Banco Santander, S.A. Q2 FY2020 Earnings Call

So it will take us around one hour. And now Jose Antonio, the floor is yours.

Okay. Good morning to everyone. Thank you for attending the second quarter results presentation. As you very well know, the quarter has been very challenging. The environment was significantly deteriorated by the pandemic. In this difficult environment, the bank delivered a solid operating performance despite the economic challenges. During the second quarter, we were able to continue the performance trend set during the previous quarters in terms of activity and underlying results. The bank has extended substantial financial support to its customers to help them through the pandemic. Stock continued to grow in our three regions, and our digital adoption has accelerated significantly. We are starting to see signs of normalization in retail new lending, particularly in Europe, with mortgage and consumer new business increasing. SMEs and corporates were supported by existing government warranty programs. CIB reduced from the peak in April; I will talk more in-depth about the different segments of the activity. We saw strong top line performance given the current market context, with a net operating income increase of 2%, driven by resilient customer revenue and our cost reduction plan, which is down 5% year-on-year in real terms. The cost reductions are ahead of plan, driven by successful expense management in the last few years and additional savings measures adopted since the beginning of the crisis. Higher loan loss provisions were based on our model's application, as per the synergies outlined in the previous quarter. The total loan loss provisions are €7 billion in the first half of the year, with an underlying profit of €1.5 billion in the quarter and €1.9 billion in the first half of 2020. However, as a result of the pandemic, the bank completed a review of the bank's goodwill held against past acquisitions and tax credits carryforward. We recorded a non-cash non-recurring impairment charge of €12.6 billion, resulting in a statutory attributable loss for the first half of €10.8 billion. I will explain the details later. Additionally, we have strengthened the balance sheet. We maintained the estimation of the cost of credit we provided to you in the first quarter, expecting to reach 1.4% to 1.5% at year-end, with very good credit quality supported by mitigation measures we've been taking. Furthermore, we reinforced our capital position in the quarter, delivering a strong organic capital generation of 28 basis points, with group CET1 reaching 11.84%, at the top end of the bank’s 11% to 12% target. This was after the accrual of 6 basis points of core equity Tier 1 capital in the quarter, to allow the flexibility to pay a cash dividend from 2020 earnings. In addition, the Board's intention is to propose to shareholders the payment of a scrip dividend, payable in shares for 2019. As soon as possible, depending on macroeconomic and regulatory requirements, the Board intends to move to 100% cash dividends as soon as feasible. Going to the P&L, we delivered a strong performance. Exchange rates had a significant impact, with eight percentage points in revenues and six percentage points in costs. Resilient customer revenue, even with lower business activity. A strong performance on the CIB side is reflected in other income, we accelerated our cost reduction, and higher loan loss provisions are related to COVID-19 provisions. In Q1, these were within the provision overlay, which we included in the net capital gains and provisions, and these have now been allocated by country in this line. As a result, we saw a second quarter underlying attributable profit of €1,531 million, driven by the first half 2020 results of €1.9 billion after absorbing €7 billion of loan loss provisions. We also recorded non-recurring charges, which I will explain and break down in the following slide. Every year, usually in Q4, the group evaluates whether the adjustment of the goodwill generated in the acquisition of the subsidiaries is necessary. In this quarter, following triggering events that required an earlier review, we are in a very special economic situation. Changes in the economic environment have been profound. We expect GDP to contract in all the countries in which we operate and anticipate a two-to-three-year recovery period. At the same time, we face a lower for longer interest rate environment, with significant decreases in many jurisdictions. We also increased the discount rates to reflect market volatility and higher risk premiums when discounting the future cash flows. The analysis of value in use guidance compared with the group value results in a total goodwill impairment of €10.1 billion, of which €4 billion is a result of a 1 percentage point increase in the discount rate. By country, you can see the figures on the slide: Santander UK is €6.1 billion; U.S., €2.3 billion; Poland, €1.2 billion; and consumer finance, €500 million, some in the Nordics and Germany. Additionally, the economic environment affects our capacity to use the tax credits carryforward in the short run, especially those registered in Spain, in the Spanish consolidated fiscal group. As a result, we recorded a €2.5 billion impairment to deferred tax assets. The impairments, as you know, are non-cash items, have no impact on our market position and credit risk position, and are neutral in CET1 capital. Nevertheless, we remain optimistic about the growth potential in the markets in which we operate, and this impairment does not reflect, in any case, the importance of the markets in which we operate and how core they are for us. Going for capital, we continue to build capital. In the quarter, we generated 28 basis points organic capital due to higher net profit, management of risk-weighted assets, and increased securitizations. This, together with the positive regulatory impact brought by the expected European regulation of capital requirements, CRR II quick fixed measures, led to a total increase of 52 basis points. On the other hand, there were several non-recurring impacts in the quarter, such as the Ebury acquisition and negative impacts from FX mainly and some from pensions. All of these resulted in a CET1 of 11.84% and a management buffer of approximately 300 basis points versus 189 basis points pre-COVID-19. Today, we have greater visibility than a few months ago. We do not believe we will destroy capital. Conversely, we think it’s more feasible to pay dividends. So we haven’t included in this capital position the sale of Puerto Rico, nor the impact of the software deduction that may come at the end of the year, which will be more than 20 basis points. Now let me guide you through the activity in the quarter. Operationally, the bank has operated remarkably well in all geographic areas. Business continuity was not compromised, and we haven’t had any relevant incident. Currently, nearly 90% of our branches are open. We strengthened our corporate center capabilities, and we have over 37,500 ATMs available in the group working as usual. Our point-of-sale turnover has recovered near to pre-crisis levels, following 25% turnover growth from the low reached in April. We started to gradually return to our usual workplace in some countries at the end of May, following recommendations from local governments and respecting the individual needs of employees. Regarding financial activity, you have on the screen the new retail lending. We are seeing some signs of normalization, particularly intense in Europe and less so in Latin America. In Europe, mortgage lending new business is recovering, particularly in the UK and Spain. North America and South America are below pre-crisis levels, with South America more affected due to ongoing restrictions. In consumer lending, we are recovering quickly in all European countries, with the Nordics above pre-COVID activity, and Germany at 100%, with Spain and Italy over 70%. We had strong origination volumes in the U.S., particularly in prime lending, boosted by FSA campaigns. In South America, volumes are still below pre-COVID despite a spike in April. On the corporate and CIB lending, let me remind you that this has been a quarter in which we’ve utilized credit facilities through government warranty programs. Over 630,000 operations have been formalized, amounting to more than €25 billion, mainly in Spain, with some in the UK and the U.S. In lending to SMEs and corporates, growth in Europe was driven mainly by Spain, largely due to ICO and bounce-back loans in the UK. In North America, volumes are returning to pre-COVID levels. South America is still in an earlier phase of the crisis and continues to show mixed performance across countries, with Brazil declining month-on-month while Chile and Argentina display some growth. In CIB, credit growth reached €16 billion since February, and normalizing began in the latter half of the quarter. Much of this liquidity is placed directly in deposits that grew by €24 billion in the quarter. Geographically, you can see the activity. In June, group new lending was similar to pre-COVID levels. In the second quarter, stock continued to grow in our three regions, resulting in a 6% year-on-year increase in loans and a 7% growth in customer funds. Basically, retail loans remained fairly stable, while corporate and wholesale balances increased across the board. Finally, due to the health crisis, digital adoption has accelerated considerably. Our digital products and services are becoming more important than ever. We have added 6 million mobile customers since June 2019, growing 22%, reaching 40 million digital customers. In the first half of 2020, we grew 50% compared to the first half of 2019. Our digital sales penetration increased to 47% in Q2 versus 36% in 2019, with Santander UK achieving an exceptional 92% of digital sales of the total in Q2, and 76% in the first half of 2020. With this, we achieved record quarterly figures in the number of digital accesses and transactions. Regarding group earnings, I will start with revenue. I would qualify the revenue as resilient, with significant growth in the Americas. North America continues to grow, while Europe has seen some decrease, mainly due to the fee income line owing to lower activity. Overall, I would reiterate that the revenue remains resilient, largely a result of our business model characterized by strong customer relationships. The NII was €16.2 billion, basically flat compared with the previous year. While internally, we see significant changes with higher volumes, lower interest rates, and some regulatory changes, particularly in Brazil concerning overdraft fees and the very high liquidity buffer. In terms of fee income, we have identified three main areas: retail banking suffered due to reduced activity; transaction volumes were lower in Europe; and regulatory changes in several units. The Americas remained broadly stable. Notably, Wealth Management and Insurance CIB increased fees, representing 47% of the group fees. This quarter, we observed a gradual recovery in net fee income as activity normalizes. In retail, point-of-sale and card turnover increased by 25% and 28% between April and June, after a sharp plunge of 24% year-on-year. In Wealth Management and Insurance, volumes showed positive year-on-year growth in Santander Asset Management, driven by market movements and positive net sales in May and June. In insurance, new production started covering pre-crisis levels in the second quarter, mainly in Latin America. CIB's evolution has been strong, with a 20% increase in fee income driven by global transaction banking and global markets. As for costs, as I mentioned at the beginning, they are down 5% in real terms, reflecting our successful management in this area. We are accelerating cost reduction trends in most markets, notably in Spain, down by 10%; UK, down by 6%; and U.S., down by 4%. This allows us to be ahead of schedule in our cost reduction plan, capturing incremental cost efficiency. We have already achieved efficiencies in Europe of over €300 million year-to-date, representing 75% of the initial full year 2020 target. The efficiency ratio remains broadly in line with the previous year at 47%, which is remarkable in this environment. We believe that the management we plan to conduct by region and the lessons learned from the management of the pandemic will enable us to accelerate our transformation plan in the future, optimizing costs while improving customer experience. I’m optimistic about cost evolution in the coming quarters. Concerning credit quality, we recorded loan loss provisions of €7 billion as mentioned earlier: €3.9 billion for the first quarter; €3.1 billion for the second quarter. Consequently, we still expect the group's cost of risk to be in the region of 1.4% to 1.5% as previously mentioned. Traditional measures of credit quality at this stage are not as applicable. NPL remains fairly flat. All these provisions are based on our models and scenarios applied to these models. Highlighting what’s occurring with our loan book, we noted that payment holidays have been significant, with more than 5 million customers affected and a total amount of €116 billion. Close to 80% of these amounts were granted to individuals, mainly secured lending, with approximately 90% secured by mortgages from our highly collateralized UK portfolio. Moreover, outside of moratoria, a large majority of UK customers opted for payment holidays as a way to benefit from favorable financial conditions. Approximately 90% of these customers have no arrears on record. Consumer accounts for 20% of the moratoria, of which two-thirds are short-term loans, typically two to three months, and are starting to expire, and I will provide you with more data shortly. Just 6% of the SME and corporate portfolio is under moratoria, complemented with new liquidity facilities backed by government warranties of over €20 billion. In summary, based on our internal risk analysis, we classify 75% of the portfolio subject to moratoria as low risk. Therefore, it is still early to finalize conclusions on expired volumes. As you can see, close to 90% of the moratoria will mature in 2020, with 25% having already expired as of June 30th, and 50% more will do so in the next three months. It’s still too early to draw conclusions on expired volumes, but we observe that the current expirations are behaving with no material deviation from the normal behavior. From the total expired by June 30th, approximately €29 billion, 98% remains performing. More than 60% of this is essential mortgage, mainly concentrated in the UK, totaling €18 billion. Of the remaining amounts in consumer, 90% valued at €8 billion are short-term and primarily in SCUSA. Regarding SMEs and corporates, the expired loans are mainly concentrated in Brazil. We are reinforcing local recovery teams. The moratoria and the early performance of expired payment holidays were considered when calculating the estimated cost of credit at year-end of 140-150 basis points. As of July 15th, more than €40 billion of these loans had expired while maintaining similar credit quality, and only 2% of the total entered Stage 3. I will now hand it over to José to elaborate on the different business areas and regions for the quarter.

Thank you, José Antonio, and good morning, everyone. As previously mentioned, group net operating income was again supported by the bank’s geographic and business diversification. North and South America grew their operating income, while Europe’s performance was impacted by the economic environment, showing the different stages in the evolution of the pandemic. We had an outstanding performance in our global businesses, both in net operating income and profit, enhancing our local scale with global reach. As mentioned, our Corporate & Investment Bank grew profits by 23%, achieving double-digit growth in all its main businesses, particularly in global markets and global debt financing. Wealth Management and Insurance also expanded its profits based on solid revenue and flat costs. Moving on to Spain, during a period heavily affected by the state of alarm, we responded proactively to the economic crisis. We implemented a help plan to protect our most vulnerable customers, with over 170,000 joining the mortgage, consumer, and card payment holiday measures. From the outset, we’ve been the most proactive bank in eco-funding, optimizing processes to grant €20 billion of eco-loans in over 150,000 operations, representing a market share of 27%. Customer funds were 2% lower year-on-year, impacted by declines in time deposits and mutual funds, mainly due to market performance. However, customer deposits grew 6% in the quarter. Underlying attributable profit amounted to €251 million in the quarter, down 64% year-on-year, obviously driven by higher provisions. Total income decreased due to lower net interest income, principally as a result of lower rates. Net fee income also saw reductions due to reduced transaction volumes but was partially offset by double-digit cost reduction due to optimization processes. Looking forward, we expect to see improved trends in net interest income, boosted by higher volumes as in the last quarter, alongside further cost reductions. In Santander Consumer Finance, we are starting to see strong recovery signs across most of the markets we operate in. New card sales in Europe dropped almost 40% in the first half, while new lending in Santander Consumer Finance fell by less than half due to strong performance in January and February. The most significant declines were in Southern Europe, while Northern Europe, less affected by lockdowns, held up better. As the CEO already explained, new business has rebounded considerably in recent weeks, approaching pre-crisis levels in many markets or even exceeding them, as is the case in the Nordics. Net interest income increased 3%, driven by strong loan growth year-on-year, particularly in Northern Europe. However, net fee income—which is directly related to the fall in new card sales—decreased by 16%. Costs were down 4% year-on-year and 8% quarter-on-quarter, due to efficiency programs launched pre-COVID. Loan loss provisions increased to historically high levels, but the cost of credit remains low for this type of business. As a result, underlying profits fell by 26%, although they rebounded by 19% in the quarter. In the UK, volumes continued to grow healthily, with loans rising 4% year-on-year. Underlying attributable profit continued to be affected by revenue pressures. Net interest income was impacted by base rate reductions and the SVR, while net fee income was affected by lower transactionality and regulatory changes to overdrafts. There was also a significant expected impact from loan loss provisions. However, there is reason to expect improvement for the rest of the year. We reduced the rates on the 1|2|3 World accounts in May and announced a further reduction in August. Funding from the Bank of England’s Term Funding Scheme has significantly lowered funding costs; both actions will support net interest income moving forward. Moreover, our transformation program is driving a 5% year-on-year drop in costs, 6% in real terms. Our credit quality remains strong as related to payment holidays previously granted; most are mortgages with high-quality borrowers who requested the holiday due to favorable financial conditions. Looking forward, we believe that we have weathered the worst of the crisis and expect an upward trend in the coming quarters. The UK remains a core strategic market for the group. Brazil has proved its balance sheet strength and successful business model, enabling us to maintain high returns for our shareholders, with a return on tangible equity of 17%. We are also focused on improving service quality, as reflected in a substantial increase in NPS to record levels. Lending increased 18% year-on-year, with growth in all segments. Customer funds also rose, driven by demand and time deposits. Net operating income rose 5%, backed by positive revenue performance and cost reduction efforts. Net interest income slightly increased, driven by larger volumes, offsetting margin pressures due to changes in the mix, interest rate cuts, and regulatory changes in cheque especial terms. Costs were 1% lower, excluding inflation, with year-on-year efficiency improvements, down 67 basis points. Strong net operating income did not reflect in underlying attributable profits due to higher provisions, which increased the cost of credit, but within our expectations. In summary, the bank is performing excellently even in a more challenging environment. During the pandemic, Santander U.S. has remained focused on supporting its customers, employees, and communities while pursuing strategic priorities. In SBNA, we continued our digital and branch transformation while enhancing our auto finance partnership with Santander Consumer, focusing on prime loans. In Santander Consumer, we disciplined originations through our dealer network while enhancing our partnership with Fiat Chrysler. Loans were boosted by the Paycheck Protection Program. Originations declined in March and April but recovered later in the quarter, driven by FCA initiative programs. Underlying attributable profit decreased 56% year-on-year due primarily to provisions, which increased almost 50%. However, compared to the prior year, underlying attributable profit was 150% higher due to lower costs, loan loss provisions, and reduced minority interests. In summary, we had strong volume growth in the quarter and have doubled profits in the last two years, reinforcing our capital position as displayed in the stress test. In Mexico, the bank continued its debtor support program aimed at individuals and SMEs, with a significant number of branches operating with reduced staff. Digital channels and contact centers have worked normally. Digital activity has increased substantially year-on-year, with a 38% increase in mobile customers and 45% in transactions. Our digital sales penetration is now 11 percentage points higher than in the first half of 2019. Loan growth was driven by corporates, CIB, and mortgages. Quarter-on-quarter, this was affected by the slowdown in credit line usage from corporates and CIB following strong growth in March. Net operating income increased 11% year-on-year due to positive revenue performance and improved efficiency. Costs show a better trend than in previous quarters, with the efficiency ratio improving by over two percentage points. Underlying attributable profit rose 4% year-on-year, benefiting from reduced non-controlling interests. In short, very positive trends are reflecting the improvement of our franchise in recent years. Finally, in the Corporate Center, I wanted to emphasize its critical role in supporting the group through the Special Situation Committees. Starting in May, the progressive reintegration of employees to the workplace began, mixing on-site and remote work, following the recommendations of government and health authorities while maintaining a high degree of flexibility to meet individual needs. Regarding results, the underlying attributable loss is flat compared to 2019, mainly due to positive impacts of foreign currency hedging reflected in financial transactions of €250 million and a 4% reduction in costs. Conversely, net interest income was negatively affected by a larger liquidity buffer, while revaluation of some minor stakes is reflected in provisions. Now I'll hand it back to Jose Antonio for his concluding remarks. Thank you.

Thank you, José. Let me conclude by reiterating that the second quarter continued to operate under specific conditions that were not ideal for our business. Nonetheless, we maintained strong capital and generated significant organic capital in the quarter, maintaining our core target at the top of the 11% to 12% range. Given the strength of the bank’s capital and underlying performance, we accrued 6 basis points of CET1 capital in Q2, allowing us the option to pay dividends from 2020 earnings. Additionally, we aim to pay a scrip dividend payable in shares before year-end, returning to the 100% cash dividend when feasible from both a macroeconomic and regulatory perspective. We have delivered strong performance on pre-provision profit, with resilient income and accelerating cost reductions. In the second half of this year, we hope to recover our customer revenue via NII and fees while continuing to deliver cost reductions ahead of our plans. We maintain good credit quality, expecting a stable cost of credit as some customer moratoria expire, and we shared relevant data with you; these figures remain consistent with our cost of risk expectations for this year. In summary, I will emphasize the strength of our business model and the execution of our strategy, demonstrating resilience across cycles. This is supported by a robust pre-provision profit, €24 billion of credit reserves, and the fact that in all stress tests, our capital destruction is significantly lower than competitors. This gives us confidence in future performance. Lastly, our accelerated transformation plans are crucial; we will leverage our scale and the collective strengths of our regions and global businesses, focusing on simplifying operations and improving customer experience to enhance profitability and efficiency while learning from customer behavior changes during the pandemic.

Thank you, Jose Antonio. Thanks, José. We now have time for Q&A. Please proceed with the session. First question?

The first question comes from Alvaro Serrano from Morgan Stanley. Please go ahead.

Just one on the dividend and another on impairment. On the dividend, just the mandatory scrip and the rationale behind it, given it has no impact on valuation and certainly affects perceptions among institutional investors. So what’s the rationale behind it? You’ve also pointed out that you’re going to move to cash dividends; could you discuss visibility regarding the regulatory headwinds? The ECB announced that TRIM exercises are back live. How comfortable are you that the visibility is better from a regulatory perspective, given you were going to move to cash last year? The second question is on impairments; can you share some of the assumptions behind the impairments and the DTAs and goodwill impairments, and if you’re comfortable now that we should not have further impacts on tangible value going forward from extraordinary ones?

Thank you for your questions, Alvaro. The first question is about the rationale behind the mandatory scrip. As you know, over 40% of our shareholder base is retail shareholders, and they have been vocal in asking us to maintain some form of remuneration in scrip. That is the main reason. I know the share count increases, which may not favor some institutional investors, but we must consider all our shareholders, institutional and retail. Regarding the second question on regulatory, we want to stress that the Board intends to revert to a 100% cash dividend as soon as possible. We accrued six basis points, roughly €400 million, with the intention of continuing to accrue dividends in the coming quarters if profit generation aligns with our expectations. We think the ECB's regulatory perspective depends on the banks' capacity to continue generating profits throughout the cycle. As long as we forecast a consistent ability to generate profits, we accrue dividends, showing the Board’s intention to pay dividends in cash if profit generation continues as expected. Naturally, there are uncertainties on the macro side—if we are incorrect in our macro expectations about profits, that could change. However, we expect to maintain our profit-generation ability. The second part concerns impairment assumptions; reviews indicated three significant factors contributing to the impairment: Firstly, the macro situation significantly weighed on profits in the short term, and though it might affect medium-term projections, we expect this to last two to three years. The impact on profit generation led to higher loan loss provisions, which translates into lower net interest income from our models and adjustments due to interest rate reductions. The second reason is that we increased our discount rate by an average of 1% to reflect market volatility and higher risk premiums, which accounted for part of the €10 billion impairment.

The next question comes from Ignacio Ulargui from Exane. Please go ahead.

I have one question only. Could you elaborate on what the outlook for pre-provisioning profit at a group level looks like going into the second half, considering various factors affecting revenues and costs? Will the second quarter number be viewed as the bottom for 2020 from your perspective?

Regarding the pre-provisioning profit forecast, our outlook is highly dependent on a new normal for market activity in Europe and the U.S. We anticipate operational aspects, with some activity returning, although not returning to full capacity until there is a viable treatment for COVID, or a vaccine is widely distributed. Operating under this scenario, we believe we will recover NII as we have already started to reprice liabilities, which should positively affect the second quarter and allow us to recover some fee income lost during lockdowns. Given our expectations, we do not foresee higher provisions than those recorded in the first half of the year.

The next question comes from Fernando Gil from Barclays. Please go ahead.

Two questions from my side. First, can you remind us of the book value of the UK and U.S. after these goodwill impairments? Second, could you refresh the FX exchange sensitivity moving forward in the P&L?

As for the UK and U.S. goodwill, if I recall correctly, it’s €12 billion for the UK. I’ll check on the specifics for the U.S. and follow up with the exact figures later. Generally, regards to group goodwill, it stood at €25 billion and post-impairment is approximately €15 billion, primarily from Brazil, Mexico, and a small amount from the UK. I do not foresee further impairments affecting our outlook.

Regarding FX, we hedge much of our P&L tactically and are mostly hedged for the rest of the year. We have already begun hedging some positions for next year, particularly the U.S. dollar, the Mexican peso, and the Brazilian real. Currently, the first half experience showed intense FX impact on emerging market currencies due to significant depreciation. Our view moving forward is that after these depreciations, we should not see significant additional depreciation unless caused by extreme conditions, particularly in Argentina. More optimistically, I assess Mexico and Brazil, where the markets appear to be handling the crisis better than expected.

The next question comes from Andrea Filtri from Mediobanca. Please go ahead.

Could you please update us on IFRS 9 charges? Where do you currently stand on those? Are you using any macro scenarios in your assumptions? Will you envisage further COVID-related charges in H2 2020? What sort of capital headwinds do you expect from risk-weighted assets pro-cyclicality as macro conditions worsen in the upcoming quarters? Are there any pending TRIM impacts left at this stage? You confirmed the 1.4% to 1.5% cost of risk guidance. Reflecting the benefits of the moratoria, what would this be without them? Lastly, how do you see TLTRO III benefits forthcoming, from Q3 onwards?

Many questions, Andrea. Firstly, IFRS 9 charges reflect our loan loss provisions. We are aligned with our models and macro scenarios similar to those from the IMF as mentioned previously. Unless the macro situation shifts dramatically, I do not anticipate additional COVID-related provisions—unless conditions change, they are already included in our report. For risk-weighted asset pro-cyclicality, we are already seeing some migration related, particularly in CIB. It reflects over time and will continue to affect our capital generation organically; specific impacts were evident in Q2. Regarding TRIM impacts, the most significant adjustment was related to Spain's SMEs, initially on hold but could return, accounting for approximately 16 basis points of capital impacts. Other minor impacts are possible but might be postponed until next year. For TLTRO, we increased our involvement, reaching about €17 billion relative to last year.

The next question comes from Sofie Peterzens from JPMorgan. Please go ahead.

I have a question on the NII outlook; you've mentioned strong volumes were holding up well in the quarter. How should we think about the NII outlook going forward? My second question is on your TNAV. It was down around 5% quarter-on-quarter. Are you taking any measures to keep the TNAV more stable going forward, perhaps with hedges in place? How should we think about TNAV growth going ahead? Lastly, could you share macro assumptions for your different regions? For instance, in Spain, are you utilizing the Bank of Spain macro scenarios? How are you evaluating the macro picture across various markets?

On NII in the UK, we believe we've already seen the worst of this in Q1 and Q2. The liability repricing process is ongoing, which should provide a boost in August, and we expect a full recovery by the fourth quarter. Our optimism for UK NII is based on the liability repricing across the entire deposit base. As for TNAV, must clarify that the impairment of goodwill has no impact on TNAV, but the DTA write-down does. I don’t foresee one-offs affecting TNAV going forward, but TNAV evolution will depend on our capacity to generate earnings correlated with currency influences. However, as indicated during Q1, the depreciation levels were unusually high and will stabilize in the second half.

The next question comes from Mario Ropero from Fidentiis. Please go ahead.

My first question pertains to fees in the UK. Can you explain how much the regulatory cap on overdrafts impacted revenues and what you expect to recover in the third quarter? My second question involves loan yields in Spain, which dropped significantly this quarter despite some minimal help from Euribor. What’s causing the pressure on yields in Spain, particularly with regard to ICO loans? What are your forecasts moving forward?

Regarding fee income in the UK, I confirm that we were unable to apply the interest rates we initially planned for overdrafts, which has significantly affected both NII and the income. The loss we quantify is around €100 million net-net between NII and fee income. We expect to make progress charging interest on overdrafts as originally intended. As for Spain's loan yield, it reflects a shift in product mix; lower consumer lending decreased the weight of that segment, while corporate and larger corporates increased, leading to reduced yields. If we return to pre-crisis activity levels, we should see yields stabilize or even improve, depending on Euribor developments.

The next question comes from Carlos Peixoto from CaixaBank BPI. Please go ahead.

A couple of questions. Firstly, regarding dividends on 2020 earnings, if I examine the six basis points accrued from the first half’s earnings, it seems to imply an 18% to 20% payout ratio or expected payout ratio. Is that accurate? Secondly, concerning NII in Brazil, although volumes demonstrated healthy growth, NII still declined. I'm keen to understand how this will trend going forward.

Regarding 2020 dividend expectations, the six basis points accrued send a strong signal if macro conditions remain as we project. While we don’t have a precise target payout in mind, operating within the upper end of our Core Equity Tier 1 target at around 12% allows for potential dividends depending on profit generation

Regarding NII in Brazil, as previously noted, the changes in our product mix, specifically with cheque especial—which saw high interest rates combined with regulatory restrictions—has notably reduced our market share from 20% to 12%. Moving forward, the primary concern is mix changes due to increased activity in corporates and large corporates.

The next question comes from Stefan Nedialkov from Citi. Please go ahead.

Two questions: First, have you done any synthetic risk securitizations, which may have helped your capital this quarter? What’s the outlook for synthetic risk securitizations for the rest of the year? Second, regarding moratoria, can you clarify the percentage of furloughed clients within the €40 billion of matured moratoria loans? Are there specific geographies and products not accruing NII concerning these loans?

Regarding securitization, we engaged in relatively minor capital-responsive securitizations—approximately €500 million—which didn't substantially affect our capital position due to market closures during the quarter. However, with the market reopening, we anticipate a more active participation in the second half of the year. About the €40 billion matured moratoria loans, I previously mentioned that we observed a movement into non-performing assets in line with overall expectations, at about 2%. The majority of moratoria loans relate to mortgages, contributing to interest accrual where customers maintain payments; for bulk of categories we accrue interest. Most products, aside from the UK mortgages, are still receiving interest payments.

The last question is from Adrian Tang from Crédit Suisse. Please go ahead.

Two questions. First, you've written off €2.5 billion in DTAs, guiding for a deteriorating outlook. How do you reconcile that with your recommitment to the 13% to 15% RoTE target? Second, about costs, you've achieved an impressive performance on cost reduction again. Could you provide a range for possible incremental cost savings? Lastly, concerning cost of risk, you've noted significant front-loading of costs from IFRS 9 models—do you expect a meaningful decline in cost of risk next year?

The impairment of €2.5 billion in DTAs reflects our outlook over the medium term, which remains unchanged as long as our projected scenario stands. The impairment relates mainly to the impact on profits over the next two years. Upon evaluating the macro situation, a few factors are contributing to this, including the heightened discount rate, suggesting return scenarios will align with our expectations, requiring assessment based on moving profit generation in our markets. Regarding cost reductions, we intend to provide transparent insights later in the year, but sufficed to say, we are more optimistic than before regarding cost management as a result of the pandemic experience. We expect significant cost reductions beyond our initial targets as stated in Europe, with an anticipated nominal drop of at least €1 billion in costs. Also, I expect a decrease in cost of risk next year if our projected scenarios unfold positively.

I'm afraid we need to leave it here. Thank you all for joining this call. Obviously, the IR team is available for any follow-up. Thanks very much and see you next quarter.

Bye.