus. So the pension contribution, what do you factor in? Is it not 40 bps? Is it less than 40 bps…

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [92]

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Claire, would you mind — can I — can we take that one separately with the IR team? Simply because it’s perhaps a question that would be better answered by them. I will say that most of the schemes — 1 or 2 of them are close to the edge, for sure, but most of the schemes are in surplus. And those that are not in surplus are only just. So there’s not really — there’s not too much of an issue that you’re describing, but again, maybe we’ll get the question answered in more detail by the IR team.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [93]

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Right. We’ll take one final question, okay? We are a bit over time.

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Vimlesh Maru, [94]

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We need a mic…

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [95]

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We have one here. So we’ll take one. Take it fast to them. It’s Martin. Why don’t you start?

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Martin Leitgeb, Goldman Sachs Group Inc., Research Division – Analyst [96]

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Yes. Martin Leitgeb from Goldman Sachs. Could I ask on competition in mortgages? I was just wondering if you could comment how you have seen competition in mortgages evolving through the year. And a couple, a number of your years have essentially indicated they would like to grow above the current stock share going forward. I was just wondering…

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [97]

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I know that is your favorite question.

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Martin Leitgeb, Goldman Sachs Group Inc., Research Division – Analyst [98]

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[Evolving]. And the second question, just on the TFS. So obviously there’s the first meaningful maturities coming toward the end of the year. I was just wondering how you think it will impact deposit pricing here and whether you think there will be any spillover in terms of asset pricing given obviously a reduced amount of funding being available.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [99]

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Okay. We broadly think that the mortgage environment will stay as you have seen it over the last few months. It is true what you says. On the other hand, as Vim also says and given where the swaps are, the margins have improved for the market as a whole. The market is growing more as well. As I just told you, we are seeing early important indicators of additional house sales, house prices and mortgage business as a consequence. And the mortgages at the moment of new business are above the mortgages — the mortgage margins of new business are higher than the ones of a maturing business. So we are anticipating these trends to continue but on the back of a stronger market given we see — what we see on the economy, what we see on house prices, what we see on volumes of transactions and of mortgages requests. And as you can imagine, we already saw January numbers, okay?

In terms of TFS, I think you’re right. There are still additional redemptions to be made. We are very comfortable with our liquidity position because, as you know, savings prices coming generally in the markets been going down. And savings continue to be quite easy to attract. And you look at our current account balances, which are the most — the high-quality ones. They continue to grow significantly above the market, so I would not expect those TFS redemptions that you mentioned, which will be a fact to modify the behavior because they have been also happening last year. Please, last question.

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Jennifer Alexandra Cook, Mediobanca – Banca di credito finanziario S.p.A., Research Division – Former Analyst [100]

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Jenny Cook. [If I can ask] one very, very quick question. I’m just trying to square your guidance on average interest-earning assets because you’re going from GBP 437 billion at the end of Q4 — well, the Q4 average, to GBP 435 billion as an average for FY ’20. And simple averaging suggests that you might be exiting FY ’20 with around GBP 433 billion to get me to that average. I just want to understand, one, if I was correct in that kind of line of thinking. And two, if I — expectations for FY 2020, ’21, they’re off at GBP 441 billion. So quite a big gap versus a potential Q4 exit rate. Do you see yourselves as kind of achieving the volume growth necessary to close that gap?

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [101]

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I think I’ll allow William to answer that.

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William Leon David Chalmers, Lloyds Banking Group plc – CFO & Executive Director [102]

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I’ll give a very brief answer, and then perhaps we can just sort of follow up as appropriate. Which is simply to say, over the course of the year, there are periods of the year where the asset base is going down, particularly in relation to certain product areas, and then follows up off the back of that. So what you’re seeing is an average interest rate — or sorry, an average interest-earning asset picture which in turn reflects that in-year, if you like, change in pattern of the overall assets. So you won’t necessarily see the numbers work out in quite the way to be expected based upon end-of-period numbers. So that’s a brief answer to the question, and we can discuss it further.

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António Mota de Sousa Horta-Osório, Lloyds Banking Group plc – Group Chief Executive & Executive Director [103]

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Yes. We can follow up with you later.

Look, thank you very much, everyone, for joining us and for your questions. We really appreciate it. Thank you.