Earnings Call Transcript - HSBC Q3 2021

Operator, Operator

Good morning, ladies and gentlemen. Welcome to the Investor and Analysts Conference Call for HSBC Holdings Plc's Earnings Release for 3Q 2021. For your information, this conference is being recorded. At this time I will hand the call over to your host, Mr. Noel Quinn, Group Chief Executive.

Noel Quinn, Group Chief Executive

Thank you. Good morning or afternoon, wherever you are. Ewen will handle the majority of the call today, and he will do the same for future Q1 and Q3 announcements. However, I want to start by expressing my satisfaction with our Third Quarter performance. We generated strong profits across all regions, supported by more net ECL releases this quarter. What’s most encouraging is the underlying revenue growth we are seeing throughout the business. We believe we are moving past the revenue challenges we faced due to interest rate impacts over the last few quarters. We have experienced significant fee growth across all our businesses. In Global Banking and Markets, revenue is beginning to stabilize, particularly after we managed a substantial reduction in risk-weighted assets and lending balances as we mentioned back in February 2020. Regarding customer behavior, we are witnessing strong deposit performance without any significant reductions in the liquidity we have accumulated over the past two years. The lending market turned out to be softer than we expected this quarter, especially concerning corporate loans. However, the pipelines we have established position us well for when companies begin to invest in both the recovery and the low-carbon transition. As our revenue starts to normalize, we are also looking to normalize our capital position. Returns of capital to shareholders will be a major aspect of this, and I am pleased to announce a share buyback of $2 billion, which we anticipate starting shortly. On our strategy, we are executing at the pace I promised in February. We made significant announcements this quarter, including the acquisition of AXA Singapore, which complements our existing business in Singapore and accelerates the development of our products and distribution capabilities in a crucial market. Before COP26, we have been working hard with clients, governments, and industry peers to speed up the low-carbon transition. We are collaborating with various partners to explore new ways to make the sustainable finance market accessible for projects and investors. Four months ago, we announced an innovative partnership with Temasek to create a debt-financing platform aimed at sustainable infrastructure in Southeast Asia, which I believe could serve as a valuable model for others. This is just one of several sustainability partnerships we plan to announce in the coming weeks. I look forward to providing updates on those soon. Regarding the contributions of the financial sector, a coalition of international banks has recently released guidelines for setting and achieving net-zero targets. This unprecedented collaboration is significant in assisting all banks to implement their targets effectively. It offers consistency and clarity for our customers, regulators, and investors. I'm genuinely excited about the coming months. There is real energy and optimism within the business, and we are committed to achieving growth in our targeted areas. With potential interest rate increases on the horizon, we are well-positioned as we move into 2022. With that, I will hand it over to Ewen for more details.

Ewen Stevenson, Chief Financial Officer

Thanks, Noel. And good morning or afternoon all. We had another good quarter, reported pre-tax profits of $5.4 billion. Up 76% on last year's third quarter with an annualized return on tangible equity of 9.1% for the year to date. Adjusted revenues were down 1% on last year's third quarter, but up 1% excluding certain volatile items with the welcome return into more consistent top-line growth across most of our business lines. Expected credit losses were $659 million net release. Our third quarter in a row of net releases, with net releases for the year to date of some $1.4 billion. We still retain 31% of Stage 1 and 2 ECL reserves built out we've made in 2020. Operating expenses were broadly stable; increases in investment and technology spend were offset by the impact of our cost-saving initiatives. But due to some inflationary pressures, ongoing investment into growth, and additional costs due to the impact and timing of recently announced M&A activity, we now expect our adjusted costs for 2021 and 2022 to remain broadly stable at around $32 billion, excluding the UK bank levy. Lending balances were down by $6 billion or 1%. This was due to the repayment of $14 billion of short-term IPO lending in Hong Kong; stripping out the impact of the IPO loans, lending grew by $8 billion or 3% annualized during the quarter with further good growth in mortgage lending and trade finance. Our core Tier 1 ratio was up 30 basis points at 15.9%, primarily due to our reduction in risk-weighted assets. We now intend to reach our target for core Tier 1 of 14% to 14.5% by the end of 2022. This will reflect a combination of some regulatory-driven RWA impacts, balance sheet growth, and capital return. Today's $2 billion buyback announcement has fortified this commitment to accelerate the normalization of our core Tier 1 position. Our tangible net asset value per share of $7.81 was unchanged in the second quarter. Turning to the details, we're seeing good signs of growth retaining across our global businesses. In Wealth and Personal Banking, we've continued to grow Asian net new money in private banking and asset management. We've increased the value of new business in insurance by 59% year-on-year. We've hired 450 new wealth planners in Pinnacle, our new Chinese insurance venture. We've kept our UK flow market share comfortably above our stock share, and we've made good progress on new customer acquisition. In Commercial Banking, we're seeing encouraging trends in global trade with good market share growth in key markets such as Hong Kong and Singapore, and we've maintained a strong business pipeline with $64 billion of new approved limits. In Global Banking and Markets, we saw more stable revenue compared to a strong performance in the third quarter last year with good revenue growth in both Security Services and Equities, and GB&M's performance was achieved despite a 7% reduction in risk-weighted assets year-on-year. Looking geographically in Asia, we're seeing strong underlying revenue trends. Excluding insurance market impacts, revenues were up 7% quarter-on-quarter and 5% year-on-year. In the UK, ring-fenced bank revenues were up 2% quarter-on-quarter and 6% year-on-year with fee income up 25% over the third quarter last year. Finally, and importantly, we're delivering on our goal to be a leader in the transition to net-zero. We've helped to issue $170 billion in green bonds year to date, including leading on a number of pioneering green bond offerings, such as the first UK green gilt, and we’re making good progress against the commitments we made in our AGM special resolution in May. Turning to the third quarter adjusted revenues as a whole, in Wealth and Personal Banking headline revenues were down 3% on a year ago. But excluding insurance market impacts, Wealth Management revenues grew by $145 million or 7%. This was mainly due to higher fee income in Asset Management and Private Banking, together with insurance sales growth. Personal Banking revenues fell by $31 million due to the continuing impact of low-interest rates on deposit margins. Commercial Banking revenues were 4% higher, driven by higher fee income across all products and growth in trade lending and deposit balances. In Global Banking and Markets, revenues were down 3%. This was due to slower customer activity in fixed income markets versus a strong third quarter last year. However, equities benefited from both higher client activity and volatility in Asia, and Security Services grew through higher fee income and assets under custody. The revenue trend quarter-on-quarter shows growth in all three global businesses, excluding insurance market impacts, being driven by a combination of more stable net interest income together with good fee income growth across all our businesses, up 10% year-on-year. We're increasingly confident that we are turning the corner on revenue growth. Commercial Banking is growing. Wealth and Personal Banking is growing, and wealth management is stabilizing, and retail banking and Global Banking and Markets is close to that inflection point now that the bulk of its planned RWA reductions in the business are now complete. With the expectation of policy rate rises from 2022 onwards, we're now confident in seeing sustained revenue growth this coming year and beyond, which together with strong cost control will help drive sustained improvement in our coal returns and operating goals. On slide, our net interest income was $6.6 billion, up 2% against the third quarter of 2020 on a reported basis, and broadly stable compared with the second quarter of 2021. Our net interest margin was 119 basis points, down one basis point on the second quarter, primarily reflecting changes in balance sheet mix and continued weakness in lending volumes were down on the quarter. But excluding the repayment of IPO loans, lending grew by $8 billion with continued good loan growth and mortgages in Hong Kong and the UK, together with the ongoing growth in our global trade franchise. But with our net interest margin stabilizing, policy rate rises on the horizon, and loan growth building, we're increasingly confident on the outlook for net interest income. We reported a net release of $659 million of ECLs in the quarter compared with an $823 million charge in the third quarter of 2020. The net release was across all our global businesses, reflecting a more stable economic outlook together with State Street charges that remained very low. Despite the net releases, we continue to retain a conservative outlook on risk. We still hold $1.2 billion or 31% of our 2020 COVID-19 uplift to Stage 1 and 2 ECL reserves. For the full year, we now expect net releases to be broadly in line with the net release in the first nine months, with perhaps a very modest net release in the fourth quarter after Stage 3 charges. For 2022, we continue to expect the ECL charge for the full year to be lower than our medium-term through-the-cycle planning range of 30 to 40 basis points with more modest ECL releases expected to continue into the first half of 2022, albeit with an expected net charge after Stage 3 impairment. Our third-quarter adjusted operating costs were broadly stable on the same period of last year. A $263 million increase in technology spending and a 340 million increase in investment and other costs were offset by a further $600 million of cost program savings compared with the prior year with an associated cost achievement of $400 million. To date, our cost programs have achieved savings of $2.6 billion relative to our end 2022 target of at least $5 billion in cost savings. In terms of outlook, with some inflationary and performance-related pay pressures, ongoing investment spend, and additional costs due to the impact and timing of recently announced acquisitions and disposals, we now expect 2021 and 2022 adjusted costs, excluding the UK bank levy to be around $32 billion. This is relative to our previous FX adjusted guidance of $31.3 billion for 2022, which included the bank levy. Our core Tier 1 ratio was 15.9%, up 30 basis points in the quarter. This reflected a decrease in risk-weighted assets from lower short-term lending, favorable asset quality movements, and FX, partially offset by a decrease in CET1, including around $1.7 billion for foreseeable dividends. Excluding FX movements, risk-weighted assets fell by $14.4 billion in the third quarter driven by lower short-term IPO loan exposures in Hong Kong and positive movements in asset quality. In the third quarter, we made a regulatory deduction of 20 basis points for all foreseeable dividends in the quarter. This was based on 47.5% of our third-quarter EPS of $0.18, which is the midpoint of our 40% to 55% target payout ratio. The dividend accrual for 2021 so far is $3.8 billion after payment of the interim dividend this year. Please remember that this is not guidance of our full-year 2021 dividend intentions. The dividend accrual is purely a formulaic calculation that we'll draw up at the full year based upon the results and outlook at the time. When thinking about the payout ratio for 2021, we'll attach a much lower weight to unusually low ECLs as part of our EPS this year, together with a desire to see higher dividends per share in 2022 relative to 2021. We intend to normalize our core Tier 1 ratio over the coming quarters to be back within 14% to 14.5% target range by the end of 2022, driven by a combination of balance sheet growth, capital returns, and regulatory impacts. Various things to note for your capital modeling through the end of 2022. We expect today's buyback announcement, the loss on sale of our French retail banking operations, and the reversal of the current software capitalization benefit to each impact our core Tier 1 ratio by around 25 basis points. We also expect some 20% to $85 billion of regulatory-driven RWA uploads in 2022. So in summary, this was another good quarter with good earnings diversity across the group. Our broad-based return to top-line growth in most of our businesses and continued strong control on costs, while the results were flattered by net ECL releases. We're happy to be turning the quarter on revenue, with robust lending platforms, growth in trade, and mortgage balances, and the likelihood of earlier pipeline rate rises than previously anticipated. We're increasingly confident on the revenue growth outlook for 2022. We've included a few IFRS-17 slides in the appendix. We intend to go through those in more detail on our follow-up call on Wednesday for sell-side analysts. Overall, we expect an initial downside adjustment to our insurance profits of around two-thirds and a smaller percentage adjustment to insurance's tangible equity. Importantly, there will be no significant impact on the group's regulatory capital and there'll be no impact on the dividend flows from our insurance businesses to the group. Despite inflationary cost pressures and the impact of IFRS-17 implementation, we remain confident in achieving returns at or above our cost of capital over the next three years, together with delivering attractive growth and attractive capital returns. Finally, we're looking to normalize our core Tier 1 ratio over the coming quarters, of which today's buyback announcement is an important first step. With that, Sharon, if we could please open up for questions.

Operator, Operator

Thank you, Mr. Stevenson. Your first question today comes from Andrew Coombs from Citi. Please go ahead, your line is open.

Ewen Stevenson, Chief Financial Officer

Hi, Andy.

Andrew Coombs, Analyst

Good morning. Thanks for taking my question. I start with one on buybacks and then one on costs. So can you quantify the $2 billion plus buyback? Can you just get to the metrics that you're using to size that? How you're thinking about this buyback going forward? Basically, the KPI and your decision-making process on the magnitude of those so that will be the first question. The second question is on the cost outlook where you've slightly changed your guidance around the definition you're using. I think that in your old guidance, the debt was 1.5 and then adjusting to the levy and it looks like you've taken up the cost maybe about $800 million. So can you just give a breakdown of what the moving parts are in the increase? How much of it is due to the timing around the M&A and divestment? That is, how much is inflationary pressure and how much is higher compensation related to performance-related pay? Thank you.

Ewen Stevenson, Chief Financial Officer

Yeah, so on buybacks. Andy, as you would expect, part of our capital position is obviously in a much better place than we had anticipated at the start of the year when we had said no buybacks for this year. We've had a combination of much higher profitability than we expected because of much lower ECLs net releases and slower costs being expensed through the P&L, and risk-weighted assets have also been lower than we anticipated, probably because of lower growth but also because of lower credit rating migration. I think within today's announcement is a commitment to get back to 14% to 14.5% by the end of 2022. We are committed to using excess capital if we can't find attractive organic and inorganic growth opportunities. We previously talked about wanting to spend up to $2 billion in M&A; we've announced a deal in Singapore, AXA Singapore for just over $500 million. That will give you some color on the extent of M&A activity that you might see over the next year or so. I do think we are likely to see if we achieve what we think we'll achieve next year, some buyback activity in '22. On costs, your numbers are broadly right if you add about $300 million for M&A, in terms of roughly $0.5 billion and upwards of costs. The bulk of that is compensation-related. And you're right, part of it is variable pay, but I would put it all in the bucket of compensation costs being higher. Broadly, our total wage bill is about $19 billion out of the $32 billion of total costs, so if you've got $0.5 billion of incremental inflation on there, it's about a 2-2.5% increase of about $0.5 billion in extra compensation costs. Yes, whether you put it into fixed pay or variable pay, I think we are seeing sustained wage price pressure globally at the moment. But in terms of the incremental amount that we put into the variable pay pool this year, it's significantly more than offset by the increase in profitability that we've seen.

Noel Quinn, Group Chief Executive

I think, if I could just add a color on that, to the extent that we've talked about variable pay, it's probably because we've had a good trading performance this year. Clearly, we've given some indications of our view on trading performance next year being positive, and it would be right to have an appropriate level of variable pay at that point in time. In the event that trading performance next year does not materialize, then we have some flexibility on the variable pay. But it's right to also signal that there are some fixed pay inflation pressures in the market generally within financial services at this point in time. The extra top-up on cost is a combination of fixed pay and variable pay as consequences of the external environment and the trading performance.

Ewen Stevenson, Chief Financial Officer

And I think the last thing, Noel, also, that's important is we've made a very conscious decision not to cut back on investment despite that inflationary pressure in order to meet a self-imposed cost target.

Andrew Coombs, Analyst

That's great. Thank you both, and also thank you for providing the slides and IFRS-17 as well.

Operator, Operator

Thank you. Your next question comes from the line of Tom Rayner from Numis. Please go ahead, your line is open.

Ewen Stevenson, Chief Financial Officer

Hi Tom.

Tom Rayner, Analyst

Thank you. Hi Noel, hi Ewen. I have two questions: one about costs and another about revenue. Ewen, you mentioned that approximately $300 million of the increased guidance is related to M&A. Could you provide an estimate of how much this M&A activity might contribute to revenue over the next two to three years? Additionally, regarding revenue, it seems like you are optimistic about the outlook and highlighted several areas. However, you did not specifically address the forecast for the net interest margin. I noticed that your consensus shows only a 7 basis point increase from Q3 to the end of 2020. If I take your rate sensitivity and apply it to the market's discounting, it suggests there would be a multiple of those 7 basis points. Could you please provide some insight on the outlook for NIM? Thank you.

Ewen Stevenson, Chief Financial Officer

Thanks. So on cost, in the near term, I think AXA Singapore will add about $300 million to revenues and $300 million to costs. Obviously, we would expect that pressure to move over time. But if you flagged in $300 million into '22 on the revenue side, on NIM, if you looked at current consensus, it does look low relative to the consensus policy rate rises that we now see in the markets. Just as a reminder, our biggest single sensitivity is the UK, where a 25-basis point rise would add about $0.5 billion of income in the first year. Secondly, Hong Kong may be a bit slower. But one clear offset to the guidance we're giving on cost today is the fact that we do think we're going to see earlier and stronger rate rises than we previously anticipated. We lost about $7 billion over the last year, two years or so as a result of the shift down on interest rates. So it's had a very material impact on us, and we do think with the policy right outlook at the moment and consensus that we should start to recover a meaningful amount of that in the next two to three years.

Tom Rayner, Analyst

Super. Okay. Thank you very much.

Operator, Operator

Thank you. Your next question comes from the line of Raul Sinha from JPMorgan. Please go ahead, your line is open.

Raul Sinha, Analyst

Thank you. Good morning. A couple of questions from my side. Maybe firstly, staying on the revenue line. I just wanted to understand the pandemic impacts that's been washing through your various businesses and sort of holding back the revenue line. So I was wondering if you could comment on the wealth business in Hong Kong with all the travel restrictions, how you think the performance in this quarter has been held back, and how that might shift over the next year or so? And also, in trade, obviously, you flagged a very strong improvement in trade balances. But there's a lot of uncertainty around clearly, what's happening to global trade. So any thoughts on the outlook? That would be helpful. Then just a broader second question on China real estate. Thank you for the disclosure. I think we all get sort of your first order impacts and exposures are relatively limited. But I was wondering what you think about the second order impacts on your business in the Mainland? Just given defaults have spread beyond single-name into quite a few developers now, so how do you see that impacting the rest of your book and the rest of your business?

Ewen Stevenson, Chief Financial Officer

Yeah. So maybe I'll start off, and then Noel, you can add some comments on trade and commercial real estate after I finish. On Hong Kong and the border being shut, you can see some direct impacts on things like our insurance franchise. We're not as exposed to others like Prudential and AIA to the mainland Chinese insurance market. But it is a meaningful factor affecting the performance of our insurance franchise in Hong Kong. Having said that, I think the value of new business in Q3 was in line with Q3 pre-pandemic. You can see certain sectors in Hong Kong continuing to suffer. The biggest barrier is the Hong Kong-Mainland China border rather than the international water for Hong Kong, given that pre-pandemic, about 50 million Mainland Chinese were visiting Hong Kong in any given year. So we would expect as that border progressively reopens, and it's being much slower than we would've anticipated six and nine months ago, that we will see an incremental benefit coming through to the Hong Kong business. On trade, despite supply-chain disruptions, I think we're pretty pleased with the recovery that we're seeing in that business. People are holding higher working capital balances at the moment, consistent with the uncertainty that exists in the supply chain, but we do view that as a temporary feature of the global economy at the moment and that we will get back to more normality and more sustained growth in '22. On the China real estate market, we've just been through, as you would expect, a pretty intensive review of Chinese real estate exposure, including the provisioning we've got against that. Just to repeat what we say today, we've got no direct exposure to borrowers in default. We're pretty comfortable with the exposure overall in aggregate commercial real estate. Our commercial real estate in China is less than $20 billion, in the context of a $1 trillion line portfolio. I think the other thing you should take away, Raul, is the fact that we're doing the buyback today and the size that we're doing is we're reasonably confident about where we're sitting in terms of our outlook. But now Noel, would you want to add anything on that?

Noel Quinn, Group Chief Executive

Just ironically on trade, there's a feature that the more uncertain global economics are, is normally the time when trade finance is in demand because of uncertainty over the supply chain, and uncertainty of the credit environment. So we've seen strong growth in trade balances. Part of that is a function of economic rebound. Part of that I think is due to the fact that working capital cycles are longer today than they were pre-COVID and pre-pandemic because of the tensions in the supply chain and the bottlenecks. Part of that is, people tend to use documentary credit more in uncertain times than open accounts, and therefore they turn more to the financial services sector to finance trade in a structured manner rather than financing trade in an unstructured, open account methodology. So I think there are several reasons, and then the fourth ingredient is, frankly, we are taking market share in trades in Asia, particularly Hong Kong and Singapore. So those four dynamics are leading to very strong double-digit growth in trade. If you look at our trade balances from the end of last year to the end of September, we're up around about 18%, 20%, if you do a year-on-year comparison, September to September; I think we see mid-20% growth in trade, particularly in Asia. So it's those four factors, I think, are playing into the trade performance. On China, the only other comment I'd make is that there are second-order risks in whatever those market adjustments of that size take place in a particular industry sector and particularly one as important as commercial real estate. I think we're pretty comfortable with our position and we're staying very close to any potential second-order risks. I reinforce what Ewen said, we feel comfortable with our position at our bank in China. It's performing well with a good outlook for the next nine months. We're well-positioned on commercial real estate from a primary exposure view, and we think we are well-positioned on any second-order risks, but before we shift I said there were no second-order risks that potentially exist for all of us.

Raul Sinha, Analyst

Thank you, Noel. Can I just follow up on the trade margin? I don't know if you've seen that shift in the trade margin within the business and if you expect that to shift going forward, given what we're seeing in terms of the global trade picture. Thanks.

Noel Quinn, Group Chief Executive

I'm not aware of any material shift in the margin. It's more of a volume game at the moment, but Ewen, is that your understanding?

Ewen Stevenson, Chief Financial Officer

Yes. Look, if anything, I think it's just ticked up by a few basis points, but nothing material.

Operator, Operator

Thank you. Your next question comes from the line of Manus Costello from Autonomous. Please go ahead, your line is open.

Ewen Stevenson, Chief Financial Officer

Hi, Manus.

Manus Costello, Analyst

Hi. I just wanted to follow up actually on those questions about the, hopefully, post-pandemic reopening. You gave us some data in the second quarter about credit card balances growing, but I haven't seen it so far this quarter. I wonder if you could talk to us about what you're seeing in unsecured? And you mentioned within the NIM that there's a negative mix shift which hurt the NIM. At what point will that mix shift change? So as unsecured consumers start to grow, presumably, you'd start to see a positive benefit. Any color you can provide around that would be appreciated. Thank you.

Ewen Stevenson, Chief Financial Officer

Firstly, regarding NIM, two factors contributed to the decline during the quarter. Initially, there was a shift in mix that reduced it by a few basis points. We believe we are now managing this effectively. There is a change in mix due to a greater emphasis on mortgage lending and our ongoing efforts to boost our liquidity reserves. Unsecured lending likely increased by about a billion in the quarter, evenly split between Hong Kong and the UK. We are observing credit card spending returning to levels seen before the pandemic, but balances have not yet risen in tandem with that spending. I anticipate this will occur over time. Currently, whether looking at commercial or personal customers, we see a consistent trend in UK mortgages where individuals are paying down their debts when possible. This appears to reflect a growing confidence that we expect to see continue improving as we recover from the challenges posed by COVID.

Manus Costello, Analyst

Okay. Thank you very much.

Operator, Operator

Thank you. Your next question comes from the line of Yafei Tian from Citigroup. Please go ahead, your line is open.

Yafei Tian, Analyst

Thank you. I have a question around revenue. You gave us the color that quite a lot of the optimism is coming from the higher expected interest rate in some of your markets. Besides that interest rate shift, are there any organic growth that HSBC is gaining market share that you think the sell-side is missing that could drive more consensus revenue upgrades from non-interest income? Thank you.

Ewen Stevenson, Chief Financial Officer

I mean, to be clear, we're not reliant on interest rate rises to underpin the business plan that we've got. We're seeing, with NIM stabilizing, we're probably going to see about 3% loan growth this year. We would expect mid-single-digit loan growth next year. So you would expect a healthy increase in net interest income next year with or without rate rises. We're seeing very good growth in fee income as we come out of COVID. I think it's up 10% year-on-year. So the core business at the moment is seeing very good, attractive growth; interest rate rises will just come on top of that. In terms of where we're growing, I know we said it earlier, we're taking share in trade. We're up a couple of percentage points of share over the last year, both in Hong Kong and Singapore. We're continuing to grow. UK mortgage share about stock share; I think we were sort of about a percent ahead of stock share in the quarter. We're growing the private bank, I think, ahead of peers, particularly Credit Suisse in Asia at the moment. So most of our businesses, I think, are flat to gaining share.

Operator, Operator

Thank you. Your next question comes from the line of Guy Stebbings from Exane BNP. Please go ahead, your line is open.

Guy Stebbings, Analyst

Hi, good morning. Thank you for taking my questions. My first question is regarding costs and the connection with the interest rate outlook. How closely is the new guidance related to market inflation and interest rate expectations? To rephrase, if policy rates do not rise as the market expects, should we anticipate that your results will fall short of that guidance? My second question pertains to RWAs, where consensus suggests they may be $70 billion higher by the end of next year compared to our current position. I acknowledge the regulatory challenges you have mentioned, and that you have already achieved a significant portion of the gross RWAs you projected for the end of next year. However, the market's RWA expectations of around $9 billion or $7 billion next year seem overly cautious considering the current trends and lack of credit migration. Thank you.

Ewen Stevenson, Chief Financial Officer

Yes. While costs are connected to inflationary pressures, there isn't a direct correlation between these pressures and our expectation of earlier policy rate increases. I want to reassure everyone that we are managing our costs as we planned. We remain committed to reducing costs by $5 billion by the end of 2022, and we've achieved just over half of that target so far. With a $19 billion increase in our wage bill, each percentage point adds approximately $190 million in costs compared to the beginning of the year. We are certainly observing more inflation, but policy rate increases, if they happen sooner and more robustly, should effectively counter the inflationary impact on our costs. Our approach to cost management remains strict, regardless of the likelihood of rate increases. Regarding RWAs, we have provided most of the necessary inputs for modeling. We're more optimistic about RWA growth in line with our lending growth forecast for next year, which is currently aligned with consensus expectations of mid-single-digit loan growth. Additionally, we have shared the effects on regulatory capital, allowing you to calculate our dividend distribution policy based on your own numbers. What remains uncertain is our profitability for next year, the specifics of buybacks, and the potential scope of any inorganic financial activities we might undertake.

Operator, Operator

Okay. Thank you. Your next question comes from the line of Omar Keenan from Credit Suisse. Please go ahead, your line is open.

Omar Keenan, Analyst

Good morning. Thank you for taking my questions. I have a few inquiries regarding rate sensitivity. Could you provide some insights on deposit betas in your rate sensitivity disclosure, particularly for the UK and Hong Kong? One of your competitors recently reassessed their UK rate sensitivity based on a more realistic view of likely deposit betas. Any information on the proportion of deposits linked to market rates in both markets would be very helpful. Additionally, regarding the $1.5 billion in other currencies, could you elaborate on the key sensitivities for the different currencies, as this amount is comparable to the sensitivity in Hong Kong? Thank you.

Ewen Stevenson, Chief Financial Officer

Yes. Look, on rate sensitivity, I think you should assume for the first or two interest rate rises, there'll be a relatively low deposit feature on that and that we will try to capture higher than average out of those rate rises. I think over the longer term, we typically work on the basis of about a 40% to 50% deposit beta. But in the very, very short term, with the first-rate rise, I think it will be much lower than that. In terms of other currencies, Indian rupee, renminbi, various emerging market currencies, of which some are important. I'm sure if you follow up with the IR team, they can give you a fuller breakdown of that.

Omar Keenan, Analyst

That's wonderful. Thanks. And could I just check the published sensitivity, is that based on 50%?

Ewen Stevenson, Chief Financial Officer

Yeah, though it differs by products, by market; but roughly, yes.

Operator, Operator

Thank you. Your next question comes from the line of Aman Rakkar from Barclays. Please go ahead, your line is open.

Aman Rakkar, Analyst

Good morning. Most of my questions have already been addressed, but I do have a couple of clarification points. Thank you for the IFRS-17 disclosure regarding the insurance business. Regarding the two-thirds PBT impact expected in 2023, are we looking at around a $1.5 billion decline in reported PBT for that year? Any clarification on this would be very helpful. Additionally, I want to touch on the cost to achieve. I know you are maintaining the $7 billion guidance, but it suggests a significant amount of work is planned for next year. Could you explain why you haven't been able to spend this amount so far and what actions are planned for next year?

Ewen Stevenson, Chief Financial Officer

On the impacts on pre-tax profit, if that constitutes two-thirds of the insurance profits in that year, then it aligns with our expectations. To reiterate regarding IFRS-17, there will be no effect on dividend flows from the insurance companies to the group, and the timing of earnings recognition remains unchanged, so we believe the fundamental economics are intact. Additionally, the intangible equity may not be significantly impacted. We anticipate about a $3 billion plus or minus effect on tangible equity due to this shift, likely resulting in a minimal negative impact, but it is still connected to our commitment to improve capital returns. For the capital expenditures, we expect to invest around another billion dollars in Q4 and approximately $3 billion for the entire year of '22. Our delivery has been slower this year, largely due to delays in our change programs run in India, which were heavily impacted by the pandemic, affecting our hiring plans, especially for technology resources. Consequently, there has been a delay of over three months for several major projects, leading to an anticipated increase in costs in Q4 due to the ramp-up in investments.

Aman Rakkar, Analyst

Great. Thank you.

Operator, Operator

Thank you. Your next question comes from the line of Rob Noble from Deutsche Bank. Please go ahead, your line is open.

Robert Noble, Analyst

Good morning everyone. Could you explain how interest rates are hedged across different markets? I'm aware of the UK, Hong Kong, and US situations. Will we see what kind of rates these countries have, and do we need rates to increase in all of these markets, or will we gain from higher rates in some areas? Additionally, regarding the UK, where do you currently see your mortgage margins for new loans? How do they compare to past levels and the existing portfolio, and what's your take on the recent rise in swap rates? Are these pushing rates upward in the UK market now?

Ewen Stevenson, Chief Financial Officer

So on the hedging program, Hong Kong is very short-dated. Everything reprices typically in 1-3 months. The UK, there is a five-year rolling hedge that we have in place consistent with most UK banks with an average duration of about 2.5 years. The US is slightly longer than the five years, albeit, I think that will change once we divest ourselves out of the retail banking business and it's not as material, obviously, as Hong Kong and UK. If you look at the structure of our assets and liabilities, they tend to be much shorter dated than the average peer, which is a combination of the impact of the short-term nature of Hong Kong. But also, in the commercial space, our trade business is relatively short-dated as well. The second question on front book margins is probably slightly below back book margins currently for the first time in quite a while. Yes, we have seen some margin pressure coming through the UK mortgage franchise, we do still think at current rates that we're writing business comfortably above the cost of capital, but there has been some margin contraction.

Operator, Operator

Thank you. Your next question comes from the line of Ed Firth from KBW. Please go ahead, your line is open.

Ed Firth, Analyst

Good morning, everyone. I apologize for focusing on interest rate sensitivity, but I believe it's important for our outlook. I'm puzzled that when I examine the currencies, particularly your Year 1 sensitivity, the sensitivity for Sterling is significantly higher than for Hong Kong, even though you have some hedging in place for Sterling. In contrast, there is no hedging for Hong Kong, yet the total balances in Hong Kong are quite similar. It seems like you might be benefiting a bit more in Hong Kong than in Sterling. Could you clarify why there is such a large sensitivity in Sterling compared to locations like Hong Kong where you're short-dated?

Ewen Stevenson, Chief Financial Officer

Yes, I apologize. In Hong Kong, it's important to note that around 50% of our deposit balances are in Hong Kong dollars. There is an effect from the US dollar on our operations there, particularly regarding interest rate sensitivity, with roughly 40% of our interest rate exposure linked to the US dollar. I will check with the investor relations team for a detailed response. If you reach out to them, they should provide the correct analysis regarding our interest rate sensitivity.

Edward Firth, Analyst

I think the issue lies with the assumptions. We're having difficulty ensuring that individuals can input any assumptions they wish, and whether those assumptions will actually come to fruition is the main concern.

Ewen Stevenson, Chief Financial Officer

Yes, that's fair. But I mean, we do take time to show that interest rate sensitivity and that is supposed to be helpful guidance.

Operator, Operator

Thank you. Our next question comes from the line of Martin Leitgeb from Goldman Sachs. Please go ahead, your line is open.

Martin Leitgeb, Analyst

Good morning. I have a quick follow-up regarding structural hedging. One of your competitors has indicated plans to implement structural hedging more extensively, likely changing assumptions about the stability of certain deposits. Based on your comments about Hong Kong having a short-term focus, with 40% of deposits in US dollars, is there an opportunity to reevaluate those deposits and perhaps consider a perspective similar to the UK, where deposits behave in a more stable manner with an average duration of five years? Could this approach lead to additional income in the future? Additionally, thank you for providing the guidance of 14 to 14.5 for FY '22 concerning the core Tier 1 trajectory. Regarding the potential for capital returns for HSBC in the medium term, should we consider the 14 to 14.5 range as a benchmark moving forward, or is there a possibility for capital to decrease? I'm trying to understand if there are ongoing capital inefficiencies within the organization affecting this 14 to 14.5 range. Thank you.

Ewen Stevenson, Chief Financial Officer

In terms of Hong Kong, part of the issue, as you know, is that it's a very short-dated book on both the asset and liability side. Therefore, we've always chosen not to take on currency risk to extend duration. There’s potentially a low hundreds of millions opportunity in the coming years through better management of our liquidity book. We recently hired the group Treasurer from UBS a few months ago to oversee our treasury business. Over the next two or three years, we expect to see a few hundred million upside in how we manage our global liquidity pool. Regarding capital, I would use the 14-14.5% range for the next few years. Our goal is to aim towards the higher end of that range if possible. As we look further ahead, we need to consider the impact of output flows and their application on the capital positions of subsidiaries, among other factors. To drop below 14%, we have a significant program to enhance our capabilities and stress testing, as our current peak to trough decline in stress is still too high. Improving stress testing will be a multi-year effort, and we will also focus on higher risk insurance areas of the bank where we are not being adequately compensated. For the foreseeable future, I assume we will manage towards the 14% to 14.5% range, and if possible, we will aim for the lower end of that range.

Martin Leitgeb, Analyst

Perfect, thank you. Thank you very much.

Operator, Operator

Thank you. We will now take our final question from the line of Joseph Dickerson from Jefferies. Please go ahead, your line is open.

Joseph Dickerson, Analyst

Good morning. Thank you for my question. Regarding the cost versus benefit of rising rates, can you provide some insight on the investment spending? Should we assume that around 90% of the rate sensitivity directly impacts the bottom line? What kind of amount should we consider that will affect the bottom line?

Ewen Stevenson, Chief Financial Officer

Well, I think the bulk of it, frankly. It depends on what inflationary pressure you put on a $19 billion wage bill on a $32 billion total cost base. But if relative to the previous guidance of flat costs, you’ve got 1% to 2% inflation on that, that’s $300 to $600 million of incremental costs, which I think more than gets offset by the interest rate rises. What we saw over the last year is the bulk of that we lost, we weren't able to offset with incremental cost savings; so I think we will keep cost control tight even if we see the benefit of rate rises coming through.

Noel Quinn, Group Chief Executive

Ewan, just to tie with you, the amount of revenue that dropped off the P&L last year as a consequence of rate reductions was?

Ewen Stevenson, Chief Financial Officer

$7 billion.

Noel Quinn, Group Chief Executive

How much?

Ewen Stevenson, Chief Financial Officer

$7 billion.

Noel Quinn, Group Chief Executive

That gives you a sensitivity of the upside sensitivity of rates for the downside that we experienced relative to a one or two percentage points movement in cost. It's a highly leveraged ratio on revenue to cost.

Joseph Dickerson, Analyst

Brilliant, thank you.

Operator, Operator

Thank you. That was our final question. I will now hand back for closing remarks.

Ewen Stevenson, Chief Financial Officer

Noel?

Noel Quinn, Group Chief Executive

Thank you so much for your time today. I would like to share a few closing thoughts. First, I'm pleased with the performance of the business and the positive signs of organic growth in fee income as well as balanced growth in Wealth Management. I believe more progress is on the horizon. We remain committed to achieving cost efficiencies, as we mentioned earlier this year. While we recognize some inflationary pressures due to strong business performance and underlying inflation, we are confident that revenue growth will offset these challenges. We are steadfast in our return on capital target. Progress is being made, but there is still more to accomplish. We will continue to transform and grow the business. Thank you for your time.

Ewen Stevenson, Chief Financial Officer

Thanks, everyone.

Operator, Operator

Thank you, ladies and gentlemen. That concludes the call for the HSBC Holdings Plc's Earnings Release for 3Q 2021. You may now disconnect.