Earnings Call Transcript - BCS Q3 2020

Operator, Operator

Welcome to the Barclays Q3 2020 Results Analyst and Investor Conference Call. I will now hand you over to Jes Staley, Group Chief Executive; and Tushar Morzaria, Group Finance Director.

Jes Staley, Group Chief Executive

Good morning. As the COVID-19 pandemic grew and the global economy began to contract, Barclays focused on three things. First, to preserve the financial integrity of the bank. If we're to maximize our support for the economy and society in this time of challenge, Barclays must first be a strong, profitable business. Second, we wanted to be there for our customers and clients. So we did things like waiving charges and interest payments to help people cope during a very difficult period, and we worked with governments, particularly the U.K. government, to deliver programs to help businesses, big and small, to weather the storm. And third, Barclays needs to embrace and support our colleagues within the bank, recognizing the challenges that we all face on a personal level and on a professional level. To the first point, Barclays generated a pretax profit in the third quarter of £1.1 billion, which means we've earned £2.4 billion of profit before tax in the first three quarters of this year. In the face of extreme stress for the U.K. and U.S. economies, for Barclays to maintain its profitability through the first nine months of the year clearly supports the basis of our strategy as a diversified, developed markets universal bank. With tangible equity of some £48 billion, we closed the quarter with a CET1 ratio of 14.6%, representing the highest level of capitalization in the bank's history. Distribution of excess capital to shareholders remains a priority for this management team, and the Board will decide on full-year dividend and capital returns policies in February. Our liquidity coverage ratio stands at 181%, and we have impairment reserves today of some £9.6 billion. Barclays is today highly capitalized, liquid, well reserved for impairments, diversified in its business and profitable. In the third quarter, Barclays U.K. returned to profitability following its loss in Q2 to generate a modest £196 million of profit before tax. While revenue was still off some 16% versus the same quarter last year, it improved slightly versus the second quarter. With reduced impairment to £233 million, Barclays U.K. produced a return on tangible equity of 4.5% for the quarter. The profitability of Barclays U.K. will most likely be the principal challenge facing the profitability of Barclays as a group in the near term. Close to zero interest rates, though we provide many core banking services for free, lower charges for overdrafts and the elimination of certain banking fees will all challenge our business. The strategic conundrum for major banks in the U.K. today is not new market entrants, but maintaining profitability given the state of the industry in which we operate. That said, we are encouraged by the progress we are making in delivering a digital bank to U.K. consumers and to small businesses across the country. In our International Consumer, Cards, and Payments business, or CCP as we refer to it, we returned to solid profitability in the third quarter with a return on tangible equity of 14.7%. Following losses in the first and second quarters, the business generated a profit before tax of £165 million in the third quarter. With signs of recovery in the U.K. economy beginning, revenues from our payments business were up over 30% versus the second quarter, and U.S. card revenues were up 7% also versus the second quarter. The strength of our International consumer business plus our overall payments franchise is evident in its profitability. Importantly, our delinquencies remained broadly stable, and we booked an impairment of just £183 million in the third quarter. The Corporate & Investment Bank delivered £1 billion of profit before tax in the third quarter. Over 85% of the bank's profitability in the last three months came from the CIB. This performance was led by our markets business with revenues of just under £1.7 billion, up 38% in dollar terms versus last year. The Corporate & Investment Bank's return on tangible equity was 9.5% in the third quarter. We continue to focus on improving the profitability of the corporate bank and of our coverage bankers as I appreciate there is still more to do, but this profitability represents a good performance for the CIB. The second priority was to help consumers and businesses deal with the pandemic. We have dropped fees or waived interest equivalent to some £100 million of revenue since the crisis began. This has directly relieved some of the financial pressures faced by our U.K. customers and clients. We've also granted over 640,000 payment holidays globally across mortgages, credit cards, and personal loans. Barclays created a Community Aid Package of £100 million to make grants to charities helping those most impacted by COVID-19. Tens of millions of pounds in support have already been distributed. Alongside these efforts, Barclays has partnered with the U.K. government to administer programs providing direct financial support from Bounce Back Loans to small businesses to underwriting commercial paper issued by major employers in the United Kingdom. We have helped extend £24.6 billion of financing since the pandemic began. We have also been extremely active in supporting businesses and institutions to access the global capital markets, including helping raise over £1 trillion of new issuances across the second and third quarters. On climate change, we have been working extremely hard since our AGM in May to develop detailed plans for implementing the resolution passed overwhelmingly by our shareholders. We are looking to publish an update on progress with our climate strategy, together with defined targets before the end of the year. We understand that now is the time for Barclays to stand behind our customers and clients as they manage their way through this virus. We also know there are still many challenges to be faced. Finally, we are indebted to the 88,000 Barclays employees who have committed themselves to the performance of the bank through the first nine months of an unprecedented year. We have endeavored to support them in every way we can as a company from giving leaves for colleagues to tend to family members in distress through canceling all redundancy measures for the last six months, from investing and refurbishing our physical spaces to provide a safe environment from which to work to providing the technology to allow 65,000 people to work from home. Our colleagues have given their all to ensure we can run this bank safely and soundly, and we in turn, have backed them. This is a trying time for all of us, and it will continue to be so. But my hope is that Barclays will live up to its 330-year heritage and emerge from this pandemic with pride in what we have done and how we have helped. Tushar?

Tushar Morzaria, Group Finance Director

Thanks, Jes. I'll provide a brief overview of the first nine months and then discuss the third quarter performance. The results for the first nine months reflect the benefits of our diversified business model. Despite an impairment charge of £4.3 billion, which was three times higher than last year, we reported a statutory profit before tax of £2.4 billion, leading to earnings per share of 7.6p. Litigation and conduct expenses were minimal at £0.1 billion during this period. Since we had a substantial PPI charge in Q3 of last year, I will exclude litigation and conduct when reviewing the results. Year-to-date profits decreased compared to last year mainly due to the increased impairment charge; however, we experienced income growth of 3% while costs fell by 1%, resulting in a positive jaws ratio of 4% and an improved cost/income ratio of 59%. This income growth was driven by a 24% increase in Corporate and Investment Banking, which offset income challenges in consumer businesses. Overall, our RoTE for the nine months was 3.8%. Our capital position further strengthened, achieving a CET1 ratio of 14.6% by the end of September, with risk-weighted assets down by £8.3 billion in Q3. TNAV rose from 262p to 275p over the nine months. In Q3, group income fell by 6%. Corporate and Investment Banking again showed a year-on-year increase, supported by market performance, but faced expected income challenges in the U.K. and Consumer Cards & Payments. While CIB income for Q3 was lower than in the first half, consumer businesses saw growth compared to Q2 as anticipated. Costs increased slightly, resulting in a cost:income ratio of 65%. The impairment charge decreased to £608 million, significantly lower than the first two quarters, with limited delinquency flow observed. Net write-offs for this quarter were just £0.5 billion and £1.4 billion for the nine months. The quarter showcased the advantages of our diversified income streams with a decline from Q2 but some recovery in consumer businesses. However, challenges persist, particularly with low balances in a low-interest environment. We've highlighted the pressures from reductions in U.K. and U.S. card balances, which continued in Q3, though we observed some stabilization during the quarter. Signs of recovery in consumer spending were evident in both the U.K. and U.S. throughout the quarter as restrictions eased. Nevertheless, uncertainty remains regarding the conversion of this spending recovery into interest-earning balances, as well as the potential impact of further government restrictions in the coming months. Any recovery in spending is likely to translate more rapidly to income levels for U.S. cards, given the higher interchange income generated from card spending there. Looking at costs, although there was a slight increase to £3.4 billion, we are keenly focused on achieving cost efficiencies, especially given the low-interest environment. The COVID pandemic has led to additional short-term costs for the group, stemming from direct expenses and the suspension of planned headcount reductions. I would like to highlight that costs in Q4 will include the bank levy. Currently, we expect our overall costs for the year to be roughly flat compared to 2019. However, the pandemic will continue to alter some of our operational methods, leading to further cost-saving opportunities ahead. We are evaluating actions to gradually reduce our structural cost base, which may lead to additional charges, though the timing and size of these remain to be determined. I previously noted that the Q3 impairment charge was significantly lower than in the earlier quarters, with reduced charges across all businesses. The ongoing decline in unsecured balances significantly contributed to this decrease. We also updated our macroeconomic variables used for IFRS 9 modeling in the quarter, but this generated minimal additional increases in the charge. Assuming stability in the variables used and no major changes in support measures or an uptick in corporate defaults, a similar impairment charge in Q4 seems reasonable. The pandemic's impact on arrears rates has been limited, largely due to support programs. While we anticipate an uptick in delinquencies as we progress through 2021, we expect the overall charge in 2021 to be lower than in 2020, given the significant provisions made in the first half and a predicted economic recovery in 2021. In Corporate and Investment Banking, we experienced some single-name charges, but our conservative approach, including credit protection strategies, helped keep these charges below Q1 and Q2 levels. We've detailed the breakdown of the Q3 charge and the macroeconomic variables supporting our expected loss calculations on the next slide. In assessing the Q3 charge, it's essential to consider the coverage ratios that reflect our overall protective measures against risks. Our loan books, impairment bills, and coverage ratios are summarized here. Balances declined in Q3 for both wholesale and unsecured lending, yet we have largely maintained coverage levels since June 30. The coverage ratio at the group level increased from 1.8% to 2.5% over the nine months and remained stable since June 30. The wholesale coverage ratio nearly doubled during this period, reaching 1.5%, with significant portions concentrated in sectors deemed more vulnerable to downturns. Our focus on the unsecured consumer books also continues, with their coverage ratio rising from 8.1% to 12.2% year-to-date, steady since June 30. Coverage on stage 2 balances stands at 23.8%, with over 90% not past due. We will delve deeper into the unsecured portfolios later. Also noteworthy is the coverage of the U.K. cards portfolio, which stands at 16.4%, with 28.5% on stage 2 balances. Despite the ongoing uncertainties surrounding the pace and extent of economic recovery—especially in the U.K.—we believe we are adequately provisioned. Next, I want to address payment holidays. We've depicted the ongoing roll-off here; a significant portion of unsecured balances with granted payment holidays has now expired, and many are resuming regular payment schedules. As of September 30, holiday balances for U.K. and U.S. cards were just £120 million and £90 million, respectively. Meanwhile, only 3% of the mortgage book remains on payment holiday, with an average loan-to-value ratio of just 63%. Now, turning to wholesale coverage in selected sectors, we've outlined our exposures by type and our positions in sectors we consider particularly vulnerable. The balance sheet exposure for these sectors stands at £18.6 billion, a decrease of £2 billion from June 30, while our overall coverage ratio across these sectors has increased from 2.3% to 4.2% over the first nine months. As mentioned earlier, we have synthetic protection in place covering about 25% of this exposure, effectively mitigating our wholesale impairment charges, reducing our overall impairment charge by over £300 million in the first nine months. Now, I'll discuss the performance of our individual businesses. We noted earlier some income challenges facing the U.K. retail sector, which continued into Q3 with income down 16% year-on-year, consistent with expectations. While there was some recovery in spending during the quarter, unsecured balances have not increased, with interest-earning card balances down 19% year-on-year. However, mortgage balances increased year-on-year and rose by £1.2 billion from Q2, accompanied by better pricing. BUK business banking lending increased further, with Bounce Back Loans and fee-based CBILS totaling around £10 billion. Overall, loan balances expanded by £2 billion in the quarter to reach £204 billion, and deposit balances grew, yielding a loan-to-deposit ratio of 91%. The net interest margin slightly improved to 251 basis points, and we expect similar levels in Q4, aligning with our earlier projections. Costs rose 15% year-on-year due to COVID-related expenses overshadowing efficiency gains. This included approximately £30 million in quarterly costs from our partner finance business, transferred from Barclays International earlier this year. The impairment charge for the quarter was £233 million, up from last year but well below the £583 million seen in Q2. As mentioned, arrears rates as of September 30 do not yet reflect the broader economic decline. Next, regarding Barclays International, the BI businesses generated a RoTE of 10.5% for the quarter, slightly up year-on-year, with costs and impairment remaining broadly stable. I'll provide more specific details on the businesses in the following slides. The Corporate and Investment Bank achieved a RoTE of 9.5% in Q3, showing a slight year-on-year increase as strong market performance outweighed higher impairment provisions. Income rose by 11% to £2.9 billion, with a flat cost base, resulting in positive jaws. Markets income surged by 29% in sterling, marking the strongest Q3 on a comparable basis and a 38% increase in dollars. Fixed income and currency increased 23%, with particularly strong results in credit due to wider spreads. Equities recorded its best-ever quarter in sterling, rising 40%, driven by key derivatives amidst high client activity and market volatility. Banking fees fell by 11%, with solid performances in debt and equity capital markets overshadowed by lower advisory fee income impacted by a smaller fee pool and comparisons to a robust Q3 in 2019. Corporate lending income was less affected by mark-to-market fluctuations in loan hedges than in prior quarters. This quarter's reported income of £232 million included some net benefits from these items. Costs remained flat, leading to a cost:income ratio of 59%. Year-on-year impairment rose to £187 million but was still lower than the charges from Q1 and Q2. Risk-weighted assets decreased by another £5 billion in the quarter to £193 billion, which was below expectations. I will return to the topic of capital progression shortly. Moving on to Consumer, Cards & Payments, this segment saw a 23% year-on-year decline in income, primarily due to a notable drop in U.S. card balances, which fell 21% in dollar terms. This reduction in balances, along with decreased consumer spending volumes, negatively affected interchange income from cards and payments. As previously noted, we observed some recovery in spending during Q3, which positively impacted these income streams. The decline in card balances began to stabilize towards the end of the quarter, but it's premature to predict the exact extent of potential balance growth in the upcoming quarter. Costs decreased by 10%, resulting in a cost:income ratio of 58%. Impairment was reported at £183 million, significantly down from earlier quarters and reflecting fewer balances, with arrears rates slightly improved over the quarter. Turning to the Head Office, the loss before tax was £191 million, an increase year-on-year but a notable decrease quarter-on-quarter. The negative income of £127 million stemmed from legacy funding costs, residual negative treasury items, and losses from hedge accounting, which are expected to persist into Q4. In Q2, costs were slightly above the usual £50 million run rate due to the inclusion of a portion of the community aid program announced in Q1. Now regarding capital, we began the quarter with a CET1 ratio of 14.2%, which rose significantly to 14.6%. This increase was driven by capital generation from profits and a further decrease in risk-weighted assets. Profits net of impairment contributed 26 basis points to the ratio. IFRS 9 transitional relief remained relatively unchanged as the majority of the impairment charge was ineligible for relief. However, both spot and average leverage ratios were above 5%. I will delve deeper into our capital strategy shortly, but first, let's examine the RWA bridge. This analysis illustrates the £8.3 billion decrease in risk-weighted assets. As in Q2, anticipated pro-cyclical impacts were modest, with a £3.3 billion increase in credit risk RWAs due to asset quality deterioration, more than offset by £7.4 billion in reductions linked to credit risk. This decline reflected a £3.9 billion drop from book size, including further net repayments of revolving credit facilities and reduced retail lending net of government support schemes, along with £3.5 billion from regulatory tailwinds such as the SME support factor. Movements in counterparty and market RWAs were less significant, and foreign exchange effects decreased RWAs in sterling but also impacted the CET1 numerator. Our expectations for business operations incorporate some pro-cyclical effects on RWAs likely materializing at some point, presumably in 2021 rather than Q4. Another headwind affecting the capital numerator arises from impairment on defaulting balances, as those charges do not qualify for the transitional release initiated in Q2. Looking to the next slide, we provide an overview of our current capital requirements, illustrating how they have been adjusted due to removing the countercyclical buffer in Q1 and reducing Pillar 2A in Q2. Consequently, our minimum disposable capital amount has decreased to 11.3% from the start of the year, putting our Q3 ratio of 14.6% in a strong position above the minimum requirement, despite uncertainties ahead. In terms of headroom, our capital ratio has been fortified over recent years to prepare for the types of stress we are currently facing. During this uncertain period, we will manage our capital ratio in response to these stresses to support our customers while retaining an adequate buffer above the MDA. As I emphasized in Q2, the appropriate buffer we recognize will evolve over time, taking into account the expected trajectory of both our ratio and our capital requirements. We believe we are generating surplus capital, and both we and our peers will be engaging with regulators regarding this in Q4, as indicated by the Prudential Regulation Authority. In summary, we are maintaining substantial capital above our regulatory thresholds, and we would be comfortable with our CET1 ratio decreasing over the next quarters, though it is premature to provide definitive guidance on the capital flight path at this stage. Lastly, regarding our liquidity and funding, our key metrics illustrate that we are well-positioned to endure the emerging stresses and support our customers. To recap, we achieved profitability again in Q3, generating a 5.5% RoTE despite ongoing effects from the COVID pandemic. While we expect some headwinds for consumer businesses to persist into 2021, we are noticing gradual improvement from Q2 levels. The advantages of our diversified business model are evident with continued income growth in CIB during Q3, and our franchise is well-prepared for the future. Cost efficiency remains a priority moving forward, especially in this low-interest environment. The pandemic has led to increased costs in specific areas, but it is also transforming our work processes, paving the way for further efficiencies ahead. While we incurred significant impairment charges in Q1 and Q2, the charge in Q3 was much lower. Our funding and liquidity are robust, positioning us favorably to assist our clients during this challenging time. Although we may face additional headwinds in Q4 and into 2021, our solid CET1 ratio of 14.6% puts us in a strong position. I won’t provide further comments on the timing of future capital distributions right now, but the Board recognizes the significance of capital returns to shareholders and will make decisions regarding dividends and capital return policies at the end of the year. We will keep you updated then. Thank you, and we are now ready for your questions.

Operator, Operator

The first question comes from Jonathan Pierce of Numis.

Jonathan Pierce, Analyst

I have two questions, please. The first is about impairments, as I'm trying to understand your thoughts for next year, acknowledging there are still significant uncertainties. Are you currently thinking that next year will see a normal underlying charge of around £600 million to £800 million, similar to what we've seen in recent quarters? Any increase beyond that due to genuine deterioration will likely be covered by the reserve releases you accumulated in the first half of this year, assuming your models are accurate. So, you might be anticipating that next year, the impairment charge, all else being equal, will roughly be around £3 billion. I’m looking for more insight into your outlook for impairments next year. The second question is not related to these results. It's regarding the two 10% bonds maturing in the middle of next year, which I understand will result in a loss of about £3 billion in credit. This represents a significant interest expense that, as far as I know, is not being accounted for at the Head Office. Those bonds were issued around 12 years ago. Are they still hedged against rate fluctuations, or are we facing a gross £300 million drop in interest expense when those bonds are redeemed next year?

Tushar Morzaria, Group Finance Director

Thank you, Jonathan. Let me address both of your points. Regarding the impairment, I believe the fundamental components are clear. You'll have your own insights into the economic conditions we may face next year. If our current forecast holds true, we don't anticipate any significant changes in terms of book-up or release. So, that's one consideration for you. Additionally, if the economic projections align with our forecasts, you're correct that the book-up should be managed over the coming year. The situation becomes slightly complex since this is an expected loss we’ve recorded. There will be some defaults among both consumers and wholesale accounts, as well as some recoveries. If these events occur simultaneously, we would expect a relatively consistent impairment profile. However, it likely won't be perfectly smooth, as defaults may occur more rapidly than recoveries. This may reflect our cautious approach to holding onto credits instead of quickly writing them off. Over a longer timeframe, such as four quarters, the book-up should be managed, ideally resulting in no net effect over the year, though it may be somewhat inconsistent throughout the year. Additionally, if there are any significant corporate defaults on the wholesale side, this could add to the variability, unlike with consumers where we have many individuals and data works well. In contrast, corporate credits are fewer in numbers, which may lead to timing mismatches when larger defaults happen, and these credits might not recover as quickly. On the topic of the costly legacy debt, you’re correct to mention that they are expensive, and we are looking forward to moving past these remnants. We do hedge against interest rate risks, and some of this will be refinanced. We have discussed the level of MREL we intend to issue throughout the year. As for interest rate hedging, we manage it on a portfolio level rather than just focusing on individual securities. So, I would advise against overestimating the benefits of these securities expiring.

Operator, Operator

The next question comes from Joseph Dickerson of Jefferies.

Joseph Dickerson, Analyst

Very solid quarter there. I just have a question on the CET1 glide path into next year. Could you kind of quantify a range that you have in your mind that you're budgeting for some of the regulatory headwind in terms of basis points? And then could you also opine upon the buffer to MDA, so we've had this CP17/20 out on this Tuesday, looking into the usability of buffers and also the point of holding excessive management buffers, and you're currently 330 basis points over your MDA. So, I guess some view on how that plays in as well to the capital that you'll want to hold versus distribute.

Tushar Morzaria, Group Finance Director

Yes. Thanks, Joe. Why don't I take both of them? Our sort of flight path into next year, look it’s hard to give you a sort of a basis point number on headwinds. But there are some sort of things that everyone ought to be aware of. And hopefully, we’ve called them well but just call a couple of them out again. We had a PVA benefit, a technical benefit that was introduced this year under the rule book. That will go away in Q1 next year, so you probably want to see that as a headwind into Q1. I would remind folks on IFRS 9. You’ve really got sort of two things going on in IFRS 9. You’ve got the original transition relief. We’re going to step into sort of the next year, so we’ll step down in that sort of first portion of transition relief. And then the second portion of transition relief as names, as we talked about on the earlier question from Jonathan, migrate from stage 2 into stage 3, there’ll be a capital effect then. The other, I think the gist of your question is also on the credit side, particularly. We probably haven’t had quite as much a pro-cyclicality as we anticipated. We saw another sort of £3-odd billion or so in Q3, and we’ve taken a bunch of management actions in anticipation of that, which has been more than offsetting that. I still think there’s probably more headwinds to come. These will be sort of default grade downward sort of shifts and similar-type items on the counterparty credit side and on the traditional credit side, but sort of pretty hard to give a number on. We’ve had some natural kind of tailwinds against that, for example, the flowback of revolving credit facilities. I think we’re probably largely done with that actually. Our draws are now sort of back to pre-COVID levels or even a touch better, capital markets being so strong. So that’s why I sort of said that we’ve had a very strong sort of run in capital. I’ll just be a little bit careful, people don’t over extrapolate that. The other thing I’d say, Joe, is – and for everyone else out there, I mean, we do typically go back in capital in Q1. It’s something we do most years and are very comfortable doing that, tends to be the most profitable quarter of the year. So, we do like to put capital to work then. But when I sort of look at that all in the mix, I still think we’re going to be a reasonably capital-generative institution. Some of those headwinds that we will experience next year, if we really think we’re in a recovery year, and certainly most people expect some form of growth and tempering of unemployment, then we ought to be reasonably profitable. And so of course, that’s the sort of the balancing act here. You’ve got some perhaps tailwinds to capital when profitability is hard to come by. You’ve got some headwinds and that will be swapped with a better sort of a profit running to next year. So we are confident of our capital generation, but just caution folks not to overextrapolate. In terms of buffer to MDA, yes, I won’t give again a precise sort of number or what’s the sort of buffer to MDA we’d be comfortable with in any one particular quarter. All I would say is that it will vary over time. And you’re seeing that this year, of course. We would always want to run a comfortable buffer above MDA. We talked about it in our scripted remarks. We do think distributions to shareholders are important, and you need to have a sort of a comfortable buffer above MDA to allow you to do that. And so that is something that’s important to us. The consultation paper you refer to, I think it’s a bit too early to comment as to whether that’s going to really change our thinking about capital levels. I think, to be honest, we’re in the midst of the COVID-19 situation at the moment. I think when we get to the other side of that and we have a better sense of where the land lays and probably after Brexit as well, the PRA may make some other comments on what they expect U.K. banks to do in a sort of post-Brexit environment, where they’re more in charge of the rule book. I think that will be the right time to be talking more directly about that.

Operator, Operator

The next question on the line comes from Alvaro Serrano of Morgan Stanley.

Alvaro Serrano, Analyst

I have two questions. First, regarding the revenue challenges in BUK, could you provide more details on the headwinds you're experiencing, particularly related to the structural hedge? It would be helpful to quantify these headwinds against any potential tailwinds from mortgage volumes and pricing. How are these factors interacting? My second question is about costs. You mentioned evaluating cost initiatives, and I'm curious about the differentiation between infrastructure changes and headcount reductions in businesses like BUK and CC&P in the U.S. Considering the decreased need for distribution networks post-COVID, could you provide some insight into the balance between these two aspects? If possible, please quantify the headcount compared to changes in the structural network.

Tushar Morzaria, Group Finance Director

Thank you, Alvaro. I'll address the first question and then Jes can discuss our cost considerations. Regarding the revenue challenges and opportunities for the U.K. business, it’s important to note that while there are headwinds, opinions on the rate environment vary. Currently, our fixed receipt swaps are expected to decrease as rates lower, which presents a headwind. Swap rates have decreased over the past year, and we’ve highlighted some figures in our presentation. This situation also impacts our net interest margin, as the reduced fixed receipts will yield less income. Another headwind is related to our unsecured balances, which have stabilized but not yet grown, and it may take time for that growth to occur. On a positive note, consumers have been managing their debt effectively, showing foresight in anticipation of challenging times, which we hope will reflect in our impairment figures. Additionally, our deposit levels are very strong, with nearly £0.5 trillion at Barclays, indicating that consumers and corporations are benefiting from attractive savings rates, potentially reducing their reliance on revolving credit. This trend will also present a headwind in the coming year. Conversely, the mortgage sector is performing well, with robust application levels likely boosted by stamp duty relief. The pricing remains competitive; however, while there’s a net interest income benefit from mortgages, it may take some time to fully realize that. It's worth noting that as we grow our secured lending compared to unsecured lending, it could create pressure on our reported net interest margin moving forward. Overall, it appears there will be downward pressure on net interest margin in the next year, but the mortgage segment is looking positive. Jes, would you like to discuss costs?

Jes Staley, Group Chief Executive

Thank you for the question. I want to emphasize that our management team moved past the bank's restructuring over a year ago. As we look to the future, our focus is on growth. Despite the challenges presented by the pandemic, we have been generating profits every quarter, reaching the highest levels of capital, and maintaining significant liquidity with substantial impairment reserves. This is the moment to invest in the business, and that's exactly what we're doing. In our investment banking division, our cost-to-income ratios are among the lowest in the industry. We’ve also increased our market share in the markets business from 3.5% to 5%, and we plan to keep investing in that area. So, rather than aiming to cut costs in the investment banking sector, we should concentrate on enhancing revenue growth. Regarding our credit cards and payments division, we returned to approximately a 15% return on tangible equity in that business during the third quarter, and payment volumes increased by around 30% compared to the second quarter. We've formed two strong co-brand partnerships in our U.S. card business, one with AARP, which serves elderly individuals in the U.S., and another with Emirates Airlines, which should be advantageous as flying resumes. For our business in the U.K., we face some challenges including near-zero interest rates and the provision of many banking services for free, which exerts pressure on performance. Nevertheless, we are dedicated to supporting our consumers and small business clients during the pandemic. We announced a six-month halt on redundancies, which we believed was the right decision. Additionally, we've undertaken some modest branch closures, reflecting a pre-COVID strategy aligned with the shift toward digital banking. We understand the significance of being the last branch in a town, and we approach these closures carefully. With a substantial portion of our staff working from home, many businesses, including ours, are reconsidering their real estate strategies. However, we are still in the process of understanding what this large-scale remote work will mean for us in the long term. While we anticipate some technology expenditure, we are prioritizing productivity in that area and will monitor costs in our U.K. division closely. I don't foresee any major restructuring, but we will remain focused on navigating the profitability challenges we expect to encounter.

Operator, Operator

The next question comes from Rohith Chandra-Rajan of Bank of America.

Rohith Chandra-Rajan, Analyst

I would like to follow up on the revenue outlook for the consumer businesses. Regarding mortgage repricing, is it reasonable to assume that, after a few quarters of improved new mortgage spreads, it will likely be mid-next year before the portion of the book on those spreads starts to positively impact the margin in BUK? Also, could you differentiate the trends in credit card usage between the U.S. and the U.K.? Specifically, can you discuss the trends observed in Q3 and the first few weeks of Q4? Additionally, when do the co-branding deals in the U.S. take effect, and how do you compare the outlook for the U.S. and U.K. card businesses?

Tushar Morzaria, Group Finance Director

Yes. Thanks, Rohith. Why don't I cover them? In terms of mortgages and sort of how that flows into net interest in sort of margin upward pressure, so on the positive side, the churn rate is actually positive now. So we've been in the past where we've been sort of cannibalizing our margin as the back book sort of materials into front book. It's actually positive now. And it's actually meaningfully positive. It's about as wide as I've seen in recent times. So that's positive. The only reason I would sort of just caution people to not get a bit too sort of ahead of themselves on this is if we originate in any typical year, and I'll give you really broad numbers, somewhere £5 billion to £10 billion of net mortgages in a typical year, we've got a mortgage book of about £140 billion. So it takes a bit of time for that sort of churn, that grind to sort of really have upward pressure on NIM. At the same time, if the card book actually declines, let alone sort of flatlines, and of course, you've got some quite significant downward pressure because that's so much a higher margin. So I think the spirit of your point is right, Rohith, but it does take a bit of time. I think in terms of your timeline, will it sort of have net positive pressure on NIM the back end of next year? Maybe. It feels a bit early to me. I think it takes quite a bit of time for it to churn through, just the law of numbers there really.

Rohith Chandra-Rajan, Analyst

Could I ask on that, Tushar? So you talked about a net number that's £5 billion to £10 billion a year. But actually, there's a lot of the book that will be refinancing. It's not a net number, it's just a refinancing; it all balances. Is that more positive than sort of the picture you just painted?

Tushar Morzaria, Group Finance Director

Yes, it is. However, it's important to consider the relative size. When I mention that the churn margin is wide, it's crucial to remember how much revenue we generate from the card business, which is just a small portion of that. Additionally, there's significant downward pressure from the card business. If you're generating net figures around £5 billion to £10 billion, perhaps you have £20 billion in gross, although these figures can vary yearly. You're correct; that's a valid observation. The larger gross numbers will have a greater impact. Nonetheless, even though the churn margin is positive, it's not nearly as wide as the credit card margin in the opposite direction. It will take some time to see changes. Turning to credit cards, we saw a substantial decline in card balances followed by a plateau, which we are still experiencing. I believe it will take time for both balances to recover. In the U.K., we haven't reached peak unemployment yet, so we still have some way to go. We have a considerable amount of cash on our balance sheet and ongoing government support schemes, meaning the demand for revolving credit will take time to manifest. In the U.S., we think we've passed peak unemployment. The Thanksgiving and Christmas periods are likely to be more favorable. Our challenge is that our partnership cards are somewhat concentrated in the travel, leisure, and entertainment sectors. We are working diligently to ensure that spending on those cards remains appealing to cardholders. The AARP card mentioned will close next year, and growing the Emirates account will take time due to the currently subdued travel environment. Overall, we feel optimistic, but this optimism is more medium-term rather than immediate.

Jes Staley, Group Chief Executive

And one thing I would just add, staying there for a second, is something that we are investing in quite heavily on the technology front is point-of-sale financing and I think the growth that installment lending is going to have relative to the credit card portfolio. So for instance, we've launched a new app in our German business, where we're the largest credit card underwriter there, where when you make a purchase with your Barclays credit card in Germany, you get the option of using your revolving line of credit or you can pay over 6, 10, or 12 months at fixed installment numbers. And the truth is, Germans tend to borrow in installments more than from credit cards. And I think you'll see over time an evolution of point-of-sale financing as a partner to what we do in the credit card business across our platform.

Operator, Operator

Your next question comes from Jason Napier of UBS.

Jason Napier, Analyst

Can you hear me okay?

Tushar Morzaria, Group Finance Director

Yes. You're fine.

Jason Napier, Analyst

Super. So the first question, this is to come back on the questions we've heard already around the outlook for restructuring and costs. Just one of the things, I guess, we've seen in previous crises is businesses find it quite difficult to invest as much as they would like during downturns. And I guess with distributed working as it is, there might be a risk that you come into 2021 with some catch-up. Consensus currently has costs down year-on-year next year, presumably linked to softer expectations around revenues in the CIB. Are you comfortable with expenses in aggregate in 2021 will decline? That would be the first question. And then secondly, noting some of the questions we've already had around what looked like very good margins in mortgages compared with where they've been, I guess, if we look at the overall returns in BUK, I guess, the issue is not that liability spreads are low. It's that once you take into account all the cost of gathering those liabilities, the £0.5 trillion in deposits that you have, that they might be nonexistent and that actually credit spreads might need to be even wider if you're going to return to above cost of equity returns there. I wonder whether you'd talk about where you see product level returns on the credit side, please? Are you comfortable that flow pricing is adequate in the main to get you to that above 10% RoTE that you've re-endorsed today?

Jes Staley, Group Chief Executive

Let me take the last question. Because I think the cost:income ratio for the CIB shouldn't really move that much. I mean obviously, they've had a very strong year. And like other banks have said, we don't really see a linear correlation between variable compensation and variable revenues. It's more nuanced than that. So unless there was a significant change in revenue forecast, I wouldn't expect any significant change on the cost side.

Tushar Morzaria, Group Finance Director

Yes. We are currently considering various ways to enhance our efficiency. However, we want to proceed cautiously and thoughtfully before making any final decisions. The risk lies in making assumptions based on today's circumstances and altering our operations without fully understanding the implications of the ongoing medical situation. We believe that our efforts will eventually lead to improved efficiencies and benefits. This is all we are hinting at, but we have not finalized our assessment. Once we do, we will provide you with an update. Just on the other question, Chris, we're guiding to 20% effective tax rate. That's excluding litigation and conduct, as we've done in the past, for this year. In terms of U.S. tax rises, yes, look, we'll see. I mean that's speculating on elections and all that. It's way beyond my skill set. But if tax rises do happen in the U.S. or anywhere else for that matter, that will have a fairly straightforward effect on us. The only thing I would say is that you have this sort of slightly peculiar effect where it will have a beneficial effect on the value of our deferred tax assets. So you'd have a balance sheet sort of asset that you'd create. And as you know, accounting-wise, that will go through your tax line at the point in which that happens. But then you'd have a negative, if you're having a higher effective tax rate along the back of it, so yes.

Operator, Operator

The next question comes from Ed Firth of KBW.

Ed Firth, Analyst

I guess two detailed questions. Number one, on the restructuring charges, can we just be clear then? So if you have restructuring charges at the full year, are you saying you'll absorb that within your cost target? Because I guess that's a message I'm getting from you.

Tushar Morzaria, Group Finance Director

No. Just to be very clear, we will be broadly flat year-on-year on cost. Where we could do any specific restructuring, we would call that out separately away from the £13.6 billion broad guidance that we've given.

Ed Firth, Analyst

Okay. Great. The second question is about the net interest margin and overdraft fees. Did you include those in the net interest income? I thought you did, so shouldn't we expect to see those return in the fourth quarter? That's one point. The other point is regarding the interest rate sensitivity you've shared in the past, where around two-thirds of the impact is felt in year one, growing to the full effect by year three. With the 65 basis point cut we had in the first half, is that the projection we should expect? Essentially, around two-thirds of the impact this year, with the rest gradually realized over the next two years? Or has the situation developed differently this time? I’d like to understand how that plays out.

Tushar Morzaria, Group Finance Director

Yes, regarding the decrease in net interest income due to overdrafts, it will eventually recover, although it will not return to the previous levels. There's been lower utilization of overdrafts, similar to the decrease in credit card usage, as people hold more cash and benefit from various government support programs. While recovery is expected, it will not be at the same intensity as before. As for the impact of lower rates, that's understandable. The adjustment on assets occurs quickly or even instantaneously, but liabilities experience a delay due to regulations that require notifying deposit holders before changing rates. Additionally, there’s a continuous downward pressure from the structural hedges. This pressure is influenced by the swap rates at the time of refinancing. Currently, with both long and short rates declining significantly, this downward pressure on structural hedges is likely to continue for the next couple of years. If the curve steepens during this period, the grinding effect may eventually stop, but these are the prevailing dynamics.

Operator, Operator

The next question comes from Martin Leitgeb of Goldman Sachs.

Martin Leitgeb, Analyst

Could I follow up on the question about negative rates? I believe the Bank of England recently asked banks if they are ready for negative rates. Is Barclays currently prepared to implement such negative rates, or will it still take some time? Do you think the broader market is also prepared, or will that require more time? Are there any additional measures you could take beyond gearing and what the central bank might provide to mitigate the negative impact of those rates? Could we see mortgage pricing increase to counterbalance some of the impact of higher asset yields? My second question concerns Brexit and its implications for Barclays' goals in a post-Brexit environment. Since the 2016 referendum, Barclays has lost market share in U.K. cards. Is there a possibility of trying to regain that market share, or alternatively, might Barclays expand its presence as a larger pan-European business?

Tushar Morzaria, Group Finance Director

Yes, thanks, Martin. I'll ask Jes to address your questions about Brexit. Regarding negative rates and our operational readiness, we already have experience with European rates being negative in our commercial banking business, so we are prepared. Whether the rest of the industry is ready, I'm not sure I can speak on that, but we're ready if needed. One important point is that mortgage margins have remained disciplined among the large lenders, despite having plenty of liquidity. Once there's little leverage left on the liability side, most lenders will closely examine the asset side margin to manage their net interest margin. It's difficult to say if lenders can actually widen margins as rates go further negative since these situations are still untested. It largely depends on the specific circumstances each lender faces. Jes, would you like to address Brexit?

Jes Staley, Group Chief Executive

Yes. Before I discuss Brexit, I want to address the potential effects of negative interest rates. We're nearly at zero, and I believe we have maximized our monetary policy efforts to spur economic growth. The consequences of entering negative rate territory are largely unknown and should not be interpreted as a positive sign of confidence in the economy. It's an option worth considering, but the Bank of England seems to have valid concerns about pursuing it. Regarding Brexit, the financial impact we have faced over the past three years includes expanding our workforce across Europe and reworking our risk models and systems to accommodate increased flow relicensing, along with transitioning every branch in Europe to operate under our bank based in Ireland instead of London. This has been a substantial cost to ensure we can operate in Europe effectively. We remain dedicated to the European market, which is crucial for us. Being appointed as one of the lead managers for the eurobond issuance by the European Union, which is part of a €100 billion initiative, and successfully pricing €17 billion recently highlights our strong corporate relationships in Europe. Our corporate banking operations are vital, and we are committed to our European business. We've also seen success in our card business in Germany, which is growing. Over the past decade, we've navigated re-regulation in the banking sector and faced high costs in establishing a ring-fenced bank in the U.K. Managing our U.S. business and the internal holding company has also been expensive. However, we have proven that we are willing to invest in maintaining our presence in strategically important areas, and Europe is certainly a top priority for our bank.

Operator, Operator

The last question we have time for today comes from Rob Noble of Deutsche Bank.

Rob Noble, Analyst

I want to conclude the discussion about the loan book. Business banking and corporate loan growth has leveled off in Q3 but at a slower pace. To what extent is this influenced by government guarantee schemes? Will this portion start to decline, and if so, will it also result in higher yields since the government guarantees are no longer in place? Additionally, regarding the structural hedge, it has only increased by £7 billion, yet there were significant deposit inflows and you remain highly liquid. Has the strategy changed? Are you not hedging all the incoming balances as you typically would?

Tushar Morzaria, Group Finance Director

Yes. Thank you, Rob. The figures for our business banking loan portfolio are quite significant. We are nearing £10 billion in Bounce Back Loans within our small business banking division, which represents several years' worth of lending activity. Therefore, I don't anticipate seeing refinancing into higher rates, especially since these loans are long-term and the government has also extended their terms. Regarding your second question, I had difficulty hearing you, Rob. Could you please repeat that?

Rob Noble, Analyst

Sorry, the structural hedge balances increased to £7 billion in the quarter, but you've taken significant deposits. I was wondering if you're hedging all of the balances that you normally would and if there's been any change in strategy, especially since your interest rate sensitivity has increased in the quarter.

Tushar Morzaria, Group Finance Director

Yes. I mean, yes, the line is not great. But I think I've got the gist of the question, Rob. We do look at the stickiness of the deposits coming in. And we've definitely had a dramatic inflow of deposits. We haven't sort of substantially resized the size of the structural hedge accordingly yet. But we will continue to reevaluate the stickiness and recalibrate as appropriate. It feels a bit early at the moment, I think. The deposit sort of inflow has been quite, in recent times, only a couple of quarters worth. So I think it's something we'll keep under review. Sure. Fahed, I'll address your points in reverse order. Regarding payment holidays, the experience has been quite positive for both consumers and non-consumers. You might be referring to one of our slides, specifically Slide 19, so feel free to check that out. This conversation about payment holidays might be one of the last as it's not currently a significant credit issue for us, unless circumstances change. Overall, I believe we've moved past this stage. Concerning the top line for BUK, I won’t provide specific insights on consensus or modeling, but I think you have the fundamental components in place. The business banking performance is solid, largely driven by Bounce Back Loans, and mortgage growth is good. However, I don’t expect card balances to see much recovery; I think they will remain stable for now and may recover over time. There seems to be an ongoing effect from structural hedges, especially if the curve steepens. The fluctuations in the sterling curve have been notable lately, with periods of steepness followed by flattening. If rates remain very low, this could present challenges affecting mortgages, though we have discussed positive churn and net growth. Jes, do you have anything to add?

Jes Staley, Group Chief Executive

I just want to say, Fahed, it's good to hear that you're working successfully from home. So it uplifts all of our spirits.

Tushar Morzaria, Group Finance Director

Okay. With that, thank you all very much, look forward to speaking probably over the next week or so. I hope everyone stays well, but I'll end the call there. Thanks again.