Barclays PLC (NYSE:BCS)
Q4 2009 Earnings Call
February 16, 2010 05:30 am ET
Chris Lucas - Group Finance Director
Robert Le Blanc - Group Risk Director
John Varley - Group Chief Executive.
Bob Diamond - President and Chief Executive of CIB
Tom Kalaris - Chief Executive Barclays Wealth
John-Paul Crutchley - UBS
Robert Law - Nomura
Ian Smilie - RBS
Peter Toeman - HSBC
Aaron Ibbotson - Goldman Sachs
Bruce Packard - Seymour Pierce
Arturo de Frias - Evolution
Leigh Goodwin - Citi
Michael Helsby - Bank of America/Merrill Lynch
Good morning and welcome to this presentation of the Barclays preliminary results of 2009. Some of you may have seen that I made a statement this morning about the decision of John Varley and Bob Diamond to waive a bonus for 2009 despite the exceptional results that we published today, simply to say that I am going to be here throughout this session and would be happy later to answer any questions you may have on this subject. But as for the results, the plan is that there will be presentations from Chris Lucas, our Group Finance Director, from Robert Le Blanc, our group Risk Director and we will conclude with a presentation by John Varley, our Group Chief Executive.
And just to set the time context, we expect the presentations will come in at under the hour that we will hope and plan to ramp up the whole session by 11.
Good morning and thank you Marcus. 2009 was a year of a great deal of activity at Barclays. We've transformed our investment banking platform to continue to build out our Global Equities and M&A businesses. In retail and commercial banking, we've grown income and actively managed costs to mitigate the impact of market conditions. We saw Barclays global investors can retain the stake in BlackRock and we've taken very significant steps to increase capital, reduce leverage and boost liquidity.
You can see the outcome of all these activity and the results that we've announced this morning. We delivered profit of £5.3 billion, excluding a £6.3 billion gain on the BGI transaction and underlying profit more than trebled. This resulted from a very strong income growth of 34%, well ahead of cost growth, at the same time our core tier 1 ratio almost doubled to 10%, adjusted gross leverage reduced to 20 times and we've trebled our liquidity pool to a £127 billion.
As you know we announced a new structure for the business in November. We're reporting numbers under the old structure today and we will issue a restatement in the end of March. In general, my comments compare our results for the full year with those of the previous financial year.
If I look at how we performed on an underlying basis, after reversing out all gains on acquisitions and disposals as well as movements on credit and gains on debt buybacks profits more than trebled to £5.6 billion. Looking at the group performance in more detail, income grew 34% to £31 billion and cost growth was lower than income at 24%.
Discretionary cash compensation in 2009 was £1.5 billion and in addition we have made long-term awards of £1.2 billion which we will vest over a three year period subject to claw back. Impairment grew 49% to £8.1 billion. The cost income ratio improved from 62% to 58%, earnings per share increased from £0.59 to £0.86 and the return on equity was 24% including the BGI gain.
Excluding that gain, it was 8% reflecting higher levels of capital retained within the business. Moving now to the divisional performance, the incoming global, retail, and commercial banking grew 7% in a difficult operating environment. We reported profits at £2.5 billion despite ongoing margin compression and an increasing impairment of £5.4 billion. The cost to income ratio improved by 1 percentage point to 52%.
Turning now to the individual businesses in GRCB, UK Retail Banking delivered profits of £612 million. The positive margin compression resulted in downward pressure of £755 million net of hedging. Impairment growth of £334 million was mostly in consumer lending. As you can see from the slide, we worked hard to mitigate the impact on margin compression by actively managing both income and cost. Overall cost decreased 3% despite continuing investment in the branch network. We've refurbished a 148 branches during the year bringing the total number refurbished since 2005 to more than 800.
This investment us enabling us to drive customer and business growth despite the difficult environment, year-on-year the number of saving accounts grew 10% from the £12 million to just over £13 million and our premier customers increased by almost 40% to 735,000. The number of customers in local business increased 4% to 686,000; total loans and advances grew to 5% to just over £99 billion. Within this gross new mortgage lending totaled £14.2 billion, including net new lending of £5.7 billion. We wrote new business without comprising our risk profile, mortgage impairment charges were £26 million pounds or three basis points on an £88 billion book.
Barclays Commercial Bank income of £2.75 billion was broadly in line with last year. Profits declined to £749 million as a result of increasing impairment and margin compression. We've actively managed the business to mitigate the impact of these factors, asset driven income and increased free income compensated for the impact of margin compression. Spending was well controlled and cost declined 3%
Impairment grew by £560 million reflecting continued pressure on corporate liquidity, rising default rates and lower asset values. Nevertheless we benefited from a well diversified loan book with a relatively low exposure to property and leverage finance. New-term lending was £14 billion and while year-end balances were down, average lending grew 3%.
Average deposits also grew 3% to £49 billion. At Barclay, profits of £761 million were the result of the income growth of 26% driven by an increase in customer balances and lower funding costs as well as the benefit from dollar sterling exchange rates.
Income growth was offset by an increase in impairment of £700 million, more than half of this increase was in the international businesses reflecting high delinquencies as well as the impact of exchange rates. Delinquency trends in both the US and the UK stabilized during the second half despite a rising unemployment. This was the result of early intervention to help customers in financial difficulty manage their payments as well as tightened approval criteria.
Profits in Western Europe of £130 million included a gain of £157 million from the sale of a stake in our Spanish Life and Pensions business as well as a £67 million operating loss in Russia and a restructuring charge of £24 million, mainly in Spain. Income grew 18% to £1.7 billion with growth across all 5 countries as a result of expanding the distribution network and customer base in the recent years. We now serve 2.8 million customers in Western Europe with over £70 billion in total customer assets and liabilities.
Costs grew 16%, largely as a result of ongoing investments in the distribution network. We've added another 137 distribution points during 2009, mostly in Italy and Portugal bringing the total number in Western Europe to just over 1300. The cost to income ratio improved one percentage point to 65%. Impairment charges grew by £370 million year-on-year. About two thirds of this growth was in Spain in our property and construction portfolios. In GRCB Emerging Markets income grew 5% to just over £1 billion. This income growth was well balanced between retail and commercial and was broadly based except in India where income fell as a result of reduced lending.
Our mature businesses in Africa, Mauritius and the Seychelles generated a significant profit. Costs in GRCB Emerging Markets grew 24% as a result of investment in infrastructure. Impairment grew to £471 million, mostly in the UAE and India and taken together, this resulted in a loss in Emerging Markets of £254 million. In GRCB Absa, profits in sterling were down 8% to £506 million. Income increased 16%, reflecting average appreciation in the value of the rand against sterling. Cost growth was lower than income growth at 13%.
Impairment charges grew by £220 million to £567 million driven mainly by delinquencies in retail banking. Against a backdrop of challenging economic conditions in South Africa we're controlling lending carefully, focusing on growing customer deposits which increased 16%. Moving on to Investment Banking and Investment Management and starting with Barclays Capital where profits almost doubled to £2.5 billion, driven by very strong income growth in the U.K. and Europe as well as our transformed scale and service offering in the U.S.
Top line income at Barclays Capital grew to £17.9 billion. Fourth quarter top line income was £3.6 billion which is a strong performance relative to the sector. Total income was £11.6 billion and taking into account credit market losses, losses on owned credit and impairment net income more than trebled to £9 billion. Looking at a break down of top line income, fixed income, currency and commodities drove income growth of 76% to £13 billion. Equities and prime services more than doubled to £2.8 billion with an especially strong performance in cash equities and equity derivatives and revenues in investment banking which includes underwriting as well as advisory services doubled to £2.2 billion.
Income growth was broadly based. There are now 6 businesses producing annual revenues of over £1 billion. 44% of top line income came from U.S and there was very strong income growth across the U.K, Europe and the U.S. during the year. Increased income reflected growth in the client base as well as strengthened client relationships. The number of clients generating revenues of more than £10 million grew by 38% to over 230. Total credit market exposures reduced by £22 billion. This includes net sales and pay-downs of £11.7 billion at or close to our marks as well as gross write downs of £6.1 billion and foreign exchange and other movements of £4.2 billion.
As you know we sold £5.1 billion of credit market exposures and £2.4 billion of other assets to Protium Finance during the year. We provided a loan of £7.5 billion to Protium to fund this purchase and we're reporting the loan, plus accrued interest, within our credit market disclosures. Costs grew to £6.6 billion reflecting the full year impact of the Lehman acquisition and the build-out of our equities and M&A businesses. The cost to net income ratio improved to 73%. Headcount at the end of the year was 23,200, which is broadly similar to the end of 2008.
Compensation costs represented 38% of total income, a decrease of 6 percentage points. We continue to manage our cost base carefully and our goal is a cost to net income ratio in the lower half of a 65% to 75% range. We completed the sale of BGI to BlackRock on December 1st and reported a 26% increase in profits to £748 million including a recovery on the cost of support to liquidity funds as well as the impact of dollar/sterling exchange rates. At Barclays Wealth, income was broadly in line with 2008 and total client assets grew 4% to over £150 billion with net new asset inflows of £3 billion. Underlying profits declined 24%, adjusting for the sale of the closed life business in 2008 and the integration of Barclays Wealth America.
Barclays Wealth is now accelerating investment in people and technology. We intend to make an additional £350 million of investment over the next five years resulting in moderated growth expectations initially followed by accelerated growth after 2012. Our geographic focus will be on large wealth pools in the UK and the US, as well as on the high growth global markets, which we'll serve from existing hubs in London, Geneva and Singapore. At Head Office, we reported a loss before tax of £550 million, compared to a loss of £858 million in 2008. Net Interest Income declined by £689 million as a result of additional costs of funding arising from a dislocation in the money markets, especially in the first half of the year; increased liquidity requirements; and reduced income on shareholders funds in a low interest rate environment.
Other income increased by £1.2 billion as a result of net gains from debt exchanges completed during the year. Costs include the impact of the UK bonus tax which resulted in a charge of £190 million relating to discretionary cash awards in 2009 as well as an additional £35 million relating to certain prior year awards, which may fall within the scope of the legislation.
GRCB and Barclays Wealth deposit margins continued to come under pressure in a low interest rate environment falling to 131 basis points compared to 172 in 2008.
Our structural hedge produced a benefit of £1.4 billion mitigating more than 50% of gross compression. We expect the rolling nature of the hedge program to continue to protect us against the impact of low base rates going forward.
The extent of the benefit will depend on the evolution of the yield curve.
We've been able to increase asset margins from 207 basis points to 236 basis points. And overall, net interest margin across GRCB and Wealth increased from 207 to 211 basis points.
Managing the balance sheet was a key priority in 2009 and we reduced total assets by one third year-on-year. The majority of this came from a decrease in derivative assets. The reduction in loans and advances was largely in Barclays
Capital, especially in relation to financial institutions. We were still able to extend £35 billion of new loans in the UK during the year, despite reducing the size of the balance sheet.
Looking at balance sheet leverage, excluding, the derivatives gross up assets under management, settlement balances and goodwill, adjusted gross leverage improved from 28 times to 20 times year-on-year. The derivatives gross up represents receivables and payables with the same counterparties, which are subject to netting agreements under US GAAP. We've worked with our counterparties throughout the year to eliminate offsetting contracts at no cost and with no capital impact. This has contributed to a reduction in the derivatives gross up of well over £500 billion.
Moving on to look at our capital position, our risk weighted assets reduced by 12% to £383 billion, with the bulk of that reduction coming from Barclays Capital. Currency movements contributed 28% of this reduction. Our Core Tier 1 Ratio almost doubled to 10% and our Tier 1 ratio reached 13% as we retained earnings of £9.6 billion. There's a slide showing a breakdown of the increase in Core Tier 1 capital in the appendix.
After resuming dividend payments in the third quarter, we announced a final dividend of £0.015 a share this morning, bringing the total payment for the year to £0.025 a share.
Turning now to liquidity, we've improved our profile this year by trebling the size of our liquidity pool to £127 billion, while improving our loan to deposit ratio from 138% to 130%, by actively managing the profile of maturing financing, and by extending the maturity profile of our unsecured wholesale funding. Only Absa and Barclays Capital have any reliance on wholesale funding.
Barclays Capital has borne its additional funding costs caused by market dislocation and has increased the average term of outstanding net unsecured liabilities from 14 to 26 months during the year. So in conclusion the results we've announced this morning are the outcome of a great deal of activity. We delivered profits of £5.3 billion, excluding the gain on the BGI transaction, and underlying profit more than trebled. This performance resulted from very strong income growth of 34%, well ahead of cost growth. At the same time, our core Tier 1 ratio increased to 10%, adjusted gross leverage reduced to 20 times, and our liquidity pool trebled to £127 billion. Taken together we believe these results place us in a strong position going forward.
I'd like to hand over to Robert to discuss our management of risk in more detail.
Robert Le Blanc
Thanks Chris. Good morning. I'm going to review impairment across Barclays in 2009 and look at trends in our main portfolios. I'll also cover market risk and our outlook for this year.
At this time last year I gave you our planning assumptions for 2009 impairment. We could see that credit conditions were declining rapidly in many countries as the economy slowed and unemployment picked up. We expected the Group's loan loss rate in 2009 to rise to between 130 and 150 basis points.
And I explained that this planning was based on three broad assumptions that economies performed at consensus levels, with steady FX rates, and a constant balance sheet. By the half year, the major economies were weaker than expected and we updated you that full-year impairment could move higher.
We saw some improvement in impairment trends during the fourth quarter and our full-year loan loss rate came in at 135 basis points, on a comparable basis. The improvement in the last quarter was driven by a good performance in the wholesale books, where we avoided large single name losses as well as better trends in the retail books.
I'll take a few minutes now to explain how those impairment trends developed. Total loan impairment in 09 was £7.4 billion, and with the £700 million charge against available for sale assets, total impairment was £8.1 billion. The £7.4 billion gives an observed loan loss rate of 156 basis points, using the actual balance sheet and FX rates. We believe impairment for Barclays will peak well below the level we saw at the height of the property crisis in the early 90s. Barclays have a strong institutional memory about experience and has worked hard to protect our portfolios from the effects of severe credit stress.
Let's look at the 2009 impairment across broad business groups. Beginning with our UK and international retail portfolios where I said a year ago, that we expected a large increase in credit losses. In the UK, higher unemployment has fed through to increased delinquencies and charge operates in cars and loans.
The international trend reflects the more difficult credit conditions in areas like the US and Spain as well as portfolio maturation. As a result, the retail loan loss rate moved up to above a 180 basis points. In Bar Cap we said we expected impairment against credit market exposures to decline and that happened in the second half. Impairments on Bar Cap's loan portfolio increased as we expected, although this was moderated because we've not been hit by the significant single name losses that affected the industry. Impairments increased in commercial lending in the UK, with further deterioration across the portfolios, and the charge in our international commercial portfolios also rose, which in scale is about 7% of Group impairment. As a result of these trends, we've seen a rise in the wholesale loan loss rate to just over 130 basis points.
This shows how Group impairment allowances have grown. In 2009, we increased our impairment reserves by more than £four billion to almost 11 billion. That 64% increase has built up a significant buffer of impairment allowances across all credit categories.
To see how those higher reserves increase our coverage ratios, we divide the book into three categories. Looking across all the retail mortgage books, the ratio of impairment stock to credit risk loans increased during 2009, driven by the international books, and is consistent with the fall in house prices in those markets.
In our corporate loan portfolios, including credit market exposures, the coverage ratios also increased, as we adjusted our severity models given credit conditions last year, and in our other retail books, mostly the unsecured portfolios, we have increased coverage to match the declining recovery rates.
To compare coverage ratios across banks, you do need to look at the detail of these different categories. These three coverage levels are fully appropriate at this point in the cycle, for the severity rates we expect in these challenging credit conditions. Looking across these three categories, the Group coverage ratio increased from 42% to 48% during the year.
Now I want to review some portfolio trends. Let's begin with our UK mortgage business. We have a mortgage book of almost £90 billion and our asset quality remains very solid. Our rate of arrears increased only slightly during 2009 and remains well below the industry average.
Our mortgage impairment charge increased by only £2 million last year and our loan loss rate remained very low at 3 basis points, as we maintained our very strong credit profile. At the end of '09, our average loan to value in the UK was 43%. And of more than 830,000 mortgages, we had less than 200 properties in possession.
To show you portfolio trends in our main unsecured books in the UK, we've combined cards and loans. The balance sheet has remained steady across the year, as we've continued to make credit available.
In UK cards, we have managed down limits in higher risk and dormant accounts and improved the quality of new lending. And in UK loans, we've been controlling risk by originating almost 100% of our new loans from our existing banking customers. Those loans that have been delinquent for more than 90 days have increased slightly year-over-year to about 2.1% in the portfolio.
As assets flow through our book, there has been a reduction in the roll rate coming through to later stage delinquency. The annual charge-off rate increased during the year from bankruptcies and other factors, but was steadier in the second half.
Let's look at delinquency in UK cards as an example of what is driving current impairment trends. I want to explain that you cannot forecast impairment trends only by looking at total delinquency levels or accounting impairment numbers. At we enter 2009, we had expected early cycle delinquency to continue to decrease as we improved our credit quality on new underwriting, and through better collections processes.
And as we expected, late cycle delinquency has increased from 1.4% to 1.9% as more cases have rolled through because of the economic slowdown and higher unemployment. As a result, overall delinquency levels have been steady. However the increase in late cycle delinquency is important because that is where the impairment charge is much higher. And that has led to the higher loan loss rate, even though total delinquency is the same.
So the point is that late cycle delinquency trends are very important in driving impairment. We therefore need to see a steady trend and then a decrease before we see a material reduction in impairment charges. At the moment, we see stabilization, and we believe that late cycle trends will improve from here.
Let's look at the US Card portfolio. You will remember that the portfolio grew in the second half of '08 after a large partnership acquisition. In early '09 we again tightened credit criteria and reduced balances, particularly in the more risky open market segment. And our growth since then has been almost entirely in the lower risk partnership channel, where we are seeing good income growth.
We've been conservative in our credit models over the last two years by using very high stress levels of future unemployment to help protect our lending criteria. As a result, 90-day delinquency started to level off in the second half as flows into delinquency have slowed, and we are seeing improvements in the level of payments and the number of accounts in arrears. These trends will take some time to work through to charge-off rates, which have risen as US unemployment has continued to increase.
Moving to the UK commercial bank, we said a year ago that lower business activity and lower asset values would put pressure on the portfolio and credit risk loans rose 45% in the first half as a result of the more difficult operating conditions for companies although we are reassured that the growth in CRLs slowed significantly in the second half.
The loan loss rate has increased mainly for two reasons: first, the denominator is smaller because companies have reduced leverage and conserved cash, lowering the demand for credit and reducing our loan balances and because the stress on corporate cash flow has caused impairment to move higher. For many years we have avoided concentrations in high risk areas like commercial property lending, so our impairment in that sector was only £50 million last year.
In Barclays Capital, credit risk loans increased quickly during '08. However, '09 was better with a small increase in the first half, and a flat second half as credit conditions steadied. The Bar Cap loan loss rate fell in the second half as impairment dropped by over £1 billion pounds from the first to the second half with lower charges across Bar Cap's credit market exposures, the available for sale assets, and the traditional loan portfolio.
This decline from the first half was the key driver of the stronger impairment performance by the Group in the second half.
Looking at GRCB's international business and here I'm combining retail and wholesale CRLs have continued to increase with the largest rises in Spanish wholesale and South African retail portfolios, in line with the weaker conditions in those countries. Following a large increase in the first half, impairment and loan loss rates were more stable in the second half, as wholesale and retail trends began to stabilize across most international portfolios.
Single name corporate losses are important drivers of impairment. In general, the low level of single names losses in our wholesale portfolios has been a benefit to us in '09. The largest single name corporate loss in Bar Cap was £109 million and the average of the next ten losses was £34 million.
Across all of our business with smaller corporates, we keep single name exposures low, and the largest losses were in line with those portfolios. We know that the risk of corporate failure normally remains high even as economies recover. So we remain cautious about the outlook for single name losses in 2010.
Turning now to market risk. I want to update you on the number of positive daily revenue days at Barclays Capital. This is the 2008 distribution, which includes fees and commissions, and shows that even in the turbulent markets of 2008, the large majority of business days were positive. In 2009, Bar Cap client flows increased again, and an even larger majority of business days were profitable, demonstrating the extent and the value of that client franchise.
Let's look at the 2009 performance in even more detail. Daily value at risk was higher early in the year and then declined gradually as our management of client flows resulted in more moderate levels of risk. Although VaR is reported as a positive number, it is of course the possibility of a loss that would concern us and so we always look at the mirror image of VaR to show the possible expected downside.
When we look at actual income from risk positions in DVaR, we track those days where income gain or loss on any day is more than 25% of VaR. Two things are clear: we remained well within risk limits during 2009, and there were only a few days when we made a loss of more than 25% of VaR and no days when we made a loss greater than VaR.
The majority of days were positive with an average daily income of £34 million. And these figures do not include the extra revenue from fees and commissions which would bring the daily average up to £71 million and which drove the £18 billion of top line income at Bar Cap. This positive daily income pattern shows that Bar Cap's trading profitability is driven by its client franchise contributing steadily to income.
Bar Cap continues to grow revenue faster than risk, and this performance is only possible because Bar Cap is client driven, relying on business flow, not on proprietary trading.
Before I finish, let me look quickly at two measures that show our risk-adjusted performance. We focus on the stability of our earnings stream, tracking revenue relative to the volatility of that revenue. In this chart, we show a ratio of revenue to risk for Bar Cap. This is a simplified Sharpe ratio using monthly revenue, divided by the standard deviation within each month, and grouping these results into averages for the half-year periods.
To make the comparison we start back in '05. At that point we saw good revenues and lower volatility and the trend was positive. And as we went into the difficult period of '07 and '08, we would expect that trend to drop as revenues decreased and as volatility of revenues was greater during that period.
We have seen an improvement in early '09 and an even better performance in the second half of '09 as revenue streams rebuilt and volatility decreased. This shows two things, that Bar Cap's quality of earnings in '09 has rebounded very well and that Bar Cap's client franchise is driving a risk-adjusted performance even better than we saw during the years before the financial crisis.
This is the way I look at risk-adjusted performance across all of Barclays. The white line is annual income and it shows that the Group has generated strong income over many years. The yellow line is impairment as a percentage of total income, which remained within a narrow band during those years.
We look ahead through stress testing to estimate our credit performance in severe and extreme conditions. For 2009 we estimated that in a severe stress, our impairment would be 23% of income. And in an extreme stress we estimated that impairment could be as much as 38% of income. And we manage our portfolios to control our risk in those conditions.
In '08 and '09 actual impairment increased significantly, but our performance during these very difficult credit conditions remained within the ranges of our stress estimates. And during this time income again increased significantly. Even our 2008 income level would have adequately covered our impairment charges. And our very strong 2009 income provided an even larger buffer against the higher credit losses. This shows me that Barclays' risk-adjusted performance was resilient even through the down cycle, and that going forward as conditions return to more normalized level, we will see further improvement.
Now let's look forward this year across our main markets. The consensus view is for moderate economic growth, and for interest rates to remain low. House prices are expected to be more stable and unemployment to remain at recent high levels. Of course, these economic factors are very important for credit conditions and for our planning work on impairment levels.
Last year we shared with you our planning range for loan loss rates because we expected a very significant shift in impairment levels. This year, although the rate of change will be much less, we will again give you some guidance.
Based on the central economic views I've described and based on the trends in our portfolios, we expect to see four things. I expect a gradual improvement in retail credit trends to continue and that wholesale credit trends will stabilize and begin to improve later in the year. We also expect credit market exposure and available for sale impairment to be lower again in 2010 and we expect single name corporate losses to remain difficult to predict as you would expect in these conditions.
To form an overall view for impairment in 2010, we should keep in mind that last year impairment dropped about 20% from the first half to the second half as Bar Cap impairment improved significantly. My view now is that across the group we are passed the worst and are now seeing the turning point in impairment. Therefore, I expect a moderate decline in impairment year-on-year from '09 to 2010 but not as fast as the 20% drop we saw from the first half to the second half last year.
Economic conditions are still fragile, but on track for recovery across many regions and as this continues I believe that the risk adjusted performance of Barclays will continue to improve in many areas and overall will begin to move towards more normalized levels.
Thank you, I'll now hand over to John.
Thank you, Robert. Good morning. Chris has described the main components of our 2009 financial performance and you've just heard from Robert about risk. My intention is mostly to look forward this morning. But before I do that I want to start with two points of perspective and I also want to show you how we've performed versus the scorecard for 2009 that we gave you a year ago.
Perspectives, first, when I reflect on the last three years, I'm struck by how often we've had to make explicit choices about which path to follow. The sign-posts haven't always been clear and the consequences of taking the wrong path might have been bad. At the Board and at the Executive Committee we thought carefully about those choices and it would candidly have been easy to be fatalistic about them. But we decided in 2007 that we must impose our will on the course of events to the extent that we could.
Second, the objective of a bank is to generate returns for shareholders but banks can and should, in ways consistent with that objective, contribute to the well being of society by conducting their business responsibly and by performing well on behalf of their customers, their core functions of payments and money transmission, safe storage of deposits, maturity transformation and lending and the provision of advice and execution in underwriting and trading. These activities lie at the heart of every modern economy and if economies are to grow with all the beneficial consequences that flow from that, then banks must help their customers take appropriate risks.
A key differentiating factor in the performance of banks has been their ability to understand and manage risk and managing risk was a big part of our focus last year, strategic risk, business risk and financial risk. The 2009 scorecard is on the screen now. On the strategic front, we did the BlackRock transaction. We moved quickly to build-out our European and Asian equities and M&A business before last year's hiring in the capital markets gathered pace and we acquired the credit card business in Portugal. We entered a joint venture in life assurance in Spain, Portugal and Italy with CNP and we acquired Standard Life Bank in the UK.
Operationally we try to be conservative. Managing capital stood out like a beacon of necessity. In the areas of capital and liquidity we made a lot of progress during 2009 anticipating requirements of central banks and supervisors and thereby positioning us well to accommodate the further changes that are coming. Meanwhile 2009 demonstrated our ability to create equity by profit generation and to strengthen capital ratios and or absorb regulatory impact by managing the balance sheet tightly.
We put the pursuit of returns before growth. We reduced the size of our balance sheet and we reduced leverage. An explicit objective in growing our distribution network has been deposit gathering. In 2009, we improved our loan to deposit ratio, largely due to a net increase of £15 billion in GRCB's deposits. We said that we'd manage the relationship between income growth and cost growth carefully and we produced jaws of 10% for the year. So 2009 was a year of more income, more profit, but less risk in the balance sheet.
One postscript on last year. You'll remember that we committed to making an additional £11bn of credit available to the U.K. economy. We actually lent an additional £35 billion, about half to households and half to businesses and we supported more business start-ups in 2009 than for many years. You need clear objectives during a crisis. Ours have been staying close to customers and clients, managing our risks and maintaining strategic momentum. These objectives remain completely appropriate for 2010 as well. I believe that the steadiness of our profit performance during the crisis is largely attributable to the diversification of income that we've worked at during the last years, not least because it's enabled us to absorb the significant increase in write-downs and impairments that are consequences of the credit crunch and the economic slowdown.
The history of the last twenty years has revealed on many occasions, the benefits of having our capital markets business and our retail and commercial banking business in the same group. The asymmetry of their income and impairment cycles is often a source of risk diversification and resilience and we're seeing that again in this cycle. This is one of the benefits of running a universal banking business. In November, we announced several changes to the structure of the Group. We created a new business called Barclays Corporate, which comprises the larger business relationships from what was Barclays Commercial.
We placed Barclays Corporate alongside Barclays Capital, to form Corporate and Investment Banking and we created Global Retail Banking, comprising U.K. Retail, Barclaycard, GRCB Western Europe, and GRCB Emerging Markets. These changes have at their heart the alignment of specialist capabilities in Barclays with the needs of the customer and client segments we serve. A few words first about GRB. We have significantly grown our retail and commercial banking customer footprint over the last three years. I've asked Antony Jenkins, the new Chief Executive of GRB, to push that strategy forward, strengthening the U.K. franchises but increasing through time the ratio of non U.K. to U.K. business with emphasis on creating critical mass in markets where we have a greater presence.
Our goal is depth, not breadth. Antony and I have agreed four objectives for GRB, profit growth, an improved loan to deposit ratio, deeper penetration in existing markets, leading to further international diversification and the generation of net equity. I acknowledge that we've been too aggressive in our approach to business expansion and so emerging. We build scale quickly and we now saw at almost 4 million customers across those businesses but we must convert the investment in people, in customer recruitment and in sales outlets which had driven good progress in the income line in to sustainable profits.
In Western Europe where we saw almost 3 million customers and where we have a presence in the right market I want to see sustainable profits too which will mean a business that is less reliant on one-offs in the future.
Our retail and corporate banking businesses GRB, Absa and Corporate Banking are heavily geared to the turn in the cycle. Their loan loss rates are high, today, by historical standards. We saw some improvement in these in the second half of 2009, but we remain cautious about the lagging effect of rising unemployment on these businesses.
As we execute our strategy, and when the [title] turns and it will, the profits of GRB, Absa and Corporate Banking, and the scale of their relative contributions to the Group's profits, will rise materially. These businesses already generate £8 billion of pre-provision operating profit, which is over 60% of the Group. Our plan is to have the new GRB and Barclays Corporate teams present to the market at a seminar this summer which will allow them to set out their business plans for you.
Now when we announce the formation of CIB in November, we said that we saw the close relationship between Barclays Corporate and Barclays Capital particularly in the areas of relationship management and sector expertise as a source of significant synergy in the future.
All around the world we see growing fungibility of client requirements as between corporate banking and investment banking needs. The opportunity is global, and it should be a source of significant income and cost performance for our new CIB division in the years ahead. The competitive landscape in the global wealth industry has changed. And that creates opportunity too. Barclays Wealth is too small today and we intend to grow it.
Some years back, we had the same point of view about both Barclays Capital and Barclays Global Investors. Ten years ago, Barclays Capital's annual profits were about £300 million and BGI's about £50 million. And as you know, both of those profit lines grew quickly in the years that followed. So I believe we have a track record of growing businesses organically. At our Board meeting last December, we agreed to adopt a growth plan for Barclays Wealth. We intend to invest about £350 million over the next five years, in an organic build-out, operated on a pay-as you-go basis. And our objective is to change the scale of this business.
Turning now to managing our risks, risk management was subjected to a further vicious test during 2009. Given how difficult it was to predict the outlook a year ago I think it was quite brave of us to share our planning assumptions with you and to give you a loan loss range for 2009 It reflects well on our planning and risk management that the outturn was at the bottom end of that range. Robert has set out his expectations for our loan loss performance in 2010. So I won't add to what he's said.
For many years, we have been big users of stress testing at Barclays. We run weekly stress tests on key portfolios and we regularly assemble a consolidated top-down view of the resilience of our capital and liquidity positions to stress scenarios. The FSA has increased its focus on stress testing as part of its regular supervision cycle. Probably, the greatest risk for us is the uncertain outlook for regulatory reform. It's a risk we must manage and we shouldn't be fatalistic about it. Some commentators think that the reform agenda could require the deconstruction of universal banks. We believe a safer system does not require narrow banking. Indeed, there is no correlation at all between failure and big or small, narrow or broad, domestic or international.
We see big banks as risk diversifiers, not risk aggregators. But we know that, if our view is to prevail and I think it will then governments and supervisors need to see their banks adopting a responsible attitude towards capital, liquidity, leverage, credit supply, counter-cyclical provisioning, remuneration, and disclosure.
The [Basel] authorities announced a package of proposed reforms in December, on which they are consulting through the first half of this year. We will need to accommodate such changes as are finally enacted over the coming years and we have the ability over that period to take mitigating action.
The impact studies which will be conducted by the authorities must model the consequences of the aggregate reform package for the global economy not least because the economic recovery is fragile, and the principal, and understandable, requirements of governments and central banks is for banks to increase their lending activities.
A system that has higher Tier 1 capital, higher liquidity, lower leverage, counter-cyclical capital buffers, a capital premium for systemically significant banks higher risk weightings, and higher capital deductions is a system which is likely to generate lower shareholder returns and or higher costs to customers. We think these points are intuitively well understood by stakeholders.
So, careful analysis, including an understanding of what implementation timetable best serves sustained economic recovery, must be completed because we have one shot at getting it right.
Let me turn now to our third objective: maintaining strategic momentum. Barclays strategy has been stress-tested over the last three years, and we think it's withstood the test quite well. Our strategy is to increase our growth potential over time by diversifying our business. Despite the regulatory uncertainty that I have described, our strategic flight path is very clear, to consolidate the position of Barclays Capital in a transformed investment banking industry. To convert, into sustained profits, the investments we've made in our international retail and local business franchises including in Absa to continue to diversify Barclaycard where the number of customers outside the United Kingdom now exceeds the number inside.
To build out Barclays Corporate, with a focus on internationalizing it further, to implement the growth plan at Barclays Wealth, transforming the scale of that business over time. On Group shape, we see the optimal profit mix as being two-thirds from retail, corporate banking and wealth management; and one-third from investment banking. I'm careful not to point you to a timetable for getting there because I don't want you to think that we're hell-bent on getting to that shape by a particular date, and therefore, that we are hell-bent on acquisition. We're not. What matters here is the direction of travel. The change in organizational structure that we announced last November is intended to help us implement the strategic objectives that I've just outlined.
Our covered dividends and goals in a moment, but first, some words about remuneration looked at from the angles of objectives, architecture and outcomes. First objectives; we must be compliant. Our policies and practices are fully compliant with the new FSA Code and with the G20 principles. The remuneration policies we have adopted in 2009 have had the protection and enhancement of capital ratios as an explicit goal. We see remuneration as a means to an end, that end is the implementation of strategy; in a way that serves the interests of shareholders.
Next, architecture. We've ensured that the senior staff, a significant percentage of compensation is deferred; we are vesting in [equal thirds] over a three year period. The amount of deferred compensation has increased by about 70%. The 2009 bonuses paid to members of the Group executive committee and of the Barclays Capital executive committee are 100% deferred. Where we use shares to pay deferred remuneration, there will be no dilution of existing shareholders, because we will buy shares in the market to fund this year's awards. All deferred awards are subject to claw-back. The decisions that we have taken are based on a risk adjusted 2009 performance with independent reports of the Group Remuneration Committee from the Finance Director and the Chief Risk Officer.
And then turning to outcomes. Well Chris has reported you on the size of our discretionary bonus pool, and he has also talked about the amount of payroll tax we are paying. Since that tax was announced in December we've managed the compensation pool down so that the cost of the tax to the Company broadly equates to the reduction in the size of the pool with that reduction being borne by senior employees. Where our payroll tax is payable in subsequent years, we'll follow the same approach.
We've set out some of the key data on compensation in the appendix to Chris' presentation.
I don't pretend that the judgments we have to make in the area of pay are easy or straightforward. The market for the best people is both global and intensely competitive, and if we are to remain successful, we must attract and obtain the best people, but all activity has a minimum consistent with competitiveness, pay must be affordable in the context of generating a profit, investing in the business and maintaining strong capital ratios and paying dividends.
On dividends we'll pay our final dividend in March 2010, given the regulatory uncertainty, it would be imprudent for us to move the needle on dividend significantly but subject to that caveat which I hope our shareholders will understand, our dividend policy is intended to be progressive relative to a 2009 annualized dividend rate of £0.045 per share.
Lastly goals, the output goal is that our TSR should be top quartile relative to our peer group over time. We believe that that goal will best be served by managing multiple input goals. These include economic profits, balance sheet, size and leverage, RWAs and returns, core Tier I capital, return on equity, funding and liquidity, the jaws and the dividends. In the medium term, we will seek to generate an average return on equity that exceeds our cost of equity over the cycle. In the short term, I don't pretend that generating a return on excess of the cost of equity will be simple because we will continue to hold high levels of capital and the cost of equity of the banks is likely to remain high. 2010 is only a few weeks old, but we've had a strong start. Profit in January exceeded the monthly run rate of the first half of 2009 and the full year of 2009. As we look ahead, we are very focused on our obligation to deliver another year of substantial profitability. So that's it for me. Thank you very much. We are happy to take your questions now.
Thank you. (Operator Instructions). Thank you.
John-Paul Crutchley - UBS
John-Paul Crutchley from UBS. Want to ask a question on GRCB emerging market portion as was appreciate it now under the new group structure. One strategic question and one tactical question, in ways to see that the growth trajectory you hoped for that business would somewhat counterbalance a strong growth on the institutional side of the business, it sounds like a clearly degree of refocus there. So I just wondered to get some comments on whether you still see that as a strong cash balance too and then the second question may be just in terms of with some particular territories which clearly haven't panned out as you had expected, what should we just particularly expect to say clean up or restructuring or withdraw cost if that was the case for 2010?
Let me make a few general comments and then I will ask Anthony to add to what I say. Can I caveat it though, I mentioned that there was going to be a seminar in December and at that stage we'll give you somewhat more detailed views in the area that you are also going to be in these other areas of GRB and Barclays Corporate, but starting point is that in the context of the Group strategy of finding higher growth through time by diversification, one of the things we've been seeking to do is to increase rapidly the income in GRCB on an international side relative to the UK. Of course we want the UK businesses to continue to grow, but if you look at that relationship today, about 45% of the income in the old GRCB is from the international businesses.
And ask a very big change as you know, relative to two or three years ago and our goal through time if we were expressing it in the old GRCB format was that the profit contribution from the international businesses in GRCB would be equivalent in time to the UK contribution. Now clearly that needs to be income lead and I think we have to overcharge the income in the international businesses in this space significantly over the last three years including in the emerging markets but I have not (inaudible) in my presentation.
Now I think in some cases we were too aggressive in building in certain markets in to what turned out to be the downturn. So the strategy is unchanged. I think there ways in which we can improve the performance and as I said also in my remarks what we have to do is got to convert the investment that we made thus far in to sustained profit.
Let me just turn to Anthony and ask him to add.
Thanks, John. Two things, one is we have a fantastic franchise in the emerging markets in sub Saharan Africa where we have to say well one or two positions and we feel good about the opportunities presented by those commonly over the medium term and particularly with our relationship with Absa. Secondarily, I would say that we have entered additional markets such as India, the UAE of course where we were before Pakistan in Asia as well. In some of those markets we've found a number of opportunities that we've acquired well and most of those were in the corporate bank space and some of them had difficulty in the retail space and what you'll find us doing is rebalancing over time to other things that work and away from the things hat don’t work.
What we're looking right now, what that will constitute is the second part of your question around significant clean up or write-down, that's not what we're looking at right now, it's more of a rebalancing. In terms of our international footprint, in general and in retail, we (inaudible) good opportunities given the position that we have in Western Europe where we've show our ability to grow organically and also through fill-in acquisition in sub-Saharan Africa as our management team and also in (inaudible) had particularly good growth there and accounting current (inaudible) all in regulating pressures we continue to believe there'll be opportunities there.
Turning around for the global retail banking, we are very much have off the belief that we can balance our strong domestic positions with international growth over time and this is a fine-tuning of activity.
Robert Law - Nomura
Could I ask a few questions on the balance sheet? A few simple ones to start with and then a broader one. What was the impact of the Protium transaction, if any, on the balance sheet ratios, RWAs and impairments?
The answer to that is none; we looked through the Protium transaction for the purposes of RWAa.
Robert Law - Nomura
Secondly, could you give us some guidance on the outlook for RWA involuntary growth this year, both from grade migration and market risk weightings?
On the market risk weighting, we've given you of £40 billion to £60 billion of RWAs, I think that range still exists, but at the top end of it. Involuntary grading migration, evidence to date is showing a relatively small impact on RWAs, but I am not expecting it to be major. When I look though at one point at RWAs progression over this year, there is a transfer out of RWAs into deductions for securitizations, which has an impact on improving core Tier 1, but only half the deduction goes against Core Tier 1, but that is included in our calculations.
Robert Law - Nomura
Then more broadly, could you comment on where you think we're going on capital leverage now. So there's obviously been a significant improvement this year, do you think you're now running it at where you would need to be in the longer run, both on levels of capital on a risk basis and on a straight leverage basis, or how much further do you think you're going to need to fill this?
Let me talk about capital, Robert, Chris might want to add on leverage. On capital it's clearly been the right, both from the point of view of the equity market sentiment. But also from the point of view of what our regulators want to move with the needle and we have in the way (inaudible).
And I think it is fair to say that although we set out on this journey back in 2007 in fact and indeed I would say the banking sector as a whole has improved its capital ratio significantly, so the journey doesn't stop from here. If you ask me, is that likely to be on a permanent basis, a requirement for more capital in the system as a result of what happened in the world over the course of last two or three years, I mean no surprises that my answer to that is yes emphatically.
We have lots of capital this year in 2009 to anticipate what might come out of Basel for example. I think it's right for us to be thoughtful about the implementation timetable of Basel and indeed thoughtful about the full package of things to be implemented, but we need to take a generally conservative stance and protect our capital ratios because whatever is implemented overtime, I think that the capital requirements will go up, or the deductions will come down. I think we start in a very good place by the way having a 10% core Tier 1 ratio, having a 13% Tier 1 ratio. That's the right place to start and remember that the implementation timetable will be multiyear leverage.
On leverage, when we were at 28 times, I think I identify that I was hoping to get it nearer to 20. We were careful not to keep a specific target, well that was directed to go. I have to be honest, I think we got to (inaudible) than I was expecting which is good news, therefore in the sort of range that I would want to keep it, which means I don't have a specific target to drive it down further in the current environment, if it sits around 20, I think I'll be fine.
Ian Smilie - RBS
Ian Smilie from RBS. Again on RWAs, could you give us a bit more disclosure as to why the counterparty component went down so sharply in the second half of the year please, Chris?
Because there was just less activity around the year end. If you look at the balance sheet on a non-weighted case, you will see that most of the reduction in balance sheet was on wholesale institutions and particularly on settlement balances.
Of the £13 billion FICC revenues could you just give us some idea what proportion of that comes from OTC derivatives and what might happen if that was to be brought back on to central clearing with no offsets, which presumably you would be trying hard to push through there?
I'm not sure how precise we really want to be on that, but I think in terms of the broader question, what is the impact of derivative regulation; I think I'll ask Jerry to pick up on this, on both pieces of it. I think the most important thing for us, is that is the legislation has worked its way through Congress through in the US.
We've seen so many corporates come and testify to the House and to the Senate about the importance of end user derivates for our corporate clients. So we think this is going to end in a very good place, which is with a significant amount of derivatives going to exchanges, but there is an opportunity to do structured transactions with our corporate clients.
Jerry del Missier
The only thing I would add is that with the increased transparency that comes from electronic execution and the stability that comes from central clearing we would actually expect to see volume growth and kind of a more developed market, that certainly been our experience and frankly we had built our businesses around transparency and derivatives given the role that we had in putting a lot of these markets under electronic execution platforms in the first place back six to seven years ago and in fact our very early embracing of central clearing as a way of improving the capital efficiency of these businesses as well as the stability of the system.
Ian Smilie - RBS
Can I push you a bit harder because one of your US competitors has actually given an indication of what proportion of their FICC revenues come from OTC derivatives, I understand you were trying very hard to offset any impacts that might come through, but just to give us an understanding of the starting point of that £13 billion, how much might come from OTC derivatives?
It's not something that we've disclosed by way of further breakdown and I hope you feel that on Barclay's Capital generally, we had given a lot more data and disclosure over recent years and we give back that chart that shows you income by origin, but I think going down into a further set of details is somewhere we'd be reluctant to go.
But as the finance director, we've not given them any relief from that forecast for 2010 or 2011.
(inaudible) Can we go on to the far side? Yes.
Peter Toeman - HSBC
Hi this is Peter Toeman. I had a couple of unrelated questions please. In the second half of the year you saw an extraordinary increase in the cash balances on the balance sheet and you've given us an indication of how much it costs to hold that liquidity portfolio for the full year '09. I wonder if you could give us an indication of if you maintained that liquidity portfolio through 2010, what the incremental cost would be because presumably it was sort of second half rated.
Yes and I think the number I would have for full year would be something in the yield rate of £800 million.
Peter Toeman - HSBC
And a £100 billion total that was incremental.
Yes, of £150 million from that.
Peter Toeman - HSBC
Okay and my second question is related to the assets acquired with Lehman. I noticed you are still waiting to receive about £2.3 billion of assets from Lehman and about £1.8 billion of those assets are on the balance sheet. Given the time that's past, I know there are legal cases going on but is there a point at which there's a risk that you would have to derecognize those assets if you don't actually receive (inaudible) currency?
Rich here will just comment on that question. The microphone is here.
Chris may want to comment on the technicalities of revenue accounting but we are in the middle of ongoing litigation. So it's difficult to make specific comments. But I could tell you that in the booking of the £1.8 billion and not the full £2.3 billion recognized there may be some delay or whatever in doing that. We believe as to our accounts that we are adequately provided if you will currently for where the litigation stands. Second of all we're very confident that the litigation will end in our favor. You will see no response to the filing by estate and we remain confident we're looking forward to the hearing in March or April and it's not something that we're concerned about at the moment.
I wouldn't add much but I would say we will know that the state has assets or other assets significantly subsidized. They were on the resolution of the legal case which actually perverse as we think we are in a very strong position obtaining assets mechanically. It's something that's relatively easy to do.
Peter Toeman - HSBC
Peter Toeman from HSBC, I presented a slide which tells us all the volatile funding in Bar Cap is now more than one year majority and I suppose that's the cost of cash to bat which you haven't actually given us but I wonder if we could assume that the cost of the majority transformation of Bar Cap is actually going to fall predominantly in 2009 throughout very little and further incremental cost in 2010?
We wouldn't expect that we see much more involvement in transformation and see the average maturity based on wear outs and I don't think it needs to change beyond that?
Peter Toeman - HSBC
Not about the change but about the incremental cost. I mean should we assume that the cost of all that in the 2009 numbers?
Cost is relative in terms with all that. Yes.
Aaron Ibbotson - Goldman Sachs
Hi, there I'm from Goldman Sachs. Two questions if I may. The first one is just on the sort of cost to net income or net revenues in Bar Cap. Is it fair to assume that you expect it to continue to be around low 70 despite sort of trading write downs and old gain losses, old debt losses tailing off?
I'll ask Bob to comment but just to remind you what Chris said. Chris said that we are targeted to be in the lower end in a range of 65% to 75% net ratio. Bob?
Yeah that's exactly the place to go. Our budgeted bills in the lower half of that range as Chris said but if you look back on 2009, the £18 billion of CapEx revenues, well that's very-very strong and as we look forward clearly we want to budget our business around our client business and our revenues. In 2009 you have to also look at close to £2 billion in owned credit, a number that's unlikely to recur again as that's kind of going up and down. In close to £7 billion in both provisions in credit market write-downs when you're total leveling up and certainly going forward we wouldn't expect to be anywhere near the type of level. So you see quite clearly how we can see the cost income ratio coming down.
You had a second question.
Aaron Ibbotson - Goldman Sachs
Yes just very quickly, just to clarify on what's coming on the group impairments. You said that for 2010 you expect sort of positive trends to continue but we shouldn't expect the significant drop that we saw in the second half. Just wondering if you could clarify if we are supposed to take the base I assume on the whole year on 2009 rather than the second half which was quite different.
Robert Le Blanc
I was thinking that the base of the £8.1 billion of full year, in that year-on-year we will see that type of decline.
Fiona Swaffield - Execution Noble
I have two questions. It's Fiona Swaffield from Execution Noble. On the fixed income revenues, you mentioned they were quite resilient versus peers and I think they're down about 36% second half/first half. Could you talk about what's going on? Is the second half an adequate base for us to forecast off for 2010? Have we got a normalization of spread from there or were volumes weak? Just some kind of idea of what 2010 could look like?
Let me have Bob take that and then we'll come to your second question. Bob?
I'm going to answer in general on the business and then ask Jerry to pick on the specifics of fixed income but I think keep in mind still being in the first half and we all say at the end of the first half is that we always expect our second half. We had just for seasonal reasons because you lose about a half a month of revenues somewhere in July in August, this year it was August and around December and December generally poses earlier. So we definitely expect a stronger first half and second half everything else being equal.
Secondly I would say that fixed income portion of sick fixed income currencies and commodities were very, very strong in the first half last year and we wouldn't expect it. We didn't see it strong in second half. We wouldn't expect it this year to be wonderful if it was but we would see better opportunities in our equity business particularly now that you knew up and running. In parts of Asia we'll be up and running soon. In our advisory business we were pleasantly surprised that we could finish in the top five in the U.S. M&A and now Europe and Asia are up and running and also in our major market in France services business. Jerry, do you want to say anything more?
Just specifically to add on fixed income I do think we have a normalized spread environment now and volumes again will be driven very much by the environment where I think we have still significant volatility, a lot of uncertainty around direction of interest rates, a significant amount of financing and a very healthy calendar across government sector, corporate financial institutions and so clearly the first half of '09 was a very, very favorable environment and difficult to see something like that repeated in fixed income but this remains a very positive environment for the fixed income business overall and we have a very, very strong franchise position across Europe, US and Asia.
While on the CapEx, I would just say that we are listening also in terms sovereign spreads whether it was in Dubai or more recently in Greece that's very, very good for business and clients whether their issues or investors are going to be very, very thoughtful and serious about the banks they use. And our position of being number one in sales, trading research and fixed income both in Europe and in the US is a huge advantage now. And its going to create significant volatility and significant opportunity in those markets and our market environment where every sovereign trades at the same spread from our point of view its not necessarily good for business.
So, there is a lot of things going on out there as [Jerry] said from a fixed income point of view but it will be very, very different from the first half last year which is a different kind of environment but its going to be a very interesting year in fixed income and I think clients will be very thoughtful about using the banks that they know can execute.
Fiona Swaffield - Execution Noble
In terms of economic capital versus core Tier 1 I can't see that you've allocated the BGI gain or the increase in core Tier 1 capital in the second half into economic capital. Is that just due to the averaging or is that something that will happen?
You are right; it's due to the averaging the economic capital only came in on in the first of December. So, the impact is much low on those tables.
Fiona Swaffield - Execution Noble
So what would, say, Bar Cap's economic capital be at the end of the year? Would it have gone up from 11? Would a lot of the BGI gain gone in there?
No, the BGI gain is going into the BGI segment and what we will then do is become part of the capital supply, rather than capital demand.
Bruce Packard - Seymour Pierce
Yes, it's Bruce Packard at Seymour Pierce. I just wanted to ask about the growth aspiration because if you're saying in the outlook statement about the cost of equity and struggling to make that sort of return. It doesn't feel at the moment like a huge amount of capacity has been taken out of the system, even though Lehman's has gone etc., just looking around this room. And I just wonder about this. It would just be helpful to get a little more clarity about how you think about growth adding value for shareholders.
Yes. I mean there are some markets where there has been just a genuine transformation in the competitive landscape that we would certainly make that comment on investment banking and wealth. You know just as I do how seismic have been those shifts. I think what you say is fair in some areas of the retail and commercial banking where and less capacity has gone.
I would say though that the competitive dynamics, if we take United Kingdom, the competitive dynamics in the United Kingdom in retail and commercial banking have changed quite a lot and what you've seen not entirely a beneficial trend I would say is a retreating of foreign competitors to national markets. I worry about that because I think with that may go a nationalist and protectionist agenda, and so from a macro point of view, I think that's rather a troubling trend. But actually as those withdrawals have taken place, then have been good opportunities. If I look for example as how we performed in the mortgage market here in the United Kingdome over the quarter last 24 months absolutely no doubt that its benefited significantly from the change in capacity.
If I look at what happened to corporate banking and commercial banking activity here in united kingdom, I mean they changes as you know in the competitive line up. So I want to be too shy about talking about the opportunities at the aggregate level presented by the crisis because the landscape has changed but certainly the areas of greatest opportunity, one we have already in the investment banking, one we are intending to grab it well, those are the two areas where we should we hope in time we're the biggest beneficiaries and our shareholders from that.
We will take a question on the telephone and then I will come to the questions back
Thank you. Your question comes from the line of Arturo de Frias from Evolution. Please go ahead.
Arturo de Frias - Evolution
I have a couple of questions. In fact I will go one by one. First of all, the comp ratio in Bar Cap, and you have mentioned it is 38%. My question is, is this affected in any way by the accounting of deferrals? And if yes, what kind of comp ratio you could be happy with in the Investment Bank.
I will ask Chris Lucas to handle that one first of all.
The accounting is for in calculates in the comp ratio on an accounting basis. That don't includes both the terms but not £1.2 billion pounds that we are building across the group and we have to think about Bar Cap separately. So it does get impacted, there is a carried forward deferral as well and the impact on the 38% is broadly £500 million pounds go forward deferrals that are included in that calculation.
Could we have our second question.
Arturo de Frias - Evolution
Sure. Turning to retail, you were mentioning that your coverage of MBLs in the mortgage book is 18% and that's broadly in line with the severity you would expect. And I would, I had a feeling that that's a bit low severity expectation. In many of the countries where you operate, the housing market is falling by 20%, 30%, 40%. So can you explain why you think 18% severity will be enough? And I will have a very brief third question after that, please.
Yes certainly I will ask Robert to comment but the starting point is a very conservative loan-to-value ratio spectrum within the group. So if you look at the UK mortgage about 43% loan-to-value ratio. If you look at the Spanish about 51% loan-to-value ratio. If you look at the South African about 41% loan to value ratio that's why we formed the view that we do. And finally because the gaining in position even at this point in the crisis is a cautious one.
Robert Le Blanc
I will just add to that. The international portfolio to mention really will be the Spanish one which is our large international one and our Spanish book is actually even more conservative than our UK book when you look at exposure to property price decline because although the average LTV is a bit higher than here in the UK and you are recognized that we have a very conservative book here in the UK. If you look at the announcement of exposure currently involving 85% LTV in the UK that's about 14% of our exposure today is about 85 LTV and in Spain it's only half that level. It's just about 7% so but the average LTV is a bit higher but the exposure to, the expected price movement in Spain is even lower and that's why the overall reserve ratios I think are completely adequate.
Thanks Robert. You had one last question did you?
Arturo de Frias - Evolution
The last question was capital, particularly talking about the BlackRock stake. If the Basel proposals go through as they are now, minority stakes in financial institutions are going to become extremely capital intensive; if I understand the proposals correctly, they will carry 100% waiting. So you would have to allocate £5 billion or £6 billion to your BlackRock stake which obviously is a lot of capital. Could you share with us what's your view on that one please?
I would say two thinks and both they would want to add, first of all, in the BGI transaction, with our eyes open, we took at our consideration a stake in BlackRock and that's because we think that it has strategic opportunities for the Group and therefore for the Group's shareholders. It was a conscious decision. The second thing is, that we should bear in mind that the Basel proposals are just that, they are proposals. We will see what is implemented. Its right for us to assume a conservative approach to implementation but there is a long way to go and there is a long timetable of implementation and therefore I don't think it will be right for us to discount the view immediately that everything has
been published so far will be implemented, Bob?
Leigh Goodwin - Citi
It's Leigh Goodwin from Citi. Actually I had a couple of quick questions. The first one actually, Robert showed a very interesting slide showing 20 year average loan impairment rate of 91 basis points. I wonder whether you are encouraging us to think of that as the normalized level to the future. If not, which direction either side of that 91 basis points might we be thinking about?
We tried to be very [mouthful] we were asked still today that's our (inaudible).
I would say if it's going to be 91, it would have to be a very long future. So I think it'll come down but I don't think we'll get down to 91 anytime very soon. That 20 year history, it doesn't really apply I think depends on market conditions.
You had a second question.
Leigh Goodwin - Citi
Well, the second question was actually just really following that on returns. I think there was a question earlier just; you made some comments about long-term returns. You've had a target of ROE, I think sort of high teens in the past. I wonder whether you are signaling a change in what you think the long-term ROE target will be.
Well our objectives remains the same. I think the task of getting to the objective will be harder in any event for the time because of the phenomena that I have described. I mean high levels of regulatory capital requirements, high levels of equity markets requirement and high cost of capital. So I think we should be realistic about the challenge but could we see a time in the future where the industry is able to get back to those levels. I mean we tried as you know to be in double digit return on equity. Can we see that again? Can we see that operating in the 12 to 20 range in the future? Yes we certainly can. But I emphasize short-term, these challenges are going to be significant. We understand full well that the supply of capital to banks, debt capital and equity capital will demand a proper return and we understand that entirely and that will be the reality of the industry going forward for sure.
I think we got time, the chairman said we'll try and finish by that time. We've got time for two more questions if there are two more and one is here Michael.
Michael Helsby - Bank of America/Merrill Lynch
It's Michael Helsby from Bank of America/Merrill Lynch. Well, you painted clearly a picture of where FICC was clearly a fantastic 2009 but clearly there are a lot of other things going on in your business. So I was just wondering if when you look at 2010 and 2011, whether you see 2009 as a base level on an underlying basis that you can actually grow from or is that's just a peak revenue that's unlikely to be met? And I've just got one follow-up question on cost side.
Well I think it probably little hard to predict. I mean we couldn't been more delighted with the speed of the integration which gives us an opportunity, John mentioned it earlier to get out of the detour of hiring for Europe and Asia and equity and the advisory business, when we look at the top line revenue mill, £9 billion higher than it has ever been before is a terrific year, but we expect that we can out achieve that of course we do, you know how to run the business. So there is nothing there that we would say certainly some market conditions were better here and there, but (inaudible) think about it. If we can continue at that level and the significance or the severity loan credit and credit market write-downs are behind us, then even at those levels and as I said, maybe fixed income comes down and other things go up. The impact on profitability is enormous and that why we have the confidence we have going in to kind of profitability and the ratios we ran this year while we do some capital, while we do some leverage and lowering the storm on the credit market write-downs and the loan credit give us a lot of confidence in the profitability of the business going forward.
Michael Helsby - Bank of America/Merrill Lynch
That's what I am thinking, if a eight year old costs in that revenue range and then push it down towards the bottom where you're guiding then, it kind of implies a profit in 2010 for Bar Cap as around about £5 billion or maybe more pound, is that something that we should be, I know it's kind of a tricky question [Multiple Speakers].
We've got time for one last one at JP, you began it and you ended it, here it comes.
John-Paul Crutchley – UBS
Just back on the growth question, and two for Bob maybe, related. The first is on Bar Cap. Can you just talk about, you've obviously been building out the franchise and equities in both Europe and Asia. Can you just talk about where you have got to in that process in terms of people, infrastructure?
How much more cost is to come, or have you basically got the platforms in shape? And the second is just on wealth, you obviously talked about the strategic spend just coming over the next five years, and I guess the question is, is that quantum enough and given that the amount you have talked about, if you take it on an annualized basis, is about a 6% increase on the cost of the wealth business, which given that John you were talking about a clear transformational change in this business.
This just doesn't feel like sort of cost investment getting to where you want to be. So maybe if you could just talk to A, in terms of Bar Cap currently and B, do you need more to spend in wealth?
You know the equity build out went extremely well last year and I think again to go back to what John said, we've got out of the gate early. So, before yield was up, we had a fully functioning, fully running sales trading research advisor business across the entire time zone which was terrific. Japan will open up very soon and we would expect, it's going to take us close to at least the mid-year to have Asia to the same position.
Last year, headcount was flat doing that, so we probably had in the order of 2000 plus in terms of hiring front and back office for just what we're talking about the equity and advisory build out. But we found ways and to get other efficiencies in the business. I think it's going to be a million miles from that this year. I think as we continue to build out Asia and we've other opportunities in prime services in emerging markets. We maybe up a little, it's probably going to be broadly flat to up a little because we're going to continue to find as we do every year, other areas to become more efficient in the business, so maybe a small up in terms of headcount, but not dramatic, not the kind of things you've see in the past in Barclays.
John mentioned earlier that the examples we are using for Barclays wealth were Barclays Capital and BGI and think of hallmark of that were disciplined growth over time, so I think first thing to leave you with is that the investment will be disciplined investment. The second thing is that, over looking for five year period, lots of that will be, it would be slightly front loaded, so we certainly expect that we will have a good base to begin with and the aspirations that are a few change with scale as a business. We've done reasonable amount of investment over the core over the last four years. We've gone from the 27th of largest wealth manager in the world to about 9 or 10, so this is certainly the last push.
I'll just add one thing which is an incredible opportunity for us to have the Board approve the gamma plan which Tommy will be executing at a time where four of the top five players in global wealth are running into serious head winds and are seeing a decline in their business and a decline in their assets. So how often do you build while four of the top five participants in a market are in some form of decline. It's a very good environment for this.
Thank you all very much for taking the time to be with us.
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