Commerzbank AG (OTCPK:CRZBF) Q3 2022 Earnings Conference Call November 9, 2022 3:00 AM ET
Company Participants
Manfred Knof – CEO
Bettina Orlopp – Deputy Chairwoman and CFO
Conference Call Participants
Kian Abouhossein – JPMorgan
Johannes Thormann – HSBC
Stuart Graham – Autonomous Research
Tobias Lukesch – Kepler Cheuvreux
Jeremy Sigee – BNP Paribas
Anke Reingen – RBC
Chris Hallam – Goldman Sachs
Riccardo Rovere – Mediobanca
Operator
Good morning, ladies and gentlemen, and welcome to the Commerzbank AG Conference Call. Please note that this call is being transmitted as well as recorded by audio webcast and will subsequently be made available for replay in the Internet. At this time, all participants have been placed on a listen-only mode. The floor will be opened for questions following Manfred Knof’s and Bettina Orlopp’s presentation.
Let me now turn the floor over to our CEO, Manfred Knof.
Manfred Knof
Good morning, everyone, and welcome to our earnings call for the third quarter. Let me start with some general remarks, before I walk you through the slides and Bettina goes into the financials.
On the one hand, we see very strong performance in our business and are fully on track with our transformation program. On the other hand, we faced significant macro uncertainties along the lines of GDP, inflation, rates, and asset quality. This makes it very hard to provide you with an outlook that does not come with some health warnings.
However, I am very convinced that we will reach more than €1 billion in net profit this year. And looking into 2024 and our strategy execution, I am convinced that we will have reached our targeted cost income ratio of 60%. But again, uncertainty is high and it’s a key challenge of the whole team to manage it in the best interest of all stakeholders.
Now let’s have a look at the slides and start with our very good business performance. In the first nine months of the year and the tailwinds from rates, we have increased our revenues by 12%. This even includes significant burdens from mBank in Poland. Otherwise, revenues would have grown by more than 20%. This is exceptional. And due to our high cost discipline, despite increase in pressure from inflation, it translates into a cost income ratio of 69%.
Our loan book proves to be of high quality. There is no meaningful deterioration so far. With such low provisioning needs in the third quarter, this leads to an increase in operating result of 50% after nine months in this year. Capital slightly increased to 13.8% and provides us with ample capacity for our targeted 30% payout, which is of course subject to reaching our net income target.
At the end of this year, we will be half way through our strategic path to 2024. In the past two years, consolidation has clearly been the focus of our transformation program. The necessary restructuring and the setup of a leaner business model has been my top priorities when I joined Commerzbank as CEO almost two years ago. And we are virtually done with the consolidation.
Let me recap the highlights. The reduction of 10,000 FTEs is largely accomplished. 8,350 FTEs are already contracted. A further 1,100 are part of the streamlining of our international network and come with very low execution risk. We have cut our branch network faster than planned two years ago, from originally 1,000 branches we reduced the network down to 450 branches and will further reduce to 400 next year.
We have also reduced the cost in terms of complexity in the bank, but it is clear that we have to go further. Complexity reduction and higher efficiency remain top priorities in operations. In parallel to the restructuring, we have built the new business model. In PSBC, all 12 advisory center locations are live and have started with remote advisory of clients. More than 50% of staff and clients are already transferred and the run-up will be finished by the end of this month.
In Corporate Clients, the direct bank is also fully operational. With the next onboarding wave, it will serve 6,000 clients by the end of this month. And sustainability has become an integral part of our business model and is well established.
With the business volume of €185 billion in the first nine months of the year, we are well on track towards our target of €300 billion in 2025. The new business model setup also means change for many of our customers. So far, however, we do not see any meaningful revenue churn and we will make every effort to limit churn going forward. And this leads me to our focus for the next phase of the transformation.
Client business. In the next two years, we will concentrate on our client business within the new setup. In PSBC, 8 million customers will be introduced to a 24/7 remote service and advice. The advisory centers close the gap between branches and digital banking. We are absolutely convinced that this is the right approach to retail banking in this decade. It might come with a few temporary shortfalls in sales, but it saves a lot of cost and the full product offering is in place.
For the rising number of customers who are self-directed and prefer digital channels, comdirect offers all relevant services and products. And we will further invest into comdirect to maintain our strong position in the market. Our strong advisory skills in 220 premium branches will be focused on wealthier clients to make sure that we tap the full potential of the respective revenue pools.
In our Corporate Client segment, the clear focus is on the German Mittelstand. We will strengthen our leading position as a reliable banking partner, especially when it comes to tackling the uncertainties ahead. We will open up our direct bank for corporates also to new clients and plan to serve 7,000 clients with a fully-fledged product offering by 2024.
Strong export and global sourcing are obviously key assets of the German Mittelstand. Wherever our clients do their business, we aim to be there to support them. Therefore, we constantly review our footprint and adjust when necessary.
In light of changing trade corridors, we open up rep offices in selected foreign locations to be present for our clients. Such a rep office is very lean, with just two or three people on the ground who manage relationships with our clients. Thus, we strengthen our position as leading trade finance bank for Germany. So client business is in focus, but we will not give it inefficiency.
High cost discipline and profitable employment of capital in RWA remains top priorities in the bank and are crucial for future success. This has all been part of our annual strategy review, which we also discussed with the Supervisory Board. Besides priorities and focus, we have also confirmed our targets for 2024. We target a cost income ratio of 60% and the return on tangible equity of more than 7.3%. The return figures come with high excess capital as we have not baked in the plan any distributions above 50% payout. Beyond 2024, my ultimate goal is clearly to earn cost of capital.
Let me conclude with my key takeaways before I hand over to Bettina for the financials. First, in turbulent times, we have delivered a very good financial performance. Second, we confirm our 2022 targets and keep our guidance of more than €1 billion net income. And third, we enter into the next phase of our transformation and confirm our key targets for 2024.
And now over to you, Bettina.
Bettina Orlopp
Thank you, Manfred, and also good morning from my side.
I will now walk you through the financials of the quarter. After that, I have a follow-up on the strategy update with a more detailed view on costs and revenues. I’m very pleased with the underlying profitability of our businesses. Despite a €747 million burden from credit holidays and Swiss franc provisions in Poland, we reached an operating result of €282 million at a net result of €195 million.
Excluding these burdens, it has been the best quarter for more than 10 years. And we are well prepared for future uncertainties. The €500 million, we have maintained a high top level adjustment to cover potential further impact to the risk result. And the CET1 ratio has improved slightly to 13.8%, 435 basis points above the MDA. We continue accruing for 30% payout for the year. The good performance in the quarters rest on three pillars, significantly better NII, the cost base contained by our strict cost management and a low risk result. I will cover all three in more detail later on.
On Slide 8, you see the year-to-date view. We have improved almost all key financial indicators, even compensating the burdens in Poland. The higher risk result reflects the effect of Russia, while risk provisioning for the underlying business remains at a moderate level. For the nine months result, net result of €963 million, we are very close to reaching our €1 billion target for the year.
The exceptional revenue items on Slide 9 are dominated by the credit holidays in Poland. There was a small benefit from the TLTRO in the quarter. We have not included any benefits from TLTRO and our 2023 and 2024 targets.
This leads us to the underlying revenue starting with the commission income on page 10. Corporate Clients has increased net commission income, especially based on strong hedging activities by our customers. Given current market uncertainty, hedging needs of our customers should continue to support revenues.
Nevertheless, on Group level, net commission income is lower than last quarter due to PSBC Germany. Lower equity and bond market affects PSBC securities business. Also private customer trading volumes have trended down. As long as there is no turnaround in the markets, we do not expect an improvement. Therefore, 2022 net commission income will most likely be somewhat below last year’s level.
Now to NII and Slide 11. Underlying NII is up €176 million from the previous quarter. Adjusting for the positive one-off from early mortgage repayments in Q2, all customer businesses contributed to the improvement. In Q4, we do not expect NII to rise significantly. In Q3, we have seen the cumulated effect of higher rates on deposit pricing and corporate customers that has now come to an end. And also the increase at mBank was exceptionally high.
The next slide covers the NII outlook. At current and further rising rates – interest rates, we benefit from better interest income from deposits, both from unmodeled deposits invested short term, as well as moderate deposits where we can reinvest at higher yields over time.
We already see first effect this year with interest income from the deposit business expected to be around €450 million higher than last year. There is uncertainty on how the yield curve will develop in the next years. Forward rates and market expectations are currently fluctuating significantly. We have, therefore, calculated our interest rate sensitivity with a conservative consensus derived rates scenario.
We assume average ECB interest rates of 2% and five year rates of 2.28% in 2024. The forward rates at the end of Q3 was around 100 basis points higher. Not only is there uncertainty on how the yield curve will develop, there is also uncertainty on how many deposits will be moved from non-interest bearing side deposits to other products paying interest.
We have already seen first attacker product launched by some competitors in Germany. The higher rates are, the bigger the incentive to move. How much this will be and what pricing will be required depends on many factors. And it’s hard to predict as we have not seen a rising rate cycle for more than 10 years.
We assume a deposit beta of around 35% in 2024. This would result in a €950 million improvement of the NII compared to 2021. The sensitivity to changes in these assumptions is high. 1 percentage point change in the deposit beta is equivalent to €45 million NII per year, all other parameters being unchanged.
Thus, if the beta should turn out to be 25%, we expect around €450 million additional NII. 100 basis points parallel shift of the interest rate curve, assuming constant beta, would result in around €350 million extra NII in 2024. Given these uncertainties and sensitivities, we have decided to use these prudent assumptions in the update of our Strategy 2024 targets.
Let’s move to cost on Slide 13. Our cost management measures are well underway. The headcount reductions as well as branch closures and lower usage of external consultants show their impact. On the flip side, compulsory contributions have further increased. We stick to our 2022 cost target of €6.4 billion.
So far, our cost measures have overcompensated effects from inflation and compulsory contributions. However, pressure from inflation continues to increase. An additional one-off cost we will face in Q4 is the inflation compensation premium payments to our employees that we have just announced. Also, variable compensation might be higher than originally planned.
The next three slides detail the risk result. The year-to-date cost of risk on loans has reduced further to 32 basis points and is still dominated by the TLA booking in Q1. We continue to see a higher resilience of our customers and the low level of defaults. Our Russia exposure has been actively reduced by around €100 million during the quarter, resulting in a partial release of the top level adjustment. This has led to the positive risk result in Corporate Clients.
Following the €64 million reduction of the TLA in Q3, we still have €500 million available to cover potential direct effects from Russia, as well as secondary effects like supply chain disruptions, higher energy prices and an economic slowdown. What is not covered is the potential effect of a gas rationing scenario.
So far, there has been no need to book a TLA for gas rationing scenario. Germany has made significant preparations for the upcoming winter. Storage facilities are largely full. Non-Russian imports have been increased and the government is providing substantial measures to support private households and corporations. However, a significant reduction in demand is required to avoid a shortage. While feasible, this is not guaranteed.
In case, efforts should fall short, resulting in a huge shortage, we expect unemployment to rise and GDP to contract more sharply. The impact will be cushioned by measures from the German government. Nevertheless, in this scenario, the booking of an additional top level adjustment of €500 million to €600 million is a possibility. Obviously, this is not our base scenario, but we can’t rule it out.
Having covered the key profitability drivers, I will now quickly touch on other income and the tax rate. Underlying other income largely reflects the provisions for Swiss franc mortgages in Poland. Concerning the tax rate of 85% this quarter, this is a result of the extraordinary burdens in Poland that are not all tax deductible. From today’s perspective, a tax rate at around 35% to 40% is likely for the full year.
The next slides cover the operating segments, starting with private and small business customers. The securities business has been impacted by lower equity and bond markets, reducing securities volume by €6 billion. However, we have continued to see an inflow of net €600 million, despite the current market environment. Mortgage volumes have been impacted by higher rates and economic uncertainty.
In Q3, we have seen around 40% lower new business compared to the average in 2021, in line with the overall market. The back book has remained stable at €94 billion. Over the next quarters, we are expecting stable to slightly lower back book volumes. The deposit business has seen continued inflows.
So far, there has been no material passing on of rates to customers. Some competitors have started with teaser products to attract new customers and deposits. We will carefully adjust our pricing to market conditions and expect an increase of deposit better over time, gaining pace in 2023.
This brings me to the performance of PSBC on Page 19 and to 20. PSBC Germany operating result is better year-on-year and also quarter-on-quarter if adjusted for the benefit of €90 million from early mortgage repayments in Q2. When adjusting for cleanup of inactive client relationships in the quarter, customer and revenue churn remain very well below expectations. mBank result is dominated by the burdens from credit holidays and Swiss franc mortgages, pushing mBank to an operating loss of €528 million.
In Q3, excluding these charges, mBank would have reported a record result of €219 million based on higher revenues, driven by €73 million higher interest income quarter-on-quarter. With the increased provisions for Swiss franc mortgages, mBank has a coverage ratio of more than 50%. This should be sufficient for most scenarios. With the politically imposed burdens, mBank will likely not be able to contribute positively to the Group result this year.
The next two slides cover Corporate Clients. In Corporate Clients, we have continued our active portfolio on RWA efficiency management. Loan volumes have grown and average RWA efficiency increased to 5.7%. We have now received the preliminary permission from the ECB to move some portfolios from our internal models to the standardized models for RWA calculation. The switch should, therefore, become effective in Q4. This will lead to some RWA increase in Corporate Clients that will be offset by reductions in others and consolidation.
In the deposit business, we have continued to see inflows and have ended deposit charging in July. The volume of interest-bearing deposits is currently about one-third of the total, mainly term deposits. The volume is basically unchanged to Q2. In Q4, we will probably see some increase of interest-bearing deposits as rates at 1.5% makes us more attractive.
The €536 million Corporate Clients reached its best quarterly operating results since Q1 2015. This is based on improved revenues from all customer segments and product types. The biggest driver has been underlying NII, which is up 25% year-on-year. In addition, cost continue to be managed down. Overall, the pre-provision result has doubled year-on-year.
The operating result further benefits from a positive risk result, thanks to a partial release of the Russian TLA and a low number of defaults. Others and consolidation reports a Q3 operating loss of €47 million. Revenues cannot fully cover the operating expenses and were affected by the dislocations in the UK market at the end of the quarter.
In October, this effect has reversed again. For the full year, we continue to expect a slightly negative or balanced operating result. Group risk-weighted assets have been reduced slightly due to decrease in credit risk RWA from securities positions in others and consolidation. Capital has also improved due to the positive net result. In total, this has led to the improvement of the CET1 ratio to 13.8%.
Now to our outlook for 2022 on Slide 25. Our outlook continues to be based on the assumption that there will be no severe deterioration of the economic environment, which would require the booking of a large additional top level adjustment. For the financial year, we expect interest income above €6 billion and the commission income slightly below the previous year.
We stick to our target for operating expenses of €6.4 billion, also pressure from inflation continues to increase. The risk result is expected to come in around €700 million, assuming usage of the TLA. Further, we expect the CET1 ratio above 13.5%. Hence, we continue to expect a net result of more than €1 billion. And last but not least, we target a payout ratio of 30% of the net result after AT1 coupon payments for the business year 2022.
I will now give you an update on our revenue and cost expectations for 2024. Slide 27 starts with the revenue outlook. We raised our revenue target by €900 million to €10 billion in 2024. The target for mBank remains unchanged. We continue to expect €600 million higher adjusted revenues than in 2021.
However, Polish interest rate should come down from the current very elevated levels and NII should, therefore, be around €200 million below this year’s level. We have, however, adjusted the outlook for euro interest rates. NII from deposits is assumed around €950 million higher in accordance with our base interest rate scenario covered earlier. We have not assumed the net change in loan volumes and margin as lower mortgage volumes should be compensated by growth from overdraft facilities and business loans. Also, our assumptions for commission income have not changed materially.
The next slide covers the cost trajectory. We are well on our way to implement the cost reduction measures that are the heart of our strategy. Without additional headwinds, we would be on track to reach our originally 2024 target. However, we see increased staff costs and administrative expenses, primarily due to higher inflation. But we also must implement some new requirements that were not part of our original plan.
We faced additional costs for adjusted – for increased cyber security measures and new regulations. And we also decided to invest more in our two brand strategy in PSBC. Compulsory contributions will also be raised further, adding around €100 million to our cost base. All this will be partially offset the net cost reduction and we expect a €6 billion cost base in 2024. We will continue to further optimize our cost base as a top management priority and confirm our target to reach a cost income ratio of 60%.
To summarize, with revenue growth more than offsetting cost increases, our operating result is expected to reach around €3.2 billion in 2024. We assume that the most – that most effects from a potential recession would become apparent next year and booked accordingly.
Therefore, we anticipate an only slightly increased risk result in 2024. This leads to an unchanged cost income ratio of 60% and the net RoTE above 7.3%. With our prudent planning, we are confident that we can reach these targets and should be able to absorb some potential negative effect from the more uncertain economic environment.
Thank you very much for your attention. And Manfred and I are now very happy to take your questions.
Question-and-Answer Session
Operator
[Operator Instructions] And the first question comes from Kian Abouhossein, JPMorgan. Please go ahead.
Kian Abouhossein
Yes. Thank you for taking my questions. Specifically, first question is on NII. If I take Slide 11 plus 12, and then I compare to Slide 27 with your new NII target, clearly, if I take the third quarter annualized and I adjust for even the €200 million lower expectations on mBank and I include the historic churn rate of €300 million that you talked about, I believe, clearly I can get easily above the €6.3 billion. And I just wanted to see how we should square Slide 11, 12, plus adjustments equal to 27 on NII.
And the second question I have is on corporate banking. I mean, you have done really well on NII for Corporate Clients. And I’m just trying to understand, historically, we would see higher deposit betas in this area. And just wondering, how we should think about Corporate Clients going forward in terms of NII generation specific in that segment. And lastly, if I may, very briefly on costs, personnel inflation, cost inflation on Page 28, what wage settlements do you assume?
Bettina Orlopp
Okay. Thank you, Kian. So on the NII, I mean, if you take, the third quarter is a difficult one to take for the quarters to come for two reasons. One is, we nearly – I mean, there was first, I mean, decreases started. But we really didn’t have a lot of deposit beta already implemented. And that will definitely increase and this is a 35% which we see for 2024. So that makes a big difference as we have shown the sensitivity on the deposit beta.
The other thing is that relates also to your other question on Corporate Clients and the very good results in the third quarter that you have a kind of a double whammy effect in there. So we had a deposit pricing still in this quarter for Corporate Clients. And on the other side, we have already seen the benefits from the interest rates, and indeed, the rates discussion with corporate treasurers just started.
So you will see an increase in deposit beta over the next quarters. And overall, I mean, you basically will see in the movement the €450 million additional which you see for 2022, there is slightly more coming from Corporate Clients, and that will turn a little bit around under 2024, where you will see more to come from the private client side.
And on the cost side, I mean, we have already baked in certain inflation because we have for the pay scale workers. We have an agreement for this year, but we also expect more to come. So the usual increase which we normally would have included like 1.5% is clearly not enough. So we went above. And specifically, also in the foreign locations, we see salary increases between 5% to 10%. And we only not see that with our own headcount related costs, but also with respect to our suppliers and service companies who all come now and ask for basically higher prices and higher fees.
Kian Abouhossein
Okay. Can I just follow-up just on the NII? I mean, even if I take a run rate of, let’s say, I make adjustment of €1.5 billion and then I take Slide 12, I realize the deposit betas are going up from nothing almost. But even if I do that, I should add up considering interest rates are going up and forward curve, I should end up well above the numbers that you have. Am I missing something? That’s what I’m trying to understand.
Bettina Orlopp
Well, I mean, one thing is also that – and we said that clearly that we are not – we have not based our 2024 targets on the current forward rates, which are apparently higher. So we just took 2% into account for 2024. That also makes a big difference. And there’s also, I mean, it’s basically something which is piling up.
So you will see – if we would have shown our ’25 and ’26 numbers, you will see a constant increase, because as we have seen these easing in of negative interest rates on the revenues, you see also partly in eating or in adding in over time now of the positive interest rate environment. So it’s numerous effects. But the most important one is really the deposit beta and you should not undermine the effect of, do we calculate with 30%, 35% or whatever. And I would say – and we have been clear on that. We are rather prudent on our 2024 targets.
Kian Abouhossein
Great. Thank you very much, Bettina.
Operator
The next question comes from Johannes Thormann, HSBC. Please go ahead.
Johannes Thormann
Good morning, everybody. Johannes Thormann, HSBC. Three questions from my side. First of all, again on the deposits and deposit beta, probably you can provide us with a breakdown of your PSBC deposit beta of €153 million in your presentation. How much is basically savings deposits, term deposits and site deposits to better understand why you are so cautious on the 35% deposit beta which is puzzling me as well. And then probably also you can elaborate a bit more on Page 11 and 12, why you just expect uplift to 175 bps with the current move? What is driving your economists or your forecast not expecting 2% or 250 bps for example, like getting closer to market rates?
Secondly, on your mortgage business, please. Could you say how much new business you did in Q3 versus the other quarters and then what is your expectation for Q4? Did you change your underwriting standards? You now want less amortization or you still go for 3% to 4% amortization? And what kind of volumes do you expect for 2023?
And last but not least, on the OpEx. Unluckily you use the transparency, I can’t find any breakdown of personnel, other and depreciation in any of your documents. Could you share this breakdown to probably see how the headcount reduction is personnel cost? And then probably also in the long run, how do you square the €6 billion targeted cost versus now? What will run down more sharply, the personnel costs or other costs or depreciation looking also at investments? Thank you.
Bettina Orlopp
So, I mean, on the deposit beta, the 35% is something which is the average and the blend out of Corporate Clients and Private Clients. And we all know that they are different. So on Corporate Clients, we would – we calculate even on the site deposits with some deposit beta and then it goes up for the term deposits.
On the Private Client side, we still have the assumption that, on the site deposits, we would not pay any deposit beta, but only on the term deposits and savings accounts. And clearly – and we very much, yes, oriented ourselves on historic data, because apparently nobody knows how clients are really reacting.
So we took what we have seen in the past where we also did never pay on sight deposits, deposit beta and things like that. But all in all, it’s very much dependent on how much – how the clients react. So we assumed substantial shift from sight deposits to term deposits. It’s really a higher double-digit billion euro number which we assumed.
And – but the true story is, we will know when we see it. Also, I mean, we see some competitors out there with some quite aggressive attacker products and we need to see how things are developing. So the 35% are currently our best guess based on the blending between the two segments and the historic data we currently rely on.
On the second point, the second question, I’m not sure whether – I think you were relating it to – Johannes, to mortgage business, right?
Johannes Thormann
Yes. In mortgage business. So first of all, the new business volume, what do you expect also in the next quarters? And did you change your underwriting policies now with the jump in rate? Like expect – do you model less amortization into the rates, for example, again?
Manfred Knof
Okay. Let me start. Yes, it’s – the book of business is still stable, but we know that the new business volume in third quarter is 40% below the average of last year. So, yes, the new business volume and mortgages is down. We are very strict and still tight and applying our existing tough underwriting standards. Yes, the margin is slowly up – slightly up. So we are strict, but we already have very, very tough standards before which we are applying. But it’s true the new business volume is 40% down on the – in comparison to the average of last year. And now I think back on the personnel cost.
Bettina Orlopp
Yes. I mean, you see the split on how costs are developing on Page 28 of the presentation and that’s equally split on the inflation part on personnel cost inflation and administrative from cost inflation. If you take just year-to-date 2022 versus year-to-date 2021, on the headcount related cost side, we have seen a reduction of minus 5.4% and for the other cost minus 4.8%, unfortunately offset by our beautiful increase in compulsory contributions, which is hard to influence from our side.
Johannes Thormann
Okay. Sorry, but still could you provide the exact breakdown of the cost currently? How it splits on personnel, other and depreciation? And as well, I don’t understand why you can’t split down and break down the deposit mix in PSBC. So we can probably better understand why you are so careful on the deposit beta there?
Bettina Orlopp
Well, I mean, I really like transparency, et cetera, but you will also understand that we are not revealing complete deposits strategy given that we have also competitors out there. But it’s just simply the fact that we differentiate between sight deposits, savings accounts, and term deposits. And we do that based on historic data. And we also assume that a large part of sight deposits will move into overtime, specifically when interest rates are further increasing, we will move from sight deposits into term deposits or savings account.
And on the cost breakdown, I think we just need to look it up and provide it to you later, but it is an easy one, because we just have to take the cost breakdown of the 5.4 and provide you with a cost breakdown of the 6.0, that’s not a big problem.
Johannes Thormann
Okay. Thank you.
Operator
The next question comes from Stuart Graham, Autonomous Research.
Stuart Graham
Hi. Thanks for taking my questions. I had two, please. The first one is on capital. You talk now the reliable capital distribution on Slide 4. My question is, are you still committed to the €3 billion to €5 billion capital return by 2024 and can you talk about share buybacks in there? I mean, given you’re going to make the €1 billion net profits this year, can we think that share buybacks could already begin early next year? So that’s my first question.
And then the second question is for Bettina and I apologize, it’s a super geeky question. The mBank yesterday showed just over PLN2 billion of underlying NII, which on an average FX rate of 4.7 should have been 423 million of NII. Yet you showed 473 million, so a 50 million higher figure. Historically, you’ll see NII has always been 40 million a quarter lower, because of the funding costs and yet the last two quarters, it’s materially higher than what mBank is showing. What’s going on there, what’s driving that? Thank you.
Bettina Orlopp
Okay, Stuart. On your first question, I mean, indeed we have also – when you look on 2024 capital ratio will be well above 14%. Apparently, there is then quite some potential out there. And I’m pretty sure we will touch on that also in the upcoming quarters and see how things are developing.
On the share buyback thing, I mean, it’s part of our capital return policy. And I mean, we carefully have reviewed the strategies of our competitors and, I mean, we have now seen quite a number of share buyback programs which indicates that also our regulator is supporting this measure. And it’s part of our capital return policy. So we will definitely consider that. But the order is pretty clear. So first, deliver on the more than €1 billion and then we will discuss in February, March about how to distribute that and we will consider all instruments.
And on your second question, on mBank, let’s – it has lot to do with averaging of FX rates. Then you always have differences because of the consolidation and the internal businesses taking place between mBank and Commerzbank. So sometimes it’s tough to compare. But there’s no specific thing ongoing between mBank and Commerzbank. It’s just the usual things and sometimes it goes in one direction and sometimes in the other.
Stuart Graham
So that could revert to a negative in future quarters?
Bettina Orlopp
Might be. I mean, the thing is that also, I mean, we always have our assumption also when we put the outlook in. We have our assumption on the FX rates. And dependent on what FX rates you have, you have a positive or negative impact on either revenues or costs which you show here. That’s basically a matter of fact. Yes.
Stuart Graham
Okay. And then just finally back on the capital. That’s a yes on the €3 billion to €5 billion was it or it’s a maybe?
Bettina Orlopp
But the thing is that, I mean, we haven’t changed our profitability target. We have even increased the operating income. So, yes, I mean, given that we also do not assume that we have a big shift in RWAs et cetera, it’s clear that we have a lot of potential.
Stuart Graham
Thank you for taking my questions.
Operator
The next question comes from Tobias Lukesch, Kepler Cheuvreux.
Tobias Lukesch
Yes. Good morning. Thanks for taking my questions. First, I would like to touch back on the NII and your sensitivity you provided. Given that, if I understood you correctly, that Q4 is likely not to be better than Q3, but potentially also not much worth, I think implicitly you would guide for a kind of €6.1 billion NII in 2022. So comparing that to the €6.3 billion in ’24, yes, this is very conservative. I was just wondering if you kind of calculate a reduction in mBank’s NII contribution based on this or if this is kind of run rate that we have currently seen in that number?
Secondly, I’d like to come back to loan growth. If I understand you correctly, yes, mortgages suffered immensely. However, you think to compensate with overdraft and other corporate loans basically. So looking into ’23 and ’24, is there any loan growth you can share with us, potentially also split between the two things.
And maybe lastly, a quick technical one, so to say, on the TLTRO. There was a very small amount booked in Q3. Last year, there was no amount booked. What should we expect as a final TLTRO booking in Q4 and in general, how do you think to continue with the TLTRO funds you have on balance sheet. Thank you.
Bettina Orlopp
Okay. So let me start. Perhaps a little addition to Stuart’s question on capital return. I think it’s also important to stress that share buybacks are only possible with the approval of the regulatory authorities. I just would like to add that to not have any misunderstanding that we clearly have to get that approval first.
Now on your questions, Tobias. So, we said that we assume a reduction in NII. If you compare mBank ’24 numbers with ’22, given that we also assume in our rate assumptions that you will see probably starting in ’23, but latest in ’24, a reduction of the very high interest rate level in Poland. And that one we have reflected in here. And the rest I think I would have covered.
And on the loan growth, it’s very difficult to make a forecast at the moment for ’23. But I mean, we see that our corporate clients have lots of investment needs. So we would expect further growth here.
On the private client side, we are more cautious because we see this activity, which has slowed down quite significantly on the mortgage side and on the consumer loan side. And we will see that also at least continued for ’23, might recover in 2024. And that’s also why we forecast a slight decrease of the back book in the coming quarters.
Yes, on the TLTRO, I mean, we have shown quite significant benefits out of the two programs in the past quarters. This quarter, we have shown €9 million. There will be clearly a positive effect in the fourth quarter, given that the program only ends by end of November. This will be something in the double-digit million euro size. And besides that, we have been in the lucky situation that we always had in our plans, a negative interest rate environment. So we never assumed benefits out of the TLTRO in the coming years.
And when we did our new planning over the summer, where we apparently now have also calculated with a positive interest rate environment, we already heard about the rumors that ECB is thinking about changing the conditions. And therefore, we also didn’t include it over the summer, which has now proved to be a smart thing that we have done it like that. And let me also state clearly that we haven’t done any hedging of TLTRO.
Tobias Lukesch
Thank you, Bettina.
Operator
The next question comes from Jeremy Sigee, BNP Paribas.
Bettina Orlopp
We hear nothing. Hello?
Operator
Yes, just one second, please.
Bettina Orlopp
Shall we take the next one first and then see the…
Operator
Just one moment.
Bettina Orlopp
So are there technical problems? Hello? Operator, I mean, we…
Operator
I’m sorry. Just one moment, please.
Bettina Orlopp
Yes. We are waiting here, everybody, right? Thank you.
Jeremy Sigee
Hello? Hello?
Bettina Orlopp
Yes, we can hear you. Very happy to hear you.
Jeremy Sigee
You can.
Bettina Orlopp
Yes.
Jeremy Sigee
Yes, fantastic. Very good. Okay, I’m not sure what happened there, but good. Well, listen, thank you. I just wanted to ask two questions about credit quality. Firstly, on your 2022 scenario, you assume usage of TLA. I just wondered how much. Are you assuming the whole thing gets drawn down or the bulk of it? I just wondered what your thinking is on using the current €500 million that remains?
And then my second question was, just say how you think about the timing for evaluating the gas rationing scenario? You seem to see it more as a 2023 possibility rather than something that’s likely to impact 4Q. And I just wondered what you see as being the key pressure points that will tell us the answer on that scenario. Will we know in December, January when we’re partway through the winter? Will we need to wait till the spring or is it about the sort of summer refilling the storage? Just where do you see the key sort of moment where we’ll be able to evaluate that gas rationing scenario?
Bettina Orlopp
Hi. Thank you, Jeremy. So, on asset quality and the usage of top level adjustment, I mean, we would assume, in the moment, that we would see – yes, not to complete usage, but a good part of the €500 million to be used. That is our current assumption. In the moment, I have to say, it’s very calm so far, also in the fourth quarter.
But apparently, this is a very, very long quarter, until beginning of March. And that relates also to your second question, whether we really see such a gas rationing scenario, such an event, I mean, that could also happen in Q4. And it’s very much dependent on how things are developing. I mean, we now have the benefit of rather where we will start off the winter to say it like that.
And the key question is, do we show the reduction of the consumption we need, that we do not enter into any constraints. And that you will be able to see in already in December when we see the numbers, and January.
So we will closely monitor the situation. And then it also depends on what the impact really is. This is the second part which we have to review. I mean, there are clearly some industries and we have laid that out in the appendix of the document, which we see as the most sensitive and most exposed to a potential gas rationing scenario. And, yes, we will monitor and we will probably have a good feeling on that already in December, January whether there is something in the fourth quarter.
Jeremy Sigee
Okay, thank you very much.
Operator
The next question comes from Anke Reingen, RBC.
Anke Reingen
Thank you very much for taking my question. The first is on cost. I just wondered on the path from the €6.4 billion to the €6 billion in ’24, will there be a gradual step down or given inflation that’s more flat and then step down in ’24? And then on the NII, just address some area. Is it obviously spreads have been widening? Do higher wholesale funding costs play a role in your NII outlook? And I guess TLTRO is one of – would be one of the pathway of higher funding cost, but what’s your plan in terms of repaying TLTRO? Are you intending to keep it or haven’t quite decided – as long as possible or not quite decided yet? Thank you.
Bettina Orlopp
Okay. So on the cost side and I can combine it with the question of Johannes on the split of the costs. So the €6 billion of split in approximately €400 million for compulsory contributions, €3.2 billion for headcount-related costs and €2.4 billion for other costs. That’s basically the split. And related to your question, Anke, for ’23, we assume and we expect a reduction. So not a flattish development between ’22 and ’23, but a reduction so that we are further moving from, I mean – we now have year-to-date at 69% cost income ratio. We target the 60% for ’24 and ’23 will be on our way there. So, and clearly with a reduction of cost for ’23.
On the NII, not really a significant increase of funding cost, also no real spread widening. So that’s not the thing, which we have to take into account. And on TLTRO, we haven’t not fully decided what we do and we will decide that probably in the next couple of weeks. I mean, the first thing is now up for decision and – but we are still in the consideration process to say like that.
Anke Reingen
Okay. Thank you very much.
Operator
The next question comes from Chris Hallam, Goldman Sachs.
Chris Hallam
Yes. Thank you for taking my question. Just two of them. So first, on deposit betas. On Slide 12, is there a way to read that 100 basis points unchanged deposit beta comments that we should assume that a 3% ECB deposit rate in ’24 would result in more or less the same deposit beta as 1.75% in ’23. And if so, what gives you confidence in that view from a sort of competitive standpoint, given, Bettina, your comments you made earlier about some of your competitors already moving on overnight deposits?
And then secondly, on RoTE, so clearly the 2024 ambition has been lifted from a revenue perspective, but so too on costs. And I think you’ve been clear before that there would be some additional investment or reinvestment you might like to make in the business as well as inflation pressures you’re seeing. So given the RoTE conclusion is more or less unchanged, should we assume that you’re essentially managing the bank for 7% to 8% RoTE in the medium term and reinvesting the additional NII upside in future efficiencies and technology, et cetera?
Bettina Orlopp
So, on the deposit beta, I mean, for the sake of also not creating too much confusion, on the Page 12, we decided to just take for the 100 basis point increase, the same deposit beta of the 35%. But if you read it, I mean, there is – I mean, the higher the rates, the higher is also the deposit beta. That’s for sure.
So it might be that if you would see an increase of 100 basis points that you would then also see a slight increase of deposit beta. It’s just hard to tell. And therefore, we just decided to just keep the deposit beta at the 35%, because we also believe that the 35% is a good prudent assumption for 2024. With all the caveats I already said that, we simply do not know how things are really developing, because we are not really used to the situation in the moment.
On the RoTE, I mean, partly, yes, we also do some additional investments. It is not all related to the inflation. As I said, we see just some requirements. Just take cyber security which has really gained even more importance over the past months also due to the conflict with Russia and that is one side of the story is the other one is also that, I mean we decided to keep comdirect at least on the front-end side of the IT separate to be just a quicker and faster to the needs of comdirect customers and that also comes at a certain price. So it’s a mixture. The majority is really dependent on the inflation effects, which we currently see. But there are also some reinvestments.
Chris Hallam
Okay, thanks very much.
Bettina Orlopp
I mean, ultimately it’s also clear that also ’24, it’s just an intermediate step towards our clear target to achieve cost of capital.
Operator
The next question comes from Riccardo Rovere, Mediobanca.
Riccardo Rovere
Good morning, everybody, and thanks for taking my question. Three or four, if I may. First of all, a clarification on Jeremy’s question with regard to the phasing of the use of TLA. It’s not clear to me, Bettina, if you stated that you expect to use the majority of the €500 million already in December ’22. Even if – and this does sound a bit strange maybe to me, as long as the situation does not deteriorate materially, maybe it would be difficult to allocate those TLA to single names, but just want clarification on that.
And still on ECLs, when you calculate ECLs, you have your PDs and your LGDs based on the past evidence, plus you have a scenario where those issues should move in the next couple of years, two, three years. When you calculate the additional €100 million roughly ECLs in respect of the previous target, what kind of scenario do you plug into that – into those calculations to derive your brand new PDs and LGDs?
And then related something to that, with regard to gas rationing scenario, the additional €500 million, €600 million, is the government intervention related to the €200 billion is somehow incorporated in those calculations, in those indications or not? And then on capital return, when you presented Strategy ’24, some point you stated, first of all, on capital return we need to show our regulator that we are profitable and the profitability becomes stable and something like that.
And then we can eventually debate on capital return, the size and what it means in what way. Is the macro situation changing anything with regard to the discussions that you have with SSM? Is there anything making – is this macro making those discussions a bit more difficult or I don’t know how to pull them a little bit, little less – little more uncertain on that front? Thank you.
Bettina Orlopp
So, Ricardo, thank you for your question. So on the top level adjustment, I mean, yes, I said majority we would expect, in the moment, to use the majority of the top level adjustment. However, it’s also very clear is we don’t see anything happening in our books. We will also try to keep it for 2023.
So it’s, however, always a question, would you need to discuss then also with the auditor, because also the top level adjustment is just not a plug in, something where we really have concrete names behind the number of €500 million.
And therefore, we take a look. That by the way also the reason why we reduced the top level adjustment by the €64 million this quarter, because they were related to certain Russian names where we saw a panic and therefore we were able and also forced to reduce the top level adjustment by this number.
On 2024, the slight increase of the risk result, it’s just due to the fact that – I mean, it’s clear that we are entering a difficult 2023 year. And, I mean, also the GDP assumptions are quite diverging. We took now the consensus of the minus 0.9%, which is most – 1 of October.
Our own economist department is out there with 1.5% minus, Moody’s around minus 0.4%. So it’s quite some broad or diverged assumptions out there. And so we believe that you will see the bulk of things happening if something is happening in ’23. But we just wanted to be cautious that there might be also something still in 2024.
On the gas rationing scenario, yes, we included or we assumed that there would be government measures and that is baked into the €500 million to €600 million that there are government measures out there.
And your last question is, I mean, it has not changed. First of all, I think we have been on a very good way in showing that we are much more profitable than in the past. We have now seen a significant improvement of our cost income ratio. Last year, we still had 80%. We are now at 70%. That helps in the debates.
And we also said that we would be very prudent in our capital return. On the 30% we want to start with, I think is a prudent start. And we now have embedded in the plans, going forward for ’23 and ’24, a 50% payout ratio. And I think as long as we can show a very strong and solid capital ratio, which we currently do with a 13.8%, we have a good ground for our dialog with the regulatory authorities.
Riccardo Rovere
All right. Thank you very much.
Manfred Knof
Yes. So time is again running out. Bettina and myself would like to say thank you very much for your participation and questions. As always, I know there will be a lot of follow-ups coming up. The teams are ready for your contact and further questions. With that, Bettina and myself say thank you very much and looking forward for our contacts and speeches over the next time. Thank you very much.
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