UniCredit Group SPA (UCG) Q2 2010 Earnings Call August 3, 2010 11:30 AM ET
Executives
Alessandro Profumo - CEO
Marina Natale - CFO
Federico Ghizzoni - Head, CEE Banking Operations
Karl Guha - CRO
Paolo Fiorentino - Deputy CEO & Head, GBS Strategic Business Area
Rino Piazzolla - Head, Human Resources
Roberto Nicastro - Deputy CEO & Head, Retail Strategic Business Area
Sergio Ermotti - Deputy CEO & Head, CIB & PB Strategic Business Area
Analysts
Alessandro Roccati - Macquarie
Giovanni Carriere - Autonomous Research
Matteo Ramenghi - UBS
Anna Benassi - Banca Leonardo
Domenico Vinci - Goldman Sachs
Anke Reingen - Execution
Andrew Lim - Matrix
Andrea Filtri - Mediobanca
Matteo Ghilotti - Equita
Arturo De Frias - Evolution
Carlos Garcia - Banco Santander
Andrea Vercellone - Credit Suisse
Marco Troiano - Standard and Poor's
Pier Luigi Passerone - Intermonte
Alessandro Profumo
Many thanks. Good afternoon or good morning to everybody. So this is the second quarter results and clearly the first half as well. So shall we start from page four of the presentation which is the executive summary. We had 310 million net profit of goodwill with impairment in the second quarter after goodwill impairment on Kazakhstan, the result is 148 million. As you know the goodwill impairment is not affecting clearly the capital base.
Revenues quarter-on-quarter are down by 4.6%, reflecting lower trading income which are down from 560 to 59 million due to change in market conditions. But what is quite good is the fact that our net interest income is slightly up, thanks to the stability in the total assets and the liabilities you will see later on and the stabilization of the EURIBOR and the net commissions have out performed the fifth consecutive quarter year-over-year. You will it up by 17% which is quite a good number.
The cost are 1.6, higher than the previous quarter. We start expenses under strict control and growth of other expenses by Forex and by cyclical items. The loan provisions are lower by 4.2% than the previous quarter, down to 1.7, 1.6 million and the cost of which has been 122 bps. You will see the detail country-by-country on the Spa basis, not mainly SBA-by-SBA, later on. The gross impaired loans are up by 5.9% quarter-on-quarter.
The total assets are stable. The funded assets are still down by 1% with loan growth starting to be capped in some areas and mainly CEE and CIB in Germany, we have a reduction in the corporate center. And we have a solid deposit strength. The structural ratio is well above 0.90 which is the internal limit and you will see the strength on the liquidity side.
Core tier 1 is at 841, 4 bps lower than the previous quarter, driven by the return to risk related asset growth, mainly in Central Eastern Europe and more specifically in Turkey and in CIB Germany and by the accrual, as you know. As we have done in the first quarter we are accruing he same deal in all the previous years.
The results of the first test on tier 1, I am always highlighting the fact that the tier 1 is different country by country due to the differences we're having in terms of total amount of hybrid capital we can have, either 7.75 after the stress and 742 is a core tier one, which again we think is a very comfortable basis because of the overall stress.
I would like also to immediately, to say in terms of stress test that as you know on the (inaudible) was focused on the trading book. We have been significantly hit by the fact that conventionally the trading book were considered with a duration of five years on a conventional basis for all the banks while the duration of our portfolio is slightly above seven months. So, clearly the year capital is significantly higher than the one we should reserve with short duration.
Talking of net profit and going through the different lines here we have the numbers for the second quarter, the quarter-and-quarter change and year and year change and then the first half we have a similar comparison .As you can see we are down 4.6 quarter-on-quarter in terms of revenue 7.6 year-on-year. If we consider the first expense it is very important to say that net interest net commission, are both up quarter-on-quarter. The cost is slightly up as I said the operating profit is down 12.8 quarter-on-quarter and semester and semester and year-on-year is 18.3% the net write-down are down by 4.2% quarter-on-quarter and 29.4% year-on-year on the quarter while on the semester is 14.1.
We are doing payment that we didn't do payment in the second quarter in the first half of last year so if we go down to the net income PPA is 206 million because we had a significantly high tax rate due to the goodwill mainly and so which is down 64% quarter-over-quarter semester and semester we are down 26.4%.
Net income excluded goodwill is 310 million as I said before which is 40% down quarter-on-quarter, 36.7 year-over-year while the semester is 11.3% down if we compare year-on-year because in income ratio at 60.7% in the second quarter and 58.8% in the first half.
Cost of risk is down both quarter-on-quarter, year-on-year semester and semester of the two different years which we think is an important signal of the beginning of an improvement in past quarter and now we go to page six, page six is very important because the stable revenues are at the highest level since the second quarter of last year 2.6% so, we have seen that the deterioration is finally and on the contrary you will see that the numbers are starting to improve.
The operating expense are up mainly by cyclical items but we see the comparison late on the net write-downs are still going down on total assets at 072 bps.
If we do see page seven as I said the net interest is up 1.5% quarter-over-quarter, the commissions are up 1.9% but also we compare it on year-over-year we are improving 17% exactly which is very important number. The trading income are down much below the level of first quarter '10due to the low level of client activity and they have fair value adjustment on credit exposure. The second quarter results reflect the changed sector condition in markets and these locations across business but later on Sergio Ermotti in the case can provide some comment. We have to say that the reduction is partially due the market area, more or less 300 million while 172 million are related to the corporate sector, which is affected by the spread option on our shares which we had positive terms in the first quarter and the buyback of our own bonds offset the gain that we realized in the first quarter of '10.
Net interest, first important signal, the average three months EURIBOR which has been 0.66 in the first quarter on average is 0.69 in the second quarter and today we are close to 0.85 if I remember correctly or is 0.89.
So it is growing, which is a very positive element because finally the compression, the significant compression we had in the mark down, and now we are starting to see some improvement. And clearly in -- we had also a positive flow of deposits. So the loan to direct funding ratio is below 100. It is 96.8%, which is also a very positive element in terms of contribution to the liquidity of the group.
Page nine, net commissions, the net commissions are slightly down for the piece which is coming from investment services. We have a decrease in fees from security feeling placement and other services in the third quarter -- sorry, the second quarter has been as we know very volatile.
So clearly the customer has been less pro active in terms of training activities while the assets under management provided a growth of 2.7%, despite the decrease in life insurance which usually are stronger in the first quarter.
What is very positive are the other commissions and the commission from Forex dealing. The first one are up by 4.2%. The commission on Forex are up by 15% quarter-on-quarter. This is very important because it is a stronger sign of the positive cycle of the export oriented customer base which usually afterwards comes to an improvement of the performance of this customer as well in terms of bottom line and clearly in terms of cost of risk. So we think that this is an important signal of the improvement of the overall environment.
Cost are moderately up in the second quarter, driven partially by Forex and partially by cyclical. Head cost on Forex would be up by 1%, not 1.6. The staff would be down by 0.1 at cost on Forex. The other expenses were, we had marketing and advisory up by 40 million in the quarter in marketing there are after tax expenditure we have realized in the second quarter on a new product mortgage product which is important in order to exercise our brand and also the numbers you can see in the retail area in terms of new mortgage activity shows are important so such kind advertising, so we had the this expenses but overall the other costs are under control.
We continue to right-size our organization, we went down by the 121 people in the second quarter both in the business division, we have the usual contribution in the retail area which is more than one off of reduction but as well we have the reduction in GBS and Corporate Center. So, the overall organization is streamlining the structure.
And this perspective is also important to say that it has been approved this morning the final stage of the one 4C project and tomorrow we have a negotiation with the Italian worker council in order to define the way in order to achieve the target we are in terms stock reduction.
So, we are also moving forward in this perspective which is very importantly clearly in terms of future cost base and the project has been rapidly approved this morning since we have already done also different necessary step before.
Loan loss provisions so the downward trend continue we are at 1.7 billion clearly is not yet the level we would like to be but we are seeing a continuous improvement the areas where we had the main improvements are retail and CIB.
In the CEE division we are significantly below the yearly order and (inaudible) is slightly after because in the first quarter there has been also same right back in different countries so in reality the first quarter is not very comparable. It is also quite important that the retail that you remember in the first quarter had a started to improve again and also the flow of new was leased and restructuring in retail is going down.
The total gross impaired loans are at by 5.9% and we have a very differentiated trend in Poland, we have seen a decline in CEE we have still a growth in some specific countries. Germany is back to growth after a quarter-on-quarter at least in the first quarter of '10. Italy is going down but we have a still an addition mainly in UniCredit Corporate Banking.
The growth pace of a gross impaired loans the other gross impaired loans is going down now we have a immigration to the non-perfuming loan this is the usual trend which has been seen also in previous cycles.
The coverage down, it is slightly down, mainly due to a lower level in Germany where we hadn't changed the impaired loan mix with an increase of the stock value, collateral value exposure and a reduction of impaired assets with a lower level of collateral, thanks to effective risk functioning. Then we have a small decrease in Bulgaria due to a different classification. So 12 bps are due to Bulgaria which decreased while in Germany, sorry, in Italy we have an increase of the coverage ratio. The general increases are still over 3 billion representing 4.7% of gross impaired loans and 8.2 of the NPLs only.
We have still a reduction of the underlined cost of risk, a small growth but still significantly below the second, third and fourth quarter of last year in the new net addition usually in the first quarter which is visible also in the first quarter '09. There is a slightly lower level. But again, what is good for is the 68 is significantly below 98, 88, 81 we've see n in previous quarters. So hopefully we will continue to see this downwards trend for the new net additions.
Non operating items in the first quarter '10, I think that is important to signal on the high tax rate, 44.7%, which is impacted by Europe and Italy and the impairment taken in on Kazakhstan, 162 million which is due to the performance of the bank in the country. So overall, if we consider both elements, the tax rate is above 55%.
Total assets are overall stable. As you can see the assets excluding hedging instruments are slightly down which is an important element as hedging instruments are up due to the higher market and currency volatility. The tangible equity is slightly down due to the accrual of the dividend, sorry due to the payment of the dividend which has been done in the second quarter. The leverage ratio remains quite low, 22.3 times. So it is a very comfortable position.
Also considering a potential venture introduction as we know in 2018 of a leverage ratio in the (inaudible) and framework. And the funding structure, the funding structure, we had a small reduction in the customer loan, only due to the corporate center. So and these are loans with a center counterpart and other entities which are not significantly contributing while we had a 3.7 billion growth in the business division, mainly as I said in CEE, Russia and Turkey and CIB.
The customer deposits are going up by 6.5 billion and among business areas we have a growth in CEE. Again Turkey and Russia is really important because it means that the new loans are self funded and we have also growth incorporate center uses a inter bank cleaning house. When we see the balance sheet and the balance sheet structure as you an see is a very well balance structure in terms of asset and liability the structure with the ratio is 099 so significantly above the 090 we have in times of internally in it.
Clearly, this is the demonstration of the fact that we don't have credit position we had a cost in times of net interest margin due to that we have been asked in the past during the (inaudible) to take by all of you a very conservative position that we continue to keep so we are today penalized the potential positive impact of the capital interest rates should be quite rare and but again which is today relatively costly for us in terms of net interest margin.
We have been able on top of retail bounce to issue of 1.7 billion in occurred in the just shortly before the end of the quarter and the cost of average has been three months or either or plus 48 bps which means that we are placing capability at a very good price is quite relevant.
Finally, capital base we are still quite strong as I said before both before and cost stress test. There is an asset slightly up due to stability and due to for its effect but due to the growth in Central Eastern Europe and CIB Germany. So, we think that we have quite a comfortable position in order to be able to continue to grow on the loan book as soon as the demand will become and as I said we are starting to see some positive change and for instance in best trading classes in Italy.
We are also gaining market share in pretty significant way. This is the overall the presentation you having the divisions and here as usual we have in the CFO Marina Natale, the CRO, Karl Guha plus all the deputies Sergio Ermotti, Roberto Nicastro, Paolo Fiorentino and the newly appointed Federico Ghizzoni.
We have all of them we should be answer any of your questions.
Question-and-Answer Session
Operator
(Operator Instructions). The first question is from Alessandro Roccati of Macquarie. Please go ahead.
Alessandro Roccati - Macquarie
Hi. Good evening, everyone. Three quick questions. The first one is on net interest income. I've seen an improvement at the group level. But if I go through the divisions I actually see that retail is down, corporate down, CEE is down and MIB is down. So I'm just wondering where the improvement is coming from, whether it's from the Corporate Center, if you can give us some guidance on these please?
The second question is on impairments. You've done 160 million in Kazakhstan. Just wondering whether we can expect any further improvements and any unwinding of the acquisitions in CEE? And finally on risk-weighted assets, they have decreased from 503 to 486 on a quarterly basis. That's roughly a 4% decrease. Just wondering where are these decreases coming from and what can we expect going forward? Thank you.
Marina Natale
Okay. Let's start from NII. I'm not sure that we're looking at the same figure. So it seems looking at NII of business division, we are up and the main driver and the main contributor is for sure CIB quarter-on-quarter plus Central Eastern Europe. While the contribution the corporate center is not positive, it is negative mainly due to lower contribution of free funds in Germany, due to lower rates. So I'm not again sure that we are referring to the same figures.
In order to underline again, positive contribution coming from CIB and from Central Eastern Europe. Your right. Retail doesn't contribute in a positive but it's almost stable. On CEE and the Kazakhstan impairment, this exercise as you know has to be carried out on a regular basis and these, during this quarter review we compared the carrying value -- the fair value recoverable amount and the result that based on the projection we have for our bank in Kazakhstan, we had to impair this amount of 162 million which doesn't mean that we are going to have a further impairment if we are able to meet the projection which are implied in the plan we are using for the -- the other size. We are not going to impair anymore and these projections are, we are confident that during the second half of the year we will be able to achieve this result if the market remains stable and as it is.
Risk related assets again are a bit surprised about the comment on risk related assets since risk related assets total amount is up but its up at the group level by 3.1 billion, namely 0.7%. The business division are up 4.7 billion and the main driver again is Central Eastern Europe where we are recording growth, mainly in Turkey and Russia due to the new pick up of the loan -- the loan are picking up again and so these generate a growth also on risk-weighted assets.
Alessandro Profumo
Maybe that Federico wants to make some comments on Kazakhstan, Federico Ghizzoni.
Federico Ghizzoni
You ask about possible signal of improvements, I will touch couple of points, first of all about revenues; revenues have been under pressure in the first half of this year mostly for reduction of the accruals on restructured loans. On top obviously we don't accrue for other dues over 90 days and we have seen volumes not growing there yet. So, far the second half first of all it's good effect that the GDP growth is expected to reach has been at the first half at 8% so we have the confirmation that the economy is recovery.
We're expecting growth in term of volumes, we start to see in term of project finance for infrastructure the other dues are been stabilized. Actually in July there was a slight decrease, so for this reasons we think that the revenues are surely be better in the second half than the first half.
In term of cost of risk even though is growing in the second quarter what is positive is the fact that the write-downs are stable, actually the second quarter have been better than first quarter. What we have been not able to match in the second quarter of being the write backs are quite fluctuating. So, in term of cost of risk we think we have reached a level of stabilization. We are not expecting for deterioration, so all in all we hope to see a second half better than the first half.
Operator
The next question is from Giovanni Carriere of Autonomous Research. Please go ahead.
Giovanni Carriere - Autonomous Research
Yes. Hi. Good afternoon. A couple of quick questions, the first one -- I mean, for me the main surprise was the acceleration of the gross impaired loans versus last quarter and also the fact that the addition of new impaired. Overall, do you see this as just a, if you want, a one-off, or just a small reversal early in the quarter, but then we go back to previous levels? Or, do you think that there is something else going on? The other question that I have, if it's possible, maybe to give any figures regarding the migration at the group level by division of watch list NPLs? I mean, is that number stable, going down, going up, I think, because that's going to be very important to determine the provisions of the next few quarters. And the last one would be, just to be clear, have you restated the way you report Poland, or is it just there is additional detail on the database? Thank you.
Marina Natale
Maybe I start on the last question, so it's only to technical one we have now splited let's say Poland, so Poland into the relevant division and we have restructured figures in order to make them compatible, so you should get the compatible figures in the data base you're getting.
Giovanni Carriere - Autonomous Research
Oh, yes. No. So, no, to be clear, when we look at retail, now that includes Poland and when we look at CIB that includes Poland?
Alessandro Profumo
Yes exactly.
Giovanni Carriere - Autonomous Research
Okay. It's a bit counterintuitive. You might want to give transparency to the divisions that carry a higher multiple in the market.
Alessandro Profumo
Yes, but we think it's proper to show the numbers as they are, we are -- as you now there is also an accounting firm that we are asking to present the numbers in '09, with the manage the group. We have been always very transparent in the way we were presenting points, so the issue is, you enter from the country and you move to the division or you enter from the division and you move to the country, at the end the numbers are exactly the same, clearly. For us, it's important to give you the visibility on how things are proceeding in the market. I think that looking to revenue, risk-weighted asset is relatively is easy to understand, what is the asset needs.
Marina Natale
Allow me to only add one comment, for the sake of clarity. You will get also in the presentation a page 41, Poland and in the database, as a country. So also speech in the previous page is into the relevant vision. And you will get also in the database, the vision of the of database information for Poland and tomorrow because it is going to issue there own press release and presentation, so I think that you will be able to capture all the relevant information about Poland from these, sources.
Alessandro Profumo
Karl Guha will talk about the asset quality.
Karl Guha
Right, you had questions, the first question was the increase in gross impaired loan, the acceleration, and this in itself is caused by three main factors which have taken it higher relative to the previous quarter. The three main factors Kazakhstan, Ukraine combined contributed to 1.3 billion, Germany, the CIB the corporate portfolio roughly about 1 billion -- at 1.1 billion and the corporate book in Italy about 0.5 billion. The German portfolio in itself a basically migration of certain highly-collateralized portfolio that did actually move across the non-performing.
So this is what caused it, but this is not endemic to the second question which you were asking, is it indicative of -- is a one off or is it sort of indicates of deteriorating trend, no it's not indicative of a deteriorating trend. These are driven by two or three large name. So this is what has happened in Germany. Kazakhstan, Ukraine a slightly different picture, but the long and short of it is that, when you look at the migration form performing to non-performing, that segment in itself, there has been increase in terms of -- from bonus to the various categories for the non-performing.
There has been an increase, but the underlying trend that we are saying is, for the first time there are definitive signs of improvements but these are not accounting number, these are effectively risk numbers which we look at, which we not sure that we disclose that, but if you look at the underlying trend, in terms of expected loss there are definitive improvements across all asset classes and also on a consolidated basis.
Alessandro Profumo
And Karl it's important to say that out of the 1.2 billion of Kazakhstan and Ukraine, more of that 300 million are due to Forex.
Karl Guha
That's correct about 300 million are driven by Forex, that's right.
Alessandro Profumo
In reality, the number in local currency is different. As Karl was saying for the first time since a long period we are seeing a decrease of expected loss in the different….
Karl Guha
Yes, in CID, in retail, in Poland. Its flat in CEE but CEE, my colleague Federico Ghizzoni just explained, I think it's plateaued that we will probably see a better performance in the second half of the year. The trend consolidated is definitely going to improve.
Giovanni Carriere - Autonomous Research
Okay. Thank you. That's very reassuring. Thank you.
Operator
The next question is from Matteo Ramenghi of UBS. Please go ahead.
Matteo Ramenghi - UBS
Hello. Good afternoon to everyone. Just a couple of questions. The first one is on the sharp change in the use of interbank. I think it's an increase of some €14 billion. I suspect this partly offsets a decrease in the use of commercial paper, but I was wondering if you could give a little bit more color about that.
And then secondly, looking at the retail division, the risk weighted assets movements, there is a €2.5 billion reduction in Italy, in spite of flattish loans and there is a €2 billion increase in Austria, again with flattish volume. So, I was wondering if you could just explain that. Thank you.
Marina Natale
On interbank, as you can see, there is no change in the deposit side which is growing only by 2.5 billion approximately we have a decrease on the asset side where we have a change in the amount of 11 billion approximately. This is due to the fact that during this quarter we have reduced the interbank activity by this amount and these available funds, liquidity are now available as being shift to finance the remaining net imbalance.
The net imbalance is mainly due to the fact that we got loan 2.3 billion going in the same direction, so creating new liquidity. But at the same time we recorded a drop due to customer securitization by approximately 15 billion and the main driver of these reductions has been the drop in CD/CPs. As you pointed out during this month the U.S. market has dried and so we were being forced to shift from CD/CPs to different type of funding and due to this you see an increasing repo and the consequent reduction and shifting from Interbank towards other activities.
Karl Guha
As far as the risk related asset, we have two relatively limited phenomenon in this quarter. On one side we have in Austria, an increase of the AAV, as a result of the movement in the Swiss franc. You know that we have a Swiss frank mortgage portfolio in Austria. So the evolution of the exchange rate has generated an increase of approximately €1 billion risk related asset in Austria.
In Italy, on the opposite side, we had instead the positive effect in a sense of reduction in the risk related assets coming from the extension on the former Capitalia Banks of the AMA approach on operational risk that is allowing an improvement also in the range of €1million.
Arturo De Frias – Evolution
Thank you very much.
Operator
The next question is from Anna Benassi of Banca Leonardo. Please go ahead.
Anna Benassi - Banca Leonardo
Good afternoon, a question on fiscal matters. The taxes were pretty high also this quarter. My question is if that includes some provisions, let's call it this way, on a potential bank levy on some of the countries. We have seen one of your competitors doing something like that on its Hungarian operations.
And what is your view for the rest of the year in terms of taxation, given the discussion from a lot of governments on how to get some money back from the banking system? My second question, you make a comment that tomorrow you will start negotiations with trade unions as far as the Italian reorganization is concerned. My understanding was that there should not be a lot of changes in terms of headcount because of this reorganization. But was more a project to do with the service to your customer and obviously a streamlining of operations at headquarter level. Is there anything you can say to us to help understanding what could be the overall income -- impact, sorry, in the medium term, on the cost side from these projects? The last question regards the cost of risk. If I understood correctly, you were saying that the decline we have seen in the second quarter, 122 bps, is not only a consequence of a progressive decline we have seen already over the past few quarters, but you expect that to continue in the coming quarters. Is that correct? I understood correctly? Thank you.
Marina Natale
On tax the 44.7% which is the group tax rate exercise-goodwill without taking to account which is not relevant for tax basis is mainly driven by Italy where we cannot take into account the loan loss provision while if we look at the other region we have say a validity of stock rate but all in the range say highest is (inaudible) with 36.8% in Central Eastern Europe we have approximately 22% asset management and 27% ex-interest so the main part of this input comes from Italy due to the year up component.
You are asking about new levies, no we are not embedding in the second quarter result any new levy as you know there are ongoing discussion in several country. The more advanced in this discussion is Hungary where we have also approximately an indication and we know that it might be almost 30 million.
Anna Benassi - Banca Leonardo
You said 20, or you said 30?
Marina Natale
Below 30 but still we need to refine this figures and also for Germany, UK, Greece, there is a discussion going but no decision taken and it's different for the time being to perform and analysis on this.
Alessandro Profumo
And in Germany and in U.K. will affect 2011 or 2010, while Hungary will affect 2010, from the other countries that will be next year. On the coming benefit of the organization, as we said, the key focus is on customer services and we have to say that also seeing the number in terms of customer satisfaction, we continue to go up by significantly even in July, both in retail and corporate, so we have a significant improvement and we are also gaining market share on the deposit side, thanks to this activity. Clearly as we have explained in the past, that we have a reorganization of the overall service model, for instance, we'll have more atomized branches and less branches with full service range.
We are delivering the network in order to become closer to the customer, so all this activities are also reducing the structure of the bank, we can assume the coming benefit in the range €300 million. Clearly not immediately because there is a phase in of the organization.
The cost of risk Karl will intervene.
Karl Guha
On the cost of risk, the 122 basis points, I think that's the average and so if you look at the picture it's actually varied and mixed. You asking for a bit of a forecast in terms of what we can expect and I think we are, I told you the expected loss numbers are definitely on the trend, that is an improving trend and we hope that, that will continue for the reminder of the year. We do not see any specific signs of that trend that will lead to deterioration at this point in time.
Anna Benassi - Banca Leonardo
Okay. So if it's what we have seen already in the second quarter means you see positive signs in Germany, a little bit less than Italy, maybe?
Karl Guha
Yes, as you know that, if you take a slightly granular approach and look at Germany, Germany -- the positive outcome on the back of the economic recovery will continue. I do expect Austria to be stable and improving. CEE, my colleague, Federico Ghizzoni already referred to that, that he does expect that to be. The worst is behind us, so hopefully we will continue that way.
Italy still remains challenging, particularly in the corporate book, if you look that the growth numbers in Italy, overall in terms of GDP, this has a very large impact in terms of, particularly in the very small and SME sectors of the economy and therefore the companies.
Anna Benassi - Banca Leonardo
Thank you.
Operator
The next question is from Domenico Vinci of Goldman Sachs, please go ahead.
Domenico Vinci - Goldman Sachs
Just two questions. One on costs. Excluding the organization benefit from next year, I remember after Q1, you said that basically your budget for the year was having costs flat and there having some loan expansion and revenue expansion. Now looking at the numbers clearly, the first half has been tough with flattish volumes. Revenue are up only 3% versus the second half even excluding trading but costs are still up 2%. So you think we should expect some recovery in the second half or a more aggressive strategy on cost?
Secondly, on provision, very clear, your message on expected losses improvement and the trends for the second half. Should we assume that anyway, despite the improvement in expected loss provisions remained high, as the bank will rebuild some of the coverage compared to pre-crisis level, both on NPL and watch lists?
And third point, more in general, clearly one of the concerns of the market on UniCredit and in general on the Italian banks is below peers profitability, even excluding the one-off this quarter. Clearly we're on low single digit ROE. It's very clear, the potential upside on the top line if rates move up and when provisions normalize.
But it seems these two things, that in the current market will not materialize any time soon. So, do you think that means the profitability will remain below peers for a relatively long period of time or you think there is some action that you have or some flexibility to improve this situation? Thanks a lot.
Alessandro Profumo
Before giving the floor to Paolo Fiorentino and to Rino Piazzolla in order to talk of the other cost and of HR cost, we have a view quite in line with what you were expression. So clearly the cost of risk for us in Italy is higher that our peer group and mainly in the corporate side. So we do expect that for a certain period of time with our European comparable peers we will remain below this target in terms of profitability.
Clearly we don't have the view that interest rates will go up in the short term and we don't have other areas having been incredibly conservative in terms of risk profile where we can have a significant profit coming from positions because as I said, we don't have carry trade and the market activity is only customer driven. What we are seeing on the very positive side that clearly the volatility is pretty low in terms of results because the net interest margin is quite solid and the commissions are quite solid as well.
So we are clearly on the trend that we want to be. So we are not disappointed by this number. So clearly we have to continue to work in order to leverage on the fact that the commercial activity is proceeding pretty well when we are seeing the sales activity. We continue to increase our market penetration for instance with CIB in Central Eastern Europe which also is quite important and we are sure that this activity will pay. Paolo for cost.
Paolo Fiorentino
Cost, Dom, we have a slight situation because if we look at the first quarter numbers we have custom for an increase of one 1% of yearly basis we have 0.5 and as Alessandro said before we have some cyclical costs as some initial cost. Quarter-on-quarter being the HR cost maybe flat, those cost are mainly the advertising and marketing cost in which we had vis-à-vis the first quarter 20 million more last and in the first quarter and those we have a one off impact on some legal expenses in the range of 12 million that was impacting the trend in the second quarter. So, generally speaking flat cost under control and as I said before cyclical cost.
On staff cost as you know Rino would like to add something but we have flat vis-à-vis the first quarter and inline with our expectation.
Rino Piazzolla
I think Paolo made the point so I don't need to add anything more.
Domenico Vinci - Goldman Sachs
Just one clarification, on costs, I was referring, basically of the total cost base for first quarter and second quarter compared to the previous year, but -- and we are slightly up. But last year, also in Q4, you had the benefit of the reversal of the variable compensation. So, if this is the trend you're happy with and you will not have this benefit in the second half of this year, so the cost line will end up higher than previous year. Is that correct, or I'm reading wrong?
Alessandro Profumo
Yes the cost line is expected to higher than previous year, you have to remember that last year we went down by 8%, year-on-year and as you can imagine is been quite a significant change. So, the fact that despite of the fact that we are starting to invest again in some area because clearly you have also to consider not to lose for intense brand recognition since the market is restarting to move positively and again considering the cut we had last year. We think that we are doing what we have to do.
Domenico Vinci - Goldman Sachs
That's clear. Thanks a lot.
Operator
The next question is from Anke Reingen of Execution. Please go ahead.
Anke Reingen – Execution
I have three follow-up questions. The first,
Alessandro Profumo
Sorry, sorry, can you speak louder because we don't anything.
Anke Reingen – Execution
Yes. Three questions please. The first is on asset quality again. Looking at slide 15, which you always pointed to was the connection between net addition rates and impaired loans and loan charges, I just wondered is there a certain element of seasonality that the addition rate in the first quarter is always slightly lower. So, the trend was not misleading, but it's -- there was a -- it is almost -- it was seasonally lower so we shouldn't get concerned that the addition rate increased again and read forward from it. Then also in terms of the coverage, could we -- your comments about asset quality, do they assume that the coverage could further come down or should it stay at the current level? Then secondly, on interbank funding, I'm not quite sure why I should not be concerned that your interbank funding has increased. I mean, you talked at the beginning of the year that, for the year you expect wholesale funding costs to be down versus 2009. Is this still the case? And lastly, on net interest income, in the CIB division, is most of the increase quarter-on-quarter due to market related revenues? Thank you.
Alessandro Profumo
So Karl will start with the comments on asset quality.
Karl Guha
With respect to your first question, which is the impaired loans and the growth finance is it seasonal patterns, no I wouldn't say this is seasonal patterns, but I think it's certainly affected as I said earlier by three specific cases. If you adjust with those specific cases, it's a fairly normalized trend, so not seasonality per say, but I think most of these things, we should not look at it on a quarter-to-quarter basis, because most of these are sort of through the cycle moves and the typical cycle is about seven year and three and a half are up and three and a half are down, so that's how you should look at it, seasonality is not really so much of an issue in the migrations.
In terms of the coverage ratio, the overall coverage ratio was deteriorated by roughly sort of 130 basis points. Again in this particular case there were three dominant factors I would say, the biggest chunk of it comes from CIB in Germany, it's about 62 basis points, it involves two single names, which have actually moved across for non-performing to performing, so there for releasing the provisions, which has had an impact on the level of provision, but it has also effected the coverage ratio.
This is the biggest mover in the overall -- so 62 is the net, but if you look at the gross impact, its 99 basis points and because of an internal evaluation adjustment, in terms of the ranging, in Bulgaria was 12 basis points and Kazakhstan is 23 basis points due to an increase. In the class we call In Cali. Where in general provision is of course lower, but this wasn't specific impact, so adjusted for this three specific things that have happened this quarter, in particular the movement from performing, sorry, from non-performing to performing, the coverage ratio is stable and in terms of going forward, we expect it to be stable.
Anke Reingen - Execution
Okay.
Marina Natale
So on interbank your question is, why we shouldn't be worried about the fact that the recent increase in net interbank. The point I made before is that if you look at the liability that we are not borrowing more in the market on the interbank market, so due to the fact that the Delta is minimum, while it's -- we have to recognize that for a certain period of time we, the U.S. money market, that was less accessible for all European, but also we face these market condition, in the mean while our situation of the role didn't deteriorate and we the group managed to answer with notable to our own funding needs. So I think that there are no single reasons of worry.
Alessandro Profumo
Those important to say that we repaid completely the small exposure we had with ECB.
Marina Natale
Yes we have not anymore in ECB, so on spot technical issue because we at the end of June there was a 4.5 billion of the refinancing operation and in July there outstanding has been close to zero.
Anke Reingen - Execution
Okay.
Karl Guha
In respect of CIB and net interest, the delta is around 63 million. 50 million are coming from normal commercial activity and the 13 million are due to trading related items. Then you have 44 million of dividends. The main part is coming from principal investment dividends.
Anke Reingen - Execution
Okay, thank you.
Operator
The next question is from Andrew Lim of Matrix. Please go ahead.
Andrew Lim - Matrix
Hi, there. It's Andrew Lim from Matrix. Regarding your net interest income, presumably there's some positive FX effects from the CEE region. Would you be able to quantify that and tell us what the net interest income would have been this year perhaps if FX hadn't been taken into account?
And secondly your loans at the group level have contracted again, 3% this quarter, and they've contracted consistently every quarter for the past two years. What's your strategy for growth at the group level and at what points can we see stabilization in your group loans and see growth there? Obviously, it's a concern of mine because contraction in the loan book would obviously put pressure on your net interest income.
Marina Natale
About the Forex et cetera on our NII, you're right, there is due to the development of the exchange rates and the contribution is in the north of 10 million which is a limited impact but relevant to the overall delta quarter-on-quarter.
Alessandro Profumo
The fee division overall is up by 38 million, 10 of which are related to Forex effect. 28 are due to the improved business. So it is a minority of that. It is also on loan. As we've said we went down in the corporate center by 8.8 billion and we went up in the business area by 3.7 billion. So overall it is a good number.
Clearly it's not over exiting but, and mainly the growth is coming from CEE where we have 2.7 billion and 1 billion is coming from, 1.1 billion is coming from CIB corporate investment. Retail is flat. So in terms of strategy I have to say that we still have a portion of our own book which is negative in terms AVA.
So not necessarily we go up in terms of AVA, in terms of total loan. What is important for us is to continue to improve revenues on risk related asset. So this is a key element. Clearly the market side is creating some volatility in that but it's the corporate division to have a revenue, risk related asset which is 3%, which for F&A is an excellent number due to two elements, improvement in terms of contribution on one side but also an improvement in terms of loan to risk related asset which are down to 75% while we are at 77 two quarters. So, this strategy is to be incredibly focused on contributional loan and to look for growth where there is a positive contribution for instance CIB in Italy is slightly up but so it is slightly down quarter-on-quarter 04 but when we do see the rating class one, two, three, four which are the best rating class for us we gain significantly market share in the market while we are rating in the classes improving significantly the overall contribution of the portfolio.
Giovanni Carriere - Autonomous Research
Okay. Thank you.
Operator
The next question is from Andrea Filtri of Mediobanca. Please go ahead.
Andrea Filtri - Mediobanca
Yes. Good evening. I have three questions, the first regarding provisions; the second on loan demand and the third, on Basel III. It's been quite clear from this call that you expect an improvement in provisions; my question was regarding the shape of it. And therefore in the past you've been used, after crisis, at having a sharp improvement of provisions due to write-backs. Is this going to be a scenario, in your view, or do you expect a milder improvement in provisions.
The second regarding loan demand, if you could comment on the dynamics that you have for new loans by segment and geography. Finally, on Basel III, the amendments that have been published recently seem to penalize, in the relative terms, safer banks and less levered banks. Do you think this could have a long-term impact on your strategy? I.e. I see an incentive from the regulator; they're taking a risk almost, if you can comment on that. Thank you.
Alessandro Profumo
Sure, before leaving the floor to colleagues of the business side in order to comment on loan demand, we don't expect a sharp improvement in the provisioning level because as we have seen a huge portion of cost of risk is related to medium and small corporate in Italy where clearly the level of write-backs is expected to be lower than the one we have seen in previous cycles.
In previous cycles mainly in Italy to which you are referring to there were large corporation with significant difficulties. So, we remember (inaudible), now the case is completely different.
As we have seen in Germany and this is a reason why we had also the reduction in the coverage ration, in Germany we had write-backs and also position which went back to performing so we have creating this change in the coverage ratio. So, we do expect that we can have a sense in the some good improvement and you remember the quite good quality in CIB in the first and the second quarter in Germany due to write-backs but again is a mix factor.
In Central Eastern Europe we have some countries and write-backs because but is something which is clearly and the negotiation today. Since also the judiciary system is less strong than what we have seen Western Europe for the time being we have seen in Western Europe for the time being we have provisions and we will hopefully have the write-backs.
Now I give the floor to Roberto and Sergio Ermotti in order to comment on there own demand.
Roberto Nicastro
Yup, we are starting to see some increase in there own demand and this is the first quarter of the last seven I would say, where we have seen a slight but positive increase in the stock of retail loans, as a result of different trends, just speaking in mortgage we have seen everywhere a good growth.
It's has been a especially good as a quarter in Italy where the 1.3 billion of new flows of mortgage which is by far the highest quarter of the last two years and still which is quiet relevant with good customer spread and since this new loans have been booked at 1.4%.
Also what we have seen in terms of demand in this week, still points toward a buoyant -- or clear buoyant recovery. Also in Germany, for the fist time we have seen a little bit of growth in new flows of mortgage. In consumer finance, we have seen growth mainly in Italy and in Poland, in Poland especially we had quiet a good second quarter.
In Italy we have now 10% market share in new flows that has helped us to become the number two player in terms of new consumer loan flows. Instead we have not seen yet very strong -- very positive dynamics, since more business. Where the notable exceptional Poland, that also had very good second quarter reasonable business growth. I would say that in Italy, also in Germany, the demand remains not so exiting.
Sergio Ermotti
Okay, for Central-Eastern Europe we have seen a good dynamic in the second quarter, the over all increase in terms of loans at constant rate is 2.7%. With some of the kick outers for us particularly positive. Turkeys growing quarter-over-quarter more than 10%, Russia close to 5, Romania, same, also Hungary and so forth. So all countries, except Kazakhstan and Ukraine, it has lightly decreased quarter-on-quarter all the other countries are increasing, mostly corporate business.
The only country where we see retail picking up is in Turkey. Turkey, both in small business and individuals are growing. So the trend that seems to be overall positive, the first quarter we see an increase, a real increase.
For CIB I think that as reported before, there is a net increase of around 1 billion is basically all due to Germany. When looking at the rest of the countries in Western Europe, I would say the demand is still fragile both in terms of volume and quality, still high rating class of clients are piling up other cash than making investments. So I would say that overall there is a one off, I would development in the quarter in Germany but its too early to say if this is likely to continue or not.
Alessandro Profumo
Yeah. Talking of Basel III, I have a slightly different view than the one you have in the sense that as we know the investment banks will be affected by CIB. So the new directives, while the decision has been taken by the Basel committee which is in my opinion a very decision is based on the consultation process they had and as you know there has been a significant change from the starting point of the consolidation process because in reality the mistake has been the fact that somebody took the very open framework which was presented by the Basel committee as the base while clearly the Basel committee sent out an open framework saying now we will stat with the consultation process and with the quantitative impact study in order to define a first level of calibration.
And now they have the first level of calibration and they have significantly reduced the impact on financial holdings and the fair tax asset which is quite a good news for many different banks, mainly, clearly the fair tax asset are important as well, not only for the Italian banks, since as you know we cannot deduct the provisions from the current reserve. So in other words we pay taxes on provisions and we recover in 18 years for the 70%.
So I think that this will not change our risk appetite on the contrary. The board, incase they find the risk appetite, so clearly there is, on this area; we are pretty conservative as we said before. In the meanwhile there will be further calibration by the Basel committee. So I think that at the end the outcome is positive.
It is also good that they have decided to study furthermore the net stable funding ratio because they way the previous fund was built was creating some not understandable effect. For instance other banks should be forced to fund a piece of short term loan with medium long term funding, which is a reverse maturity transformation. But at the end I think that the work then by the Basel committee has been quite good.
Andrea Filtri - Mediobanca
Thank you.
Operator
The next question is from Matteo Ghilotti of Equita. Please go ahead.
Matteo Ghilotti - Equita
Good afternoon. Just a couple of quick questions. The first one is on the rising EURIBOR and the possible positive impact on NII. Is it fair to say that we should start to see a positive impact in the fourth quarter of this year? And the second question is on Pioneer, if you can give us an update on the disposal process. Thank you.
Marina Natale
We have seen a slight improvement over the three months in the last days. But for sure the impact and the benefit on our profit and loss will not come shortly and say you probably stated not before the fourth quarter 2010.
Alessandro Profumo
On Pioneer the process is moving forward as we said we have a strategic review with the advisors clearly in the meanwhile despite of the fact that we have not started “external process”. We have received a good number of interest manifestations, so in September we will move forward in more operational perspective.
Matteo Ghilotti - Equita
Thank you.
Operator
The next question is from Arturo De Frias of Evolution. Please go ahead.
Arturo De Frias - Evolution
Yes. Hi. Good afternoon, everybody. My question has been partially asked before, but my question is what has been in previous quarters to earnings returns, the lower returns that we are seeing, and how quickly we can get out of them.
But I would like to focus the question, looking at the period -- the length of the period in which UniCredit seems to be showing substantially below returns -- or returns substantially below the main peers
ROEs and returns on risk-weighted assets remain very, very low, even if we exclude the goodwill amortization, return on risk-weighted assets is 0.1%, which is a fraction of the average. The same with ROE, it's very low, single-digit. Obviously, this is also in line with your own economic value-added figures, which have been negative for already two years, once again from a different angle, showing that for a long period of time, you are not much in the cost of equity. So I mean, we all know the impact from very low interest rates and we know that that's very negative for your business, that's a fact of life.
But my question would be, given that it's already nearly two years where these returns have been so low, don't you think -- don't you have the impression, and this is -- what I'm looking for from you is more of a philosophical answer rather than a specific and numerical answer.
Don't you think that UniCredit is suffering much more or for much longer the impact from the low interest rates period? I mean, if I look at most of your competitors, they have struggled, obviously forgetting the ones that lost their shares with subprime, etc., most of your banks, most of the banks that are comparable to you, they have struggled for one quarter, for two quarters, for three quarters and then they have recovered very decent levels of profitability, et cetera but still stay well, well below and will stay well below for quite a long time. So obviously this is not only a low interest rate case. I think it has more to do with your business model, with the split of foreign trade.
So, don't you think that the period in which returns are very low is starting to get a bit too long and what would you change, what do you think you have to change in your group to make sure that this trend is not going to continue in coming cycles?
You answered it to the previous question that you wanted to grow in CEE. But obviously given the size of your bank, growing in CEE and increasing the risk profile cannot be the only answer to improve returns. So, what do you think you need to change in your group to improve returns going forward? Thank you.
Alessandro Profumo
First of all I do agree with a piece of your question and I strongly disagree with another piece of your question. So starting from the piece I do agree, it is clear that we do have a lower return on assets and a return on equity than our peers have shared before. This is partially due to the business model which I don't think that we have to change because for instance, the fact that we have a strong franchise, in order to have relation with the customer is in opinion a key strength as Roberto has partially presented in the annex and the numbers is showing we are dramatically changing the service model to the customers because if you do see the numbers of transaction, we are moving from desk to other channels, the number we have closed in Italy, we have closed more than 600 branches in one year and half.
The number of branches we have redesigned closing down the cash services and so on, we are dramatically changing the service model so in this perspective there is a huge change of business model, but clearly this will require time in order to play and mainly different interest rate environment.
For many other banks, when we are seeing the numbers, so is there not performing better than us, in terms of revenues. They are performing better than us in terms of cost of risk because this is something that we cannot change, we have to be very open and honest, we enter in the crisis with deals that have enlarged our long portfolio and were not -- have been heavily affected by the cycle in the crisis, so we are managing this element, but when we are seeing performance in terms of commercial activity, we are doing quiet well, so what I disagree that is the fact that we have to change the business model, in the since that I am fully convinced that to be a strong commercial bank, with strong knowledge of our customer base, both on retail and on corporate side, with the CIB structure that many players who are showing number better than us are replicating as you were saying, so I'm fully convinced that this part of the business model is quite good.
We have to continue to work on the cost side as we are working and attracted to. This we can -- we have done as a migration of the IT platform in Germany for insurance which is quite important in terms of other integration and cost reduction.
So we have to continue to work on that and we have to change significantly as I said before the service model to the customer. One 4C, and the design of the network -- the branch model Roberto is realizing in all the countries I think is quite important.
I don't see major changes in terms of geographies or weight of the different strategic business areas. We think that as we said we have to increase the capital allocated to Central Eastern Europe, is a short term exercise, no its not but as we have seen also from the cost of equity, which went down more than for the other players is quite an important effect, also because the market is appreciating this clear trend of the risking of the bank.
Sorry, if you do see the total securities portfolio, some of our competitors, clearly they have a significant position in bonds. We have done a mistake, not in taking this imposition maybe but this is a decision we have taken in the past due to the view at the time on interest rates and also because we have to remember two years ago all of you, less than two years to be honest. All of you were pressing us in order to the risk and unfortunately maybe we are not flexible enough because we tend to be very consistent. And we have the risk, the balance sheet.
So overall I do agree with you that we have a return which is a lower than our competitors mainly due to the cost of risk as I said before. In terms of change of business model we are mainly focused on redesigning the retail networks and in leveraging on CIB across the board. We are sure that this strategy will pay and that we will be again during the time performing in line with our peers.
Arturo De Frias - Evolution
Can I ask you a small follow-on question?
Alessandro Profumo
Sure.
Arturo De Frias - Evolution
Given that -- I guess that as every CEO or every Board of Directors, UniCredit targets to exceed, not only much but I guess substantially exceed the cost of equity on average across the cycle. After having generated very low ROEs for a couple of years and maybe slightly more, in order to catch up with that, in order to generate average returns across the cycle of substantially more than 10%, I would say, you will need at some point in the next two to four years to generate ROEs that should be around 20% because if not, the average will not match the cost of equity across the cycle. Do you think -- you said that you're happy with your current business model. Do you think that your kind of business model is capable of generating ROEs of 20% in two to four years' time?
Alessandro Profumo
First of all if you are talking about return on tangible equity, the story you talk of return on equities and other story because if you talk of return on tangible equity I think that in the medium term we can be not too far from that. Clearly, the tax rate is affecting us quite a lot because you have to consider also this element but again on tangible equity that in the medium then close more to the four year than the two years that I am seeing that is conceivable.
Arturo De Frias - Evolution
But not on reported equity?
Alessandro Profumo
No for sure, I think somebody with any business model would say to you that we levy it on an aggregate of 20%; personally I will never invest in this bank.
Arturo De Frias - Evolution
Okay. Thank you.
Operator
The next question is from Carlos Garcia of Banco Santander. Please go ahead.
Carlos Garcia - Banco Santander
Yes. Good afternoon. Apologies, because before I had some technical problems. It's a very simple question. On the trading line, what could we expect in the third quarter? Or said it differently, how much of the negative effects will be automatically reversed next quarter by the performance of the markets? We could see a substantially much higher level of trading profits that we show in the first quarter for example.
Alessandro Profumo
Well, the question is rather difficult to respond, if you just look at the volatility we had in the first six months of the year, month by month. One should be very careful about making projections. One thing is pretty clear is that June was already well above average compared to April and May and July it's also giving a strong sign of recovery.
Clearly not in line with the first quarter or the last quarter of last year, but more solid and more stable environment. So -- but again, it's only one month out of three and it's too early to judge and we are also entering a -- into seasonality that's usually not very exciting, having said that, last year was a pretty good quarter, the third quarter. But difficult to predict.
Carlos Garcia - Banco Santander
Okay. Thank you.
Operator
The next question is from Andrea Vercellone of Credit Suisse. Please go ahead.
Andrea Vercellone - Credit Suisse
Good afternoon. I actually had the same question that was just asked and then another one. I'm going to formulate it differently though. Is it possible to isolate from the trading income that you booked in Q2 the impact of two items? The first one is the negative mark-to-market on the Italian government bonds that you hold in your trading portfolio? And the second one is the amount of extraordinary impact, I understand, was in the Corporate Center and it wasn't clear to me what that related to.
The second question is just if you could give us a breakdown. I know you don't usually provide it, but it would be extremely helpful to give some clarity on the 230 basis points cost of risk in the Italian corporate book, which was actually higher than what you booked in 2009 which I think it was 199 basis points. Is it possible to have the split of write-backs and provisions?
Because that would allow us at least to make some sensible estimates on the basis of your comments that write-backs are probably not going to be particularly exciting going forward? But at the same time, at least you're not seeing any more additional deterioration in the probability default on the Italian loan book? Thank you very much.
Marina Natale
On let me start it from the, you just point which is one related the impact and the trading income line about corporate center. The reasons they were up quarter-on-quarter of 145 million mainly due to two elements, one is the core spread on our shares which is derivative and does have an impact on mark-to-market and amounted to 45 million drop and there is also an impact due to the fact while in the first quarter we managed to buy back our own bonds realizing almost 100 million of positive impact in the second quarter the amount was only 25 million and the result is there is a drop approximately of 65 million.
So, these two elements combined plus within in this contributed this change delta of 145 million in the Corporate Center while about mark-to-market.
Federico Ghizzoni
Well actually the performance in markets was mainly reflected in the slow down in acreages. If you look at rates and credits trading first of all was a positive result and for sure also due to the fact that in those books we have very, very a short duration and I think that the reasonable elements of negative and mark-to-market affecting the overall result. So, but it is rather a slow down so clearly still positive numbers but lower quarter-on-quarter.
Andrea Vercellone - Credit Suisse
Okay. Thank you.
Operator
The next question is from Marco Troiano of Standard and Poor's. Please go ahead.
Marco Troiano - Standard and Poor's
Hi. Good afternoon. I have a couple of questions to address. One is actually on the mortgage production…
Alessandro Profumo
We don't hear anything, sorry.
Marco Troiano - Standard and Poor's
Can you hear me?
Alessandro Profumo
Yeah just now but you have to speak loudly. Okay, thanks now it's perfect.
Marco Troiano - Standard and Poor's
Okay. I have -- I'm looking at slide 28, at your mortgage front book in Italy. I was just wondering, can you share what are the competitive dynamics behind the decline of the spread in the past three or four quarters and what is the level that you see going forward for in terms of commercial spread that would be my first one.
And then I just wanted an update on your leveraged buy-out portfolios and how big they are right now and whether they are still performing as they were three or four quarters ago? I'm missing a slide that I used to see in your presentations in the past.
And finally, I don't know whether Mr. Ermotti can help me with this, but has there been a significant employee turnover in the markets division? That's more out of curiosity, really. Thank you.
Alessandro Profumo
Yeah. As far as the spread, what you see here is an index number. It's not that its, what you have in the second quarter of '10 is 83% of the average commercial spread you had 12 months ago. Its not 83 at point. In reality the precise number being 136 bps. The driver of this is simply the fact that as you can see in the same slide, a very, very significant increase in volume, no. you have new production that in this moment is 3.5 times what you had effective for instance in the third quarter of '09 when you had the peak in terms of value, new mortgage production. Quite clearly the situation is quite different from what it was 9 - 10 months ago. Finding costs are now lower. Also outlook in terms of cost of risk is better. So we decided to be once again more aggressive reentering the mortgage market and we are happy to now book mortgages at a 136 basis point of average commercial spread to which we can add the revenues arising from the sale of the CPI insurance products on the mortgage, the cross selling with the current account to produce right now an overall positive spread and positive AVA, something that we did not have despite the better commercial spread only 12 months ago when the fund cost for each new mortgage were such that each new mortgage was effectively booked with a negative interest margin. So now with now improvement market condition we are quite happy to be more aggressive in terms of volumes and in terms of pricing.
Yeah, in terms of LBO portfolio, the size is basically the same as ported in the past and you remember that it was only a couple of positions that were fairly large in respect of the portfolio, Alliance Boots and Valentino. Valentino has been restructured and successfully. So we feel pretty comfortable about -- that position has been widely reported by media and also in analyst circle and Alliance Boots is also performing extremely well.
Therefore the rest of the portfolio is spread around 150 different positions. So it's absolutely, we feel absolutely comfortable and you saw also in the credit, the cost of credit reflected under the German segment we had write backs. So I think this is an issue that is closed in terms of a risk and a pension but of course our colleagues in IR are more than happy to give you any details if you need it.
Then you had a second question but it was not clear. Sorry.
Marco Troiano - Standard and Poor's
Yes. I was basically wondering whether you could share, maybe the last three or four quarters, if you have been -- regarding employee turnover in the market business, which is now part of CIB. It's a very detailed question, if you have it?
Alessandro Profumo
No, I would say that clearly the slowdown in revenues is reflecting the risk aversion across the board by our retail and private clients and the situation of the clients. So, the employees, sorry, I have missed that we have a little bit turnover; I think that we lost some people; we have been able to recruit back some people. It is clear that the competition for people is still quite high difficult to understand also given the dynamics in the market but the good news is that yes we have been losing some people but we are also able to attract and return other people.
So, overall the situation is under control.
Marco Troiano - Standard and Poor's
Thank you very much.
Alessandro Profumo – UniCredit
And now I ask Federico Ghizzoni on Corporate, Italy and cost of risk.
Federico Ghizzoni
There was a gentlemen for CS who asked the question about cost of risk Corporate Italy, Corporate Italy of the CIB division overall provision of 805 million for the quarter. Italy accounts for roughly 606 million in this actual write back component for chip overall is 986 almost a 1 billion. In Italy this number is very, very limited.
Operator
The next question is from Pier Luigi Passerone of Intermonte. Please go ahead.
Pier Luigi Passerone - Intermonte
Hey. Good afternoon. Three very quick questions, the first one is on AII, if you can please quantify what has been the calendar effect? I understand properly, compared to first quarter there have been a couple of days more. Second question, on costs. If I'm not wrong, you gave not really guidance, but a hint at the beginning of the year about how costs were actually going to develop in 2010. If I'm not wrong, it was around 2%. So, net of Forex, we are seeing costs up 1%. So, my question is, did you actually take some action in order to contain costs and that guidance provided at the beginning of the year is somehow too conservative at this stage.
My last question is on available for sale. Specifically, on what the Bank of Italy introduced if I am not wrong a month ago. Actually Bank of Italy allowed banks to opt for basically a freezing of government bonds, accounted as available for sale. So, if you can, please specify which is your situation on such an issue. Thank you.
Marina Natale
On contribution of one calendar day is approximately the north of 30 million and is one day you were asking the second question was in addition of FX, I think Paulo has already pointed out let's the option we are undertaking in order to be able to keep under control the cost and developments in the second half of the year and I think there is nothing to be at there and about a service of Bank of Italy is not freezing. Bank of Italy we as, the Bank of Italy regulation used to have a filter not applied in all the other European countries and so I we have been allowed to take out this filter and to have the deduction of the FX f approximately 400 million from – starting from the second quarter, 2010 so it's a positive impact but which was due to a more prudent regulation of Bank of Italy versus ours not on the capital on our capital base.
Pier Luigi Passerone - Intermonte
Am I understanding properly, you're saying that your equity has been boosted in the second quarter by around 400 million thanks to this new rule?
Alessandro Profumo
The capital yes but you have to consider that these so our 9 bps if I am remember correctly.
Marina Natale
Yes the regulatory capital not the…
Alessandro Profumo
The regulatory capital not the capital, the regulatory capital and in these way we are aligned, sorry, we are partially aligned because this is a pride only to you only to new government bonds to what is applied in our nine other countries out of 17 in the euro area. So, France, Germany, UK is not in the euro area. We are already applying this rule.
This is very, very important because it's not a matter of gaining sense; it is a matter of aligned to the others. This is a key element.
Pier Luigi Passerone - Intermonte
Thank you very much.
Operator
There are no more questions registered.
Alessandro Profumo
Since there are no more questions I thank all of you for the one who will go on holiday, have a good vacation period and we will talk again 12th of November if I remember correctly for the third quarter results. So, let me check exactly the date, it's in the range of 12th of November. So, many thanks and yes exactly, the 9th of November. So, good, thanks a lot. Bye.
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