Nationwide Ccds Regulatory News (NBS)

Interim Results

 for the period ended 30 September 2020

Contents

Introduction

Unless otherwise stated, the income statement analysis compares the period from 5 April 2020 to 30 September 2020 to the corresponding six months of 2019 and balance sheet analysis compares the position at 30 September 2020 to the position at 4 April 2020.

Underlying profit

Profit before tax shown on a statutory and underlying basis is set out on page 11. Statutory profit before tax of £361 million has been adjusted to derive an underlying profit before tax of £305 million. The purpose of this measure is to reflect management's view of the Group's underlying performance and to assist with like for like comparisons of performance across periods. Underlying profit is not designed to measure sustainable levels of profitability as that potentially requires exclusion of non-recurring items even though they are closely related to (or even a direct consequence of) the Group's core business activities.

Forward-looking statements

Certain statements in this document are forward-looking with respect to plans, goals and expectations relating to the future financial position, business performance and results of Nationwide. Although Nationwide believes that the expectations reflected in these forward-looking statements are reasonable, Nationwide can give no assurance that these expectations will prove to be an accurate reflection of actual results. By their nature, all forward-looking statements involve risk and uncertainty because they relate to future events and circumstances that are beyond the control of Nationwide including, amongst other things, UK domestic and global economic and business conditions, market related risks such as fluctuation in interest rates and exchange rates, inflation/deflation, the impact of competition, changes in customer preferences, risks concerning borrower credit quality, delays in implementing proposals, the timing, impact and other uncertainties of future acquisitions or other combinations within relevant industries, the policies and actions of regulatory authorities, the impact of tax or other legislation and other regulations in the jurisdictions in which Nationwide operates. The economic outlook also remains unusually uncertain due to Brexit and the impacts of Covid-19. As a result, Nationwide's actual future financial condition, business performance and results may differ materially from the plans, goals and expectations expressed or implied in these forward-looking statements. Due to such risks and uncertainties Nationwide cautions readers not to place undue reliance on such forward-looking statements.

Nationwide undertakes no obligation to update any forward-looking statements whether as a result of new information, future events or otherwise.

This document does not constitute or form part of an offer of securities for sale in the United States. Securities may not be offered or sold in the United States absent registration or an exemption from registration. Any public offering to be made in the United States will be made by means of a prospectus that may be obtained from Nationwide and will contain detailed information about Nationwide and management as well as financial statements.

Joe Garner, Chief Executive, Nationwide Building Society, said: 

"As a mutual building society guided by a social purpose, our focus is helping and supporting our members, our people and our communities. Our strong financial position, bolstered by our long-term commitment to the mortgage market, has enabled us to stand by our members and colleagues during this difficult and uncertain time. To that end, we've provided 246,000 mortgage payment holidays, frozen repossessions and offered interest-free overdrafts. We've also spoken to a quarter of a million members about their individual circumstances since March.

"Despite the operational challenges presented by the pandemic, we've supported members who were able to buy or move home, as home ownership is so important in the social and economic fabric of society. We continued to lend responsibly and at competitive rates as we came out of lockdown and were one of the few lenders to offer higher loan to value loans for first time buyers. We continued to provide a full range of services to our members and, despite the challenges of Covid-19, we were able to consolidate on our existing strengths in current accounts, deposits and mortgages.

"Our high streets need support more than ever and so we have recently extended our branch promise to keep a branch in all the towns and cities we are in today until at least 2023. This helps preserve access to services, as well as a sense of community and the vital human connections that are so important just now.

"Looking back on the last six months I feel tremendous gratitude and appreciation for our people who have worked so hard to deliver these results, and to our members for their loyalty and understanding. I am also pleased that these efforts were again recognised by Which? who awarded Nationwide the Banking Brand of the Year 2020. Set against the backdrop of a stable profit performance year on year, I am very much encouraged by our ability to continue to stand by our members at this important time."

Chris Rhodes, Chief Financial Officer, Nationwide Building Society, said:

"We always take a conservative approach to managing our business and you can see this clearly in today's results. Our capital base remains strong, with a CET1 ratio of 34.5% (4 April 2020: 31.9%) and a UK leverage ratio of 5.0% (4 April 2020: 4.7%).

"Whilst the Society's performance has clearly been impacted by the pandemic, it is pleasing to see the benefits of our conservative approach feed through into the results for the half year. Our margin has stabilised, costs have reduced and profit is stable compared to the same period last year, despite a rise in impairment charges associated with the pandemic and the current uncertain economic outlook.

"After protecting savers with average deposit rates that were higher than the market average for some years, we knew this would not be sustainable when bank base rate fell to its lowest ever rate. Our decision to reduce savings rates meant our member financial benefit reduced to £140m (H1 2019: £375m).

"The Society's balance sheet remains very strong, with liquidity and capital ratios well in excess of regulatory requirements."

Headlines

· Supported homebuyers, particularly first time buyers, with responsible lending and higher loan to value mortgages for lower risk first time buyers

· In line with the industry, accepted 246,000 mortgage payment holidays and granted 91,000 payment breaks or interest-free periods on loans, credit cards and overdrafts

· Which? Banking Brand of the Year 2020 - awarded for 4th year running, no. 2 in all-sector UK Customer Satisfaction Index1 and no.1 for customer satisfaction among our peer group2

· Backing our high streets and communities with branch promise until 2023

Numbers at a glance

Financial highlights

· Underlying profit steady at £305m (H1 2019: £307m), with stable income and margin and statutory profit increased to £361m (H1 2019/20: £309m)

· Well capitalised with CET1 ratio of 34.5% (4 April 2020: 31.9%) and UK leverage ratio of 5.0% (4 April 2020: 4.7%)

· Managed costs down by £92m to £1,033m (H1 2019: £1,125m)

· Set aside £139m (H1 2019: £57m) for loans that may not be repaid, although arrears remain low

· Member financial benefit of £140m (H1 2019: £375m3) tracking below our £400m minimum year end target, mainly reflecting lower savings rates

Trading highlights

· Net lending of £1.6bn (H1 2019: £3.0bn) and gross lending of £12.7bn (H1 2019: £16.3bn), supported by demand for buy to let mortgages

· Deposits up £1.3bn (H1 2019: £2.5bn) with members holding more in current accounts

· Opened 256,000 new current accounts (H1 2019: 391,000), maintaining our stock market share at 10.1% (February 2020: 10.0%) of all current accounts, with fewer accounts opened as a result of lockdown4

· 3.55m 'committed members' (4 April 2020: 3.52m5); those with 2+ products

· Customer satisfaction lead of 3.4%pts2, slightly below 4.0%pts target

Our four key priorities in the last six months

Priority 1: Easing our members' money worries and protecting their homes

We accepted 246,000 payment holidays on mortgages and granted 91,000 payment breaks or interest-free periods on loans, credit cards and overdrafts. We also pledged that, until the end of May 2021, no mortgage member will lose their home as a result of Covid-19 if they work with us to get their finances back on track - and are encouraging buy to let customers to pass on payment breaks to tenants.

Priority 2: Lending responsibly to homebuyers, to support the housing market

We continued to lend to help people buy or move home, where they can afford to. We are one of the few lenders to support first time buyers with 90% loan to value (LTV) mortgages, lending responsibly to lower risk homebuyers. We helped 21,000 first time home-owners buy their own home (H1 2019: 33,500), one in six of all first time buyers, despite inactivity during lockdown.

Priority 3: Promoting the wellbeing of our colleagues and communities

Our colleagues and communities have the same fears for the future as our members. We have supported colleagues with a job security promise for 2020, and offered wellbeing support and the chance to develop new skills as we reorganised to cope with Covid-19 restrictions. We have supported communities by giving charities a free hand on how to spend £10m of community funding, and we are backing high streets by promising to keep a branch in every town or city we are in currently until at least 2023.

Priority 4: Keeping our Society and our members' money safe

We can only help our members through the economic shock of the pandemic if we are financially strong ourselves. We have a low-risk business model and manage our finances conservatively and, as a result, our profits are steady, underpinned by stable income, a strong balance sheet, and a substantial liquidity and capital cushion.

1 Institute of Customer Service UK Customer Satisfaction Index (UKCSI) as at July 2020.

2 © Ipsos MORI 2020, Financial Research Survey (FRS), 12 months ending 30 September 2020. c.49,000 adults (aged 16+) surveyed across Great Britain from a total representative sample of c.54,000 adults (aged 16+) per annum. Interviews were conducted face to face, telephone and online, and weighted to reflect the overall profile of the adult population. Proportion of extremely/very satisfied customers minus proportion of extremely/very/fairly dissatisfied customers summed across main current account, mortgage and savings. Peer group defined as providers with main current account market share >3.5% as of April 2020 (Barclays, Halifax, HSBC, Lloyds Bank, NatWest, Santander and TSB).

3 Member financial benefit represents the value we deliver to members through better interest rates, fees and incentives than the market average. The comparative has been restated. More information is given on page 11.

4 eBenchmarkers (April - September 2020 and April - September 2019). CACI's CSDB (August 2020 and February 2020).

5 The comparative for committed members has been restated to reflect improved data quality since originally reported.

Financial Summary

Notes:

i. Underlying profit represents management's view of underlying performance. In order to provide a more meaningful presentation of performance the following items are excluded from statutory profit to arrive at underlying profit:

· FSCS costs arising from institutional failures.

· Gains or losses from derivatives and hedge accounting.

ii. Member deposits include current account credit balances.

iii. The CET1 ratio has been calculated under CRD IV on an end point basis.

iv. The UK leverage ratio is shown on the basis of measurement announced by the Prudential Regulation Authority (PRA) and excludes eligible central bank reserves from the leverage exposure.

v. The Capital Requirements Regulation (CRR) leverage ratio is calculated using the CRR definition of Tier 1 for the capital amount and the Delegated Act definition of the exposure measure and is reported on an end point basis. The difference between the Capital Requirements Regulation (CRR) leverage ratio and the UK leverage ratio is driven by the exclusion of qualifying central bank claims from the UK leverage exposure measure as per the PRA Rulebook.

vi. The wholesale funding ratio includes all balance sheet sources of funding (including securitisations).

Chief Executive's review

Easing our members' money worries and protecting their homes

We aim to build a thriving membership by helping our millions of members manage and make more of their money. When the economic impacts of Covid-19 quickly became apparent in March, putting many people's jobs and incomes at risk, we offered members a range of support.

Our Home Support Package helped our mortgage members weather short- and medium-term financial strains. Like other providers, we have offered mortgage payment holidays, accepting 246,000 applications since March. As a mutual, we have gone further, pledging that at least until the end of May 2021 no mortgage member will lose their home as a result of Covid-19, as long as they work with us to manage their money. We are also encouraging buy to let customers to pass on payment breaks to tenants and funding more advisors for our long-term charity partner Shelter. Our specialist team who help members through financial hardship have spoken to over 250,000 members about their individual circumstances since March.

Over the last few very difficult months, being able to talk to us in branches and over the phone has been really important to members. We kept 90% of our branches open throughout the first lockdown and have renewed our pledge to keep a branch in every town or city we are in currently until 2023. When our call centres were at full stretch we diverted calls to branches, and branch colleagues have answered over 100,000 calls from members every month since March. Social distancing measures also proved a catalyst for many members to try our mobile services for the first time, with 6% growth in active mobile users in the last six months. At the same time, members need to know that their money is safe with us, which is why we continually review and enhance our fraud defences to protect members against rising levels of fraud. Our branch colleagues also play a vital role in preventing incidents of fraud while raising awareness among members to be vigilant.

Our goal is to serve our members better every day, and to deliver legendary service. It is a tribute to the hard work of all my colleagues that as well as being no. 2 in the all-sector UK Customer Satisfaction Index6, we were named Which? Banking Brand of the Year 2020 - awarded for the fourth year running, with special mention for our flexibility during lockdown.

We were also no. 1 for customer satisfaction again among our peer group, with a lead of 3.4%pts7, although this was slightly below our target of 4%pts.

The value of having a savings 'safety net' became really clear during the pandemic and we temporarily waived fees on limited access savings accounts, so that members could use their savings freely if they needed to. Sadly, however, we couldn't protect savers any longer from the cut in the bank base rate to the lowest ever rate in the Bank of England's 325 year history and took the decision to reduce our savings rates. As a result, we saw our member financial benefit reduce to £140 million (H1 2019: £375 million8). Despite the challenge of market-leading rates from NS&I, higher balances in current accounts meant that member deposits were actually £1.3 billion higher than last year, although our share of deposit balances dipped slightly to 9.3%.

We aim to offer our savers the best rates we can afford but will always be limited by prevailing interest rates. We take seriously our role of encouraging a strong savings culture in the UK, and in the face of low interest rates we continue to look for new ways to reward members and encourage saving. Recently, for example, we've introduced our Start to Save proposition, ISA prize draws and a Mutual Reward Bond which combined a competitive fixed rate with the chance to win £10,000.

Fewer people wanted to open a new current account or switch their existing account during the last six months. Of those who opened a new account, one in seven chose Nationwide (H1 2019: one in seven). We continue to have a strong active student and youth account stock share of 16.4% (March 2020: 15.5%), with one in seven students opening an account in the period choosing Nationwide (H1 2019: one in ten)9.

Having reached our goal of achieving a 10% share of current accounts last year, we decided to pause our switching incentives and focus firmly on supporting our existing members during the pandemic, over actively seeking new ones10. While the number of people switching current accounts fell, we still attracted 12.5% of switchers (H1 2019: 18.7%), above our natural share but lower than last year11.

6 Institute of Customer Service UK Customer Satisfaction Index (UKCSI) as at July 2020.

7 © Ipsos MORI 2020, Financial Research Survey (FRS), 12 months ending 30 September 2020 and 12 months ending 31 March 2020. c.49,000 adults (aged 16+) surveyed across Great Britain from a total representative sample of c.54,000 adults (aged 16+) per annum. Interviews were conducted face to face, telephone and online, and weighted to reflect the overall profile of the adult population. Proportion of extremely/very satisfied customers minus proportion of extremely/very/fairly dissatisfied customers summed across main current account, mortgage and savings. Peer group defined as providers with main current account market share >3.5% as of April 2020 (Barclays, Halifax, HSBC, Lloyds Bank, NatWest, Santander and TSB).

8 Member financial benefit represents the value we deliver to members through better interest rates, fees and incentives than the market average. The comparative has been restated. More information is given on page 11.

9 eBenchmarkers (April-September 2020 and April-September 2019), CACI's CSDB and Nationwide internal calculation (August 2020 and February 2020).

10 CACI's CSDB (February 2020).

11 Pay.UK monthly CASS data (April-September 2020 and April-September 2019).

Chief Executive's review (continued)

Lending responsibly to homebuyers, to support the housing market

If we ever needed a reminder of the importance of our homes to our wellbeing, we found it in lockdown. As the UK's second-largest mortgage lender we wanted to continue to support homebuyers once we came out of lockdown in June, at which time we saw a bounce back in demand.

We helped 21,000 first time home-owners buy their own home (H1 2019: 33,500), one in six of all first time buyers, despite inactivity during lockdown. We were one of the few lenders to carry on supporting first time homebuyers with 90% LTV mortgages while strengthening our lending rules to manage the risks for borrowers and the Society.

Our total gross mortgage lending was £12.7 billion in the first half of the year (H1 2019: £16.3 billion), lower than last year but a strong result in view of the disruption caused by the pandemic. Our market share of net lending was 5.2% (H1 2019: 9.6%), reflecting the competitive market. Lending to landlords through our buy to let specialist brand, The Mortgage Works, was strong as we remained open for business for high quality buy to let borrowers.

Looking ahead, as and when government support winds down, it is clear that many more people are likely to lose their jobs and family finances will come under strain. We have already pledged that until at least the end of May 2021 no member will lose their home as a result of the pandemic, and as we expect more members to need support from our financial hardship advice service, we have trained an additional 200 colleagues to give members practical support through any hard times that lie ahead.

Promoting the wellbeing of our colleagues and supporting communities

Our colleagues have risen to the challenges with dedication and good humour over the last six months. They've stood by our 'PRIDE' values, doing the best for our members and keeping essential services going, often in challenging circumstances, while juggling their own family and health issues. They kept nearly all our branches open to serve their communities throughout lockdown, and provided extra help for vulnerable members such as cash deliveries and a dedicated phone line.

We all learnt a lot in a short time. Our office colleagues shifted to home working virtually overnight, with nine out of 10 still working remotely, supported by a 'click and collect' service for laptops and office essentials. In just a few weeks we made radical changes to how we work, for example automating processes for payment holidays, and retraining and redeploying hundreds of colleagues to support the parts of the Society where member demand for our services was highest. A number of head office colleagues were among those answering our 'call to arms' and returning temporarily to member-facing roles.

We know our colleagues worry about the future as much as our members do and we took several steps to provide support - including a pledge that no colleague will have to leave the Society as a result of compulsory redundancy in 2020 - as well as re-skilling colleagues, particularly for new opportunities in our digital and technology business areas. We also introduced a number of wellbeing initiatives such as meeting-free times during the day and an app to support mental health.

We started some time ago to reshape the Society for an increasingly digital world and the pandemic has accelerated this shift. We are continuing to invest in growing our digital capabilities and expertise, while also maintaining a tight control on costs.

While the pandemic has dominated much of the year, we remain as determined as ever to make a difference in our communities through fulfilling our members' commitment to giving at least 1% of pre-tax profits to charity, and by taking a bolder stand on important issues affecting society.

We gave over 250 charities freedom to choose how to spend £10 million of previously agreed community grants, so that they could support those in most urgent need.

We continued to work towards a low carbon future by minimising our own impact and ring-fencing £1 billion of lending for 'greener' homes. We became carbon neutral in our energy use and emissions for all internal operations and company vehicles earlier this year, and our next goals are to eliminate single-use plastic by 2025, and to extend carbon neutrality through our business operations, supply chain and commuting by 2030. We are encouraging homeowners to 'green' their homes by offering low-rate 'green' additional mortgage borrowing, and Oakfield, the not-for-profit housing development we are funding in Swindon, aims to build 239 EPC A-rated homes.

As a building society, we've always believed that people achieve more when they work together, and are troubled by the divisions that have opened up in our communities. We have formed partnerships with the Football Association and The Diana Award that will seek to promote respect in Britain's most popular team sport and to harness the energies of 10,000 young people as anti-bullying ambassadors.

Chief Executive's review (continued)

Keeping our Society and our members' money safe

People trust us with their money because they are confident that, as a building society, we will look after it carefully. Like our members, we must cut our cloth according to the current economic conditions, which are undoubtedly challenging.

After the bank base rate fell to 0.1%, we took the decision to reduce interest rates across our savings range. This reduced our member financial benefit to £140 million, as paying significantly higher rates would not be financially sustainable, nor in the long-term interests of our members or the Society. This level of member financial benefit is below our target as signalled at the full year.

Our margin - the difference between the rates we charge borrowers and pay savers - was stable at 1.15% (H1 2019: 1.12%). We remain committed to giving our savers the best rates we can sustainably afford, and to finding new ways to reward saving.

Our underlying profit remains steady at £305 million (H1 2019: £307 million) and statutory profit increased to £361 million (H1 2019: £309 million), contributing to a strong capital position that allows us to support our members in challenging and uncertain conditions.

Supporting the housing market as we came out of lockdown was important, and we maintained good value rates and offered higher LTVs than most competitors, while lending in a responsible way.

We have cut our costs by £92 million to £1,033 million (H1 2019: £1,125 million) as we continue to make the Society more efficient in serving our members. The reduction is primarily the result of our planned lower spend relating to strategic investment, with business as usual costs also reducing. Restructuring costs have, however, increased in line with actions taken to reduce our future cost base.

We have strong capital ratios; our retained profits took our Common Equity Tier 1 ratio to 34.5% (4 April 2020: 31.9%) and contributed to a higher UK leverage ratio of 5.0% (4 April 2020: 4.7%).

We have put substantial support in place for members in financial difficulty, and as a result, the number of members falling into arrears has stayed about the same. This may change when job support schemes are withdrawn, which is why we have set aside £139 million (H1 2019: £57 million) in the period for loans that may not be repaid.

Outlook

It is very hard to predict what will happen to the economy, jobs and the housing market in the near future as a result of the pandemic and Brexit. The scale of interventions to support people and jobs to date has been extensive and will limit the long-term damage, but the outlook remains unpredictable.

Activity in the housing market fell sharply in lockdown but recovered strongly afterwards with mortgage approvals in September 39% above the 2019 average, while annual house price growth rose to 5.8% in October, its highest level since January 2015.

While there are many uncertainties ahead, Nationwide faces into them from a position of considerable strength. We have steady profits, stable income, a strong balance sheet, and a strong capital position. The strength of our finances, together with our prudent approach to managing the Society, means we can continue to stand by our members through the financial challenges ahead to help them realise their dreams of home ownership and financial security.

Financial review

In summary

Income statement

Notes:

i. Underlying profit represents management's view of underlying performance. The following items are excluded from statutory profit to arrive at underlying profit:

· Gains or losses from derivatives and hedge accounting, which are presented separately within total income in the consolidated interim financial statements.

· Any FSCS costs and refunds arising from institutional failures.

ii. Although we only use derivatives to hedge market risks, income statement volatility can still arise due to hedge accounting ineffectiveness or because hedge accounting is either not applied or is not achievable. This volatility is largely attributable to accounting rules which do not fully reflect the economic reality of the hedging strategy.

Total income and net interest margin (NIM)

Net interest income increased by £63 million to £1,448 million (H1 2019/20: £1,385 million) and net interest margin stabilised at 1.15% (H1 2019/20: 1.12%), largely due to mortgage margins improving, having declined for the past four years. Following the bank base rate reductions in March 2020 we took the decision to reduce interest rates across our savings range.

Net other income has reduced by £101 million to £55 million (H1 2019/20: £156 million) partly as a result of a loss of £35 million arising from a buyback of covered bond funding, which will generate savings in future years. The decline is also attributable to material one-off gains in the prior year relating to contingent consideration recognised on previous investment disposals.

Member financial benefit

As a building society, we seek to maintain our financial strength whilst providing value to our members through pricing, propositions and service. Through our member financial benefit, we measure the additional financial value for members from the competitive mortgage, savings and banking products that we offer compared to the market. Member financial benefit is calculated by comparing, in aggregate, Nationwide's average interest rates and incentives across mortgages, savings, current accounts, personal loans and credit cards to the market, predominantly using market data provided by the Bank of England and CACI, alongside internal calculations. The value for individual members will depend on their circumstances and product choices.

We have made one change to our methodology for calculating member financial benefit, compared to that described on page 43 of the Annual Report and Accounts 2020. Instead of using market non-mortgage household lending data from the Bank of England to derive interest rate comparators for personal loans, we are now using data from CACI. This more specifically covers personal loans and provides a good level of coverage of our peer lending group, making it a more appropriate comparator. The impact is to increase our H1 2019/20 member financial benefit by £10 million compared to that previously reported, and to increase member financial benefit for the full year 2019/20 by £25 million.

In calculating member financial benefit using available market or industry level data, no adjustment is made to take account of factors such as customer mix, risk appetite and product strategy, due to both limitations in the availability of data and to avoid bias from segments in which Nationwide may be under or over-represented. Furthermore, due to data non-availability, deposits with National Savings & Investments are not included in the market benchmark for deposits. We will continue to review our methodology to ensure it remains relevant given changing market conditions, as well as to ensure it captures all the key elements of the financial benefits we provide to our members, where data is available.

For the half year ended 30 September 2020, this measure shows we have provided our members with a financial benefit of £140 million (H1 2019/20: £375 million). The decline is primarily attributable to lower interest on savings and was against the backdrop of a highly competitive mortgage market. The reduction in savings rates, following the fall in bank base rate, protected our profitability in H1 2020/21 and safeguarded the sustainability of our business. This period of exceptionally low interest rates means it is unlikely that we will meet our £400 million member financial benefit target for this financial year.

Administrative expenses

Administrative expenses reduced by £92 million to £1,033 million (H1 2019/20: £1,125 million). The period-on-period reduction is attributable to lower costs relating to strategic investment spend of £65 million, the non-recurrence of spend associated with the development of Nationwide for Business of £22 million in 2019/20 and a £41 million reduction in business as usual costs. These are in part offset by an increase in restructuring costs of £36 million for severance costs and property onerous leases charges, following actions taken to reduce our future cost base.

Impairment losses/(reversals) on loans and advances to customers

Note:

i. Impairment losses/(reversals) represent the net amount charged/(credited) through the income statement, rather than amounts written off during the period.

The total impairment charge in the period of £139 million (H1 2019/20: £57 million) is primarily due to the deterioration in the economic outlook reflected in the economic scenarios used to model expected credit losses. The underlying arrears performance of our portfolios has remained broadly stable, with the impacts of Covid-19 on the economy offset by government support schemes and the use of payment deferrals. During the period additional payment deferrals have been granted and whilst the majority have now expired, the outlook for borrowers is still uncertain.

More information regarding the critical accounting judgements, and the forward-looking economic information used in our impairment calculations, is included in note 8 to the consolidated interim financial statements.

Provisions for liabilities and charges

We hold provisions for customer redress to cover the costs of remediation and redress in relation to past sales of financial products and ongoing administration, including non-compliance with consumer credit legislation and other regulatory requirements. The customer redress charge has reduced to £26 million (H1 2019/20: £52 million) primarily as a result of a reduction in charges relating to PPI as the deadline for claims has now passed. The charge also includes remediation costs for other redress issues, including in relation to the administration of customer accounts. More information is included in note 13 to the consolidated interim financial statements. 

Taxation

The tax charge for the period of £80 million (H1 2019/20: £75 million) represents an effective tax rate of 22.2% (H1 2019/20: 24.3%) which is higher than the statutory UK corporation tax rate of 19% (H1 2019/20: 19%). The effective tax rate is higher due to the 8% banking surcharge of £14 million (H1 2019/20: £10 million) and the tax effect of disallowable customer redress costs and other disallowable expenses of £3 million (H1 2019/20: £3 million) and £3 million (H1 2019/20: £6 million) respectively. This is partially offset by the tax credit on the distribution to the holders of Additional Tier 1 capital instruments of £9 million (H1 2019/20: £4 million). Further information is provided in note 9 to the consolidated interim financial statements.

Balance sheet

Total assets have increased by 5% to reach £259.7 billion at 30 September 2020 (4 April 2020: £248.0 billion), predominantly due to higher holdings of cash and liquid assets following an increase in short-term funding and the drawdown of funds from the Bank of England's TFSME.

Trading performance was subdued during lockdown in April and May, resulting in lower net lending, with balances increasing to £202.8 billion (4 April 2020: £201.8 billion). Member deposit balances have increased by £1.3 billion to £161.0 billion (4 April 2020: £159.7 billion) as a result of strong growth in current account credit balances due to reduced consumer spending through lockdown, which remains below expected levels since restrictions were relaxed. This is in part offset by savings outflows as a result of passing on the fall in bank base rate earlier than some other savings providers.

Note:

i. Residential mortgages include prime and specialist loans, with the specialist portfolio primarily comprising buy to let lending.

Residential mortgages

Total gross mortgage lending in the period was £12.7 billion (H1 2019/20: £16.3 billion), the reduction reflecting the impact of the lockdown in April and May, with a gross market share of 12.0% (H1 2019/20: 12.3%). Lending subsequently recovered following the relaxation of restrictions and the announcement of changes to stamp duty. Prime mortgage balances have increased to £151.4 billion (4 April 2020: £151.1 billion) and specialist mortgage balances (being predominantly buy to let) increased by £1.6 billion (H1 2019/20: £1.5 billion) to £39.3 billion (4 April 2020: £37.7 billion).

Arrears performance has remained broadly stable during the period, with cases more than three months in arrears at 0.42% of the total portfolio (4 April 2020: 0.41%). Arrears levels are likely to have been suppressed by payment deferrals and other government support measures, and in view of UK economic conditions, an increase in arrears from current levels is expected over the medium term. Impairment provision balances have increased to £302 million (4 April 2020: £252 million) due to the deterioration in the economic outlook reflected in the economic scenarios used to model expected credit losses.

Commercial and other lending

During the period, commercial and other lending balances have decreased to £7.4 billion (4 April 2020: £7.9 billion). Continuing the deleveraging activity in previous financial periods, the overall portfolio remains weighted towards registered social landlords, with balances of £5.0 billion (4 April 2020: £5.4 billion). Commercial real estate balances of £1.0 billion (4 April 2020: £1.0 billion) and project finance balances of £0.7 billion (4 April 2020: £0.7 billion) are in run-off and reduced slightly during the period.

Impairment provision balances have increased to £42 million (4 April 2020: £40 million) reflecting changes to economic assumptions and a small number of increased impairments on individual borrowers driven by Covid-19 impacts.

Consumer banking

Consumer banking balances have decreased to £4.8 billion (4 April 2020: £5.0 billion). Consumer banking comprises personal loan balances of £3.0 billion (4 April 2020: £3.0 billion), credit card balances of £1.6 billion (4 April 2020: £1.7 billion) and overdrawn current account balances of £0.2 billion (4 April 2020: £0.3 billion). The impact of the Covid-19 pandemic has resulted in balances declining as the market demand for consumer credit has decreased.

Provision balances have increased to £531 million (4 April 2020: £494 million) primarily due to the deterioration in economic outlook, reflected in the economic scenarios used to model expected credit losses, with underlying performance remaining broadly stable.

Other financial assets

Other financial assets total £54.9 billion (4 April 2020: £43.9 billion) and comprise liquidity and investment assets held by our Treasury function amounting to £48.6 billion (4 April 2020: £37.4 billion), derivatives with positive fair values of £4.4 billion (4 April 2020: £4.8 billion) and fair value adjustments and other assets of £1.9 billion (4 April 2020: £1.8 billion). The £11.2 billion increase in cash and liquid assets holdings is driven primarily by an increase in our short-term funding book and the drawdown of funds from the Bank of England's TFSME.

Nationwide's Liquidity Coverage Ratio at 30 September of 153% (4 April 2020: 163%) remains well above regulatory requirements. Nationwide continues to manage its liquidity against internal risk appetite, which is more prudent than regulatory requirements. Further details are included in the Liquidity and funding risk section of the Risk report.

Member deposits

Member deposit balance growth of £1.3 billion (H1 2019/20: £2.5 billion) to £161.0 billion (4 April 2020: £159.7 billion) represents growth in current account credit balances of £4.8 billion, partially offset by £3.5 billion of retail savings outflows. Growth in current account credit balances was driven by reduced consumer spending through lockdown in April and May, which remains below expected levels since restrictions were relaxed. Savings balance outflows reflect the impact of the decision to reduce interest rates across our savings range following the bank base rate reductions in March 2020, alongside our reduced on-sale rates, with elevated flows seen to more competitively priced providers. In addition, there was a more significant overall increase in deposit balances across the UK, primarily during the period of lockdown, which has led to a reduction in our deposit stock market share to 9.3% (4 April 2020: 9.9%). Our market share of all current accounts remains stable at 10.1% (4 April 2020: 10.0%)13.

Debt securities in issue and other financial liabilities

Debt securities in issue primarily comprise wholesale funding, excluding subordinated debt which is included within other financial liabilities. Balances have increased to £37.4 billion (4 April 2020: £36.0 billion) reflecting an increase in the short-term funding book. Nationwide's wholesale funding ratio has also increased to 30.5% (4 April 2020: 28.5%); this ratio remains well below the statutory maximum limit of 50%. Other financial liabilities have increased to £46.2 billion (4 April 2020: £37.8 billion) primarily due to a drawdown of funds from the Bank of England's TFSME. Further details are included in the Liquidity and funding risk section of the Risk report.

Members' interests and equity

Members' interests and equity have increased to £13.9 billion (4 April 2020: £13.0 billion) largely as a result of the issuance of £750 million Additional Tier 1 capital in June 2020.

13 CACI's CSDB (August 2020 and February 2020).

Statement of comprehensive income

Note:

i. Movements are shown net of related taxation.

Gross movements are set out in the consolidated interim financial statements on page 74. Further information on movements in the pension obligation is included in note 15 to the consolidated interim financial statements.

Capital structure

Our capital position remains strong, with both the Common Equity Tier 1 (CET1) ratio and UK leverage ratio comfortably above regulatory capital requirements of 13.1% and 3.6% respectively. The CET1 ratio increased to 34.5% (4 April 2020: 31.9%) and the UK leverage ratio increased to 5.0% (4 April 2020: 4.7%). The capital disclosures included in this report are in line with Capital Requirements Directive IV (CRD IV) and on an end point basis with IFRS 9 transitional arrangements applied.

Note:

i. The difference between the Capital Requirements Regulation (CRR) leverage ratio and the UK leverage ratio is driven by the exclusion of qualifying central bank claims from the UK leverage exposure measure as per the PRA Rulebook.

The CET1 ratio increased to 34.5% (4 April 2020: 31.9%) as a result of an increase in CET1 capital of £0.5 billion and a reduction in RWAs of £1.2 billion. The CET1 capital increase was driven by a £0.3 billion increase in profit after tax, a £0.1 billion increase in IFRS 9 transitional capital relief and a reduction in intangible assets deducted from capital of £0.1 billion. The reduction in RWAs was primarily driven by improving retail lending book quality, a reduction in loans and advances to banks and a reduction in risk weights for small and medium-sized enterprises (SMEs) in line with Regulation 2020/873.

Whilst the future economic impact of Covid-19 continues to be unclear, it is likely to lead to some RWA inflation and therefore a lower CET1 ratio in the medium term. Once the extended government support schemes announced in November 2020 end, we will better understand how individual members have been affected and the subsequent impact on risk-based ratios. However, the current capital position and the published stress testing results show that we are well capitalised and positioned to meet such periods of financial stress.

The UK leverage ratio increased to 5.0% (4 April 2020: 4.7%), with Tier 1 capital increasing by £1.2 billion as a result of the issuance of £0.7 billion of AT1 capital instruments in June 2020 and the CET1 capital movements. Partially offsetting the impact of this, there was an increase in UK leverage exposure of £7.7 billion primarily as a result of net retail lending and treasury investments.

The CRR leverage ratio increased by 0.2%, closing at 4.6% (4 April 2020: 4.4%). Following the finalisation of the Covid-19 banking package, the European Central Bank (ECB) exercised regulatory discretion, declaring that exceptional circumstances exist which allows firms under its direct supervision to benefit from the temporary exclusion of certain exposures to central banks from the total CRR leverage exposure measure. As Nationwide is not directly supervised by the ECB, the exclusion is not applied.

Further details of the capital position and current and future regulatory developments are included in the Solvency risk section of the Risk report.

Risk report

Contents

Introduction

This report provides information on developments during the period in relation to the risks Nationwide's business is exposed to, and how it manages those risks. This information supports, and should be read in conjunction with, the material found in the Risk report in the Annual Report and Accounts 2020. Where there has been no change to the approach to managing risks, or there has been no material change to the relevant risk environment from that disclosed at year end, this information has not been repeated in these Interim results.

Top and emerging risks

The top and emerging risks are managed through the process outlined in the 'Risk overview' and 'Committed to doing the right thing' sections of the Annual Report and Accounts 2020 and remain broadly unchanged from those reported. The external environment continues to dominate the Society's most significant risks, with threats to Nationwide's strategy including, but not limited to: the Covid-19 pandemic, the geopolitical and macroeconomic environment, climate change, the UK's exit from the European Union, and regulatory change. A description of the material movements and developments to the top and emerging risks in the period is provided below: 

Key (level of risk to Nationwide) ì Increasing level of risk è Stable level of risk î Decreasing level of risk

Principal risks and uncertainties

The Society operates an Enterprise Risk Management Framework (ERMF), which continues to meet our obligations to our members to remain safe & secure and to operate effectively & efficiently. The principal risks inherent within the Society remain unchanged from those set out in the Risk Report in the Annual Report and Accounts 2020, namely:

· Credit risk

· Solvency risk

· Market risk

· Business risk

· Liquidity and funding risk

· Pension risk

· Model risk

· Operational and conduct risk

Information on key developments in relation to the principal risks above are included within this report, except for business risk where there have been no significant developments which have altered the Society's outlook or approach during the period.

Credit risk - Overview

Credit risk is the risk of loss as a result of a member, customer or counterparty failing to meet their financial obligations. Credit risk encompasses borrower/counterparty risk, security/collateral risk, concentration risk and refinance risk.

Nationwide manages credit risk for the following portfolios:

Further detail on how Nationwide manages credit risk and what credit risk encompasses is included within the Annual Report and Accounts 2020.

Performance overview

During the period, the UK has experienced a significant contraction in economic activity as a result of the Covid-19 pandemic and associated government intervention to reduce the spread of the virus. We recognise that the pandemic is having a significant impact on our members, and we continue to offer them help and support in these challenging times. This includes offering payment deferrals to affected borrowers, to temporarily suspend their contractual repayments. In accordance with regulatory guidance, these payment concessions are not recorded as forbearance and do not automatically have an impact on the staging of balances used in calculating provisions.

Overall credit quality and performance has remained broadly stable over the period, with residential mortgage and consumer banking arrears remaining at a low level. This performance reflects the support we have provided to our customers impacted by the pandemic, government support schemes and the low bank base rate environment. When the government support schemes are withdrawn, and in view of the current UK economic conditions, a rise in arrears from current low levels is anticipated.

At the 4 April 2020 year end, an additional provision for credit losses was recognised to reflect the increased credit risk associated with payment deferrals, which would not be adequately recognised by our expected credit loss models. In line with regulatory guidance, additional payment deferrals have been granted during the period, and in assessing the impact of this, our approach has been to identify the higher risk loans within the payment deferral population and estimate an increase in the probability of default (PD) for these loans using historical experience. During the period we have also updated our macroeconomic assumptions, including for the severe downside scenario, to reflect a deterioration in economic outlook as a result of the Covid-19 pandemic. Further details regarding the assumptions used in the credit loss provision models are detailed in note 8 to the consolidated interim financial statements.

Further details regarding the concession measures being offered and the impact on residential mortgages, consumer banking and commercial lending are described in the relevant sections of this report. 

Credit risk - Overview (continued)

Maximum exposure to credit risk

Nationwide's maximum exposure to credit risk has increased to £268 billion (4 April 2020: £256 billion), principally reflecting higher holdings of liquid assets.

Credit risk largely arises from loans and advances to customers, which account for 80% (4 April 2020: 83%) of Nationwide's total credit risk exposure. Within this, the exposure relates primarily to residential mortgages, which account for 94% (4 April 2020: 94%) of total loans and advances to customers and comprise high quality assets with low occurrences of arrears and possessions.

In addition to loans and advances to customers, Nationwide is exposed to credit risk on all other financial assets. For all financial assets recognised on the balance sheet, the maximum exposure to credit risk represents the balance sheet carrying value after allowance for impairment, plus off-balance sheet commitments. For off-balance sheet commitments, the maximum exposure is the maximum amount that Nationwide would have to pay if the commitments were to be called upon. For loan commitments and other credit related commitments that are irrevocable over the life of the respective facilities, the maximum exposure is the full amount of the committed facilities.

Credit risk - Overview (continued)

Notes:

i. In addition to the amounts shown above, Nationwide has revocable commitments of £10,407 million (4 April 2020: £10,139 million) in respect of credit card and overdraft facilities. These commitments represent agreements to lend in the future, subject to certain considerations. Such commitments are cancellable by Nationwide, subject to notice requirements, and given their nature are not expected to be drawn down to the full level of exposure.

ii. The fair value adjustment for portfolio hedged risk and the fair value adjustment for micro hedged risk (which relates to the commercial lending portfolio) represent hedge accounting adjustments. They are indirectly exposed to credit risk through the relationship with the underlying loans covered by Nationwide's hedging programmes.

iii. FVTPL residential mortgages include equity release and shared equity loans.

Commitments

Irrevocable undrawn commitments to lend are within the scope of provision requirements. The commitments in the table above consist of overpayment reserves and separately identifiable irrevocable commitments for the pipeline of residential mortgages, personal loans, commercial loans and investment securities. These commitments are not recognised on the balance sheet, and the total associated provision of £0.5 million (4 April 2020: £0.4 million) is included within provisions for liabilities and charges.

Revocable commitments relating to overdrafts and credit cards are included in ECL provisions, with the allowance for future drawdowns made as part of the exposure at default element of the ECL calculation.

Credit risk - Residential mortgages

Summary

Nationwide's residential mortgages comprise both prime and specialist loans. Prime residential mortgages are mainly Nationwide-branded advances made through the branch network and intermediary channels. Specialist lending consists principally of buy to let mortgages originated under The Mortgage Works (UK) plc (TMW) brand, together with smaller legacy portfolios in run-off.

During the period, residential mortgage markets have experienced disruption as a result of the impact of the Covid-19 pandemic. At the beginning of the period, new purchase applications were limited. In recent months housing market activity has recovered strongly, with mortgage approvals returning to, and in some cases above, pre-pandemic levels. This rebound reflects the pent-up demand from the lockdown period, combined with stamp duty changes which have brought forward some purchases. Behavioural shifts are also likely to have boosted activity as people reassess their housing needs and preferences as a result of the pandemic, with increased demand for less densely populated locations and property types. This increased demand has resulted in house price growth. The economic outlook remains uncertain, especially in relation to unemployment levels and house prices over the medium term.

The pandemic is having a significant impact on our members. Payment deferrals continue to be offered to impacted borrowers in line with regulatory guidance. For borrowers who continue to need financial support after the payment deferral scheme ends, we will continue to offer concessions based on consideration of their individual circumstances.

To date arrears remain low and credit quality continues to be strong; however, this performance is supported by government intervention, payment deferrals and the low bank base rate environment.

Notes:

i. Buy to let mortgages originated under the TMW brand are £35,794 million (4 April 2020: £34,031 million).

ii. Other includes self-certified, near prime and sub-prime lending, all of which were discontinued in 2009.

Total balances across the residential mortgage portfolios remained broadly stable at £191 billion (4 April 2020: £189 billion). Growth has continued in the buy to let portfolio which saw 5% growth in the period since 4 April 2020.

Credit risk - Residential mortgages (continued)

Impairment losses for the period

The impairment losses for the period include the impact of updating macroeconomic assumptions and weightings to reflect the impact of the Covid-19 pandemic; further details are included in note 8 to the consolidated interim financial statements. Updates to the severe downside scenario assumptions, to reflect further impacts of Covid-19, increased provisions by £36 million during the period. Another factor in the charge for impairment losses is the number of loans with payment deferrals granted in the period; provisions against these loans total £39 million (4 April 2020: £22 million). The performance of these loans where the payment deferrals have ended remains in line with our expectations. Closing provisions have increased to £302 million (4 April 2020: £252 million).

The following table shows residential mortgage lending balances carried at amortised cost, the stage allocation of the loans, impairment provisions and the resulting provision coverage ratios:

Credit risk - Residential mortgages (continued)

Notes:

i. Days past due (DPD) is a measure of arrears status.

ii. POCI loans are those which were credit-impaired on purchase or acquisition. The POCI loans shown in the table above were recognised on the balance sheet when the Derbyshire Building Society was acquired in December 2008. These balances, which are mainly interest-only, were 90 days or more in arrears when they were acquired and so have been classified as credit-impaired on acquisition. The gross balance for POCI is shown net of the lifetime ECL of £6 million (4 April 2020: £6 million).

iii. Arrears balances across residential mortgages have reduced in the period between June and September 2020, leading to a reduction in modelled provisions. Management has judged this to be a temporary position due to the availability of government support and payment deferral schemes and an adjustment has therefore been made to recognise the underlying risk, retaining provisions of £16 million which would have otherwise been released. This adjustment has not been allocated by loan and is not incorporated into staging outcomes.

iv. In recognition of the financial impact that Covid-19 may have on our borrowers, an additional provision of £51 million was included in the impairment provisions for residential mortgages at 4 April 2020. This additional provision was not allocated to underlying loans and therefore was not attributed to stages. During the reporting period this provision has been assigned across the stages and is reflected in the allocations for 30 September 2020.

At 30 September 2020, 95% (4 April 2020: 94%) of the residential mortgage portfolio is in stage 1, reflecting the portfolio's underlying strong credit quality. During the period there has been a reduction in stage 2 balances to £7,702 million (4 April 2020: £9,595 million). The prime portfolio stage 2 balance has increased by £985 million, largely due to the movement of a higher risk segment of loans with payment deferrals to stage 2 from stage 1. The specialist portfolio stage 2 balance has reduced by £2,878 million, primarily due to a reduction in the refinance risk associated with interest only loans. The refinance assessment estimates the ability of a borrower with an interest only loan to refinance at maturity and considers both collateral values and affordability criteria. Due to the low bank base rate assumption used in the modelling of expected credit losses, a higher proportion of interest only mortgages are expected to meet the affordability criteria, so have therefore moved from stage 2 to stage 1 during the period.

Stage 3 loans in the residential mortgage portfolio equate to 1% (4 April 2020: 1%) of the total residential mortgage exposure. Of the total £1,187 million (4 April 2020: £1,264 million) stage 3 loans, £676 million (4 April 2020: £679 million) is in respect of loans with amounts which are more than 90 days past due, with the remainder being impaired due to other indicators of unlikeliness to pay such as forbearance or the bankruptcy of the borrower.Credit risk - Residential mortgages (continued)

For loans subject to forbearance, accounts are transferred from stage 3 to stages 1 or 2 only after being up to date and meeting contractual obligations for a period of 12 months; £249 million (4 April 2020: £244 million) of the stage 3 balances in forbearance are in this probation period.

Provisions as a percentage of balances are higher for the highest risk stage 2 loans than for stage 3 loans. Provisions incorporate changes in economic factors, such as house price falls, that are expected over the life of the loans. Losses on stage 3 loans will crystallise earlier than for loans in stage 2, and therefore anticipated house price falls in future years can lead to higher loss assumptions for stage 2 loans.

The table below summarises the movements between stages in the Group's residential mortgages held at amortised cost. The movements within the table are an aggregation of monthly movements over the period.

Credit risk - Residential mortgages (continued)

Note:

i. Gross balances of credit impaired loans include £152 million (4 April 2020: £155 million) of POCI loans, which are presented net of lifetime ECL impairment provisions of £6 million (4 April 2020: £6 million).

ii. At 4 April 2020, an additional provision for credit losses of £51 million was recognised to reflect the estimated impact of the Covid-19 pandemic on ECLs. At 4 April 2020, this additional provision was not allocated to underlying loans, nor was it attributed to stages. During the period, this provision has been allocated to underlying loans and is reflected in the movements within the table and the 30 September 2020 position.

iii. At 30 September 2020, an additional provision of £16 million has been introduced to reflect challenges in estimating ECLs during the Covid-19 pandemic. This additional provision has not been allocated to underlying loans, nor has it been attributed to stages, but is shown in the total column of the table. Additional detail on the calculation of this provision is included in note 8 to the consolidated interim financial statements.

Information on movements in total gross loans and advances to customers and impairment provisions, including the methodology applied in preparing the table, is included in note 10 to the consolidated interim financial statements.

Credit risk - Residential mortgages (continued)

Notes:

i. Where loans satisfy more than one of the criteria for determining a significant increase in credit risk, the corresponding gross balance has been assigned in the order in which the categories are presented above.

ii. In recognition of the financial impact that Covid-19 may have on our borrowers, an additional provision of £51 million was included in the impairment provisions for residential mortgages at 4 April 2020. This additional provision was not allocated to underlying loans and therefore was not attributed to stages. During the reporting period this provision has been assigned across the stages and is reflected in the allocations for 30 September 2020. An additional provision of £16 million has been introduced at 30 September 2020, as outlined in the residential mortgages staging analysis table. This additional provision is not allocated to underlying loans, and therefore is not attributed to stages.

Credit risk - Residential mortgages (continued)

Loans which are reported within stage 2 are those which have experienced a significant increase in credit risk since origination, determined through both quantitative and qualitative indicators. These indicators are consistent with those used at 4 April 2020, as described below.

The primary quantitative indicators are the outputs of internal credit risk assessments. The credit risk of each loan is evaluated at each reporting date by calculating the residual lifetime PD of each loan. For retail loans, the main indicators of a significant increase in credit risk are either of the following:

· the residual lifetime probability of default (PD) exceeds a benchmark determined by reference to the maximum credit risk that would have been accepted at origination

· the residual lifetime PD has increased by at least 75bps and a 4x multiple of the original lifetime PD.

Qualitative indicators include the increased risk associated with interest only loans which may not be able to refinance at maturity. Also included are forbearance events where full repayment of principal and interest is still anticipated, on a discounted basis. In addition, loans will be moved to stage 2 when certain "backstop" events occur, including arrears of greater than 30 DPD.

The value of loans reported within stage 2 as a result of being in arrears by 30 days or more has reduced to £402 million, 0.21% of total gross balances (4 April 2020: £514 million, 0.27% of total gross balances). Management has judged this to be a temporary position due to the availability of government support and payment deferral schemes and an adjustment has been made to recognise the underlying risk where modelled provisions would otherwise have been reduced.

Stage 2 loans include all loans greater than 30 days past due (DPD), including those where the original reason for being classified as stage 2 was other than arrears over 30 DPD. The total value of loans in stage 2 due solely to payment status is less than

The significant stage 2 movements during the period are detailed beneath the residential mortgages staging analysis table on page 26.

Credit quality

The residential mortgages portfolio comprises many relatively small loans which are broadly homogeneous, have low volatility of credit risk outcomes and are geographically diversified. The table below shows the loan balances and provisions for residential mortgages held at amortised cost, by probability of default (PD) range. The PD distributions shown are based on 12-month IFRS 9 PDs at the reporting date.

Credit risk - Residential mortgages (continued)