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Edited Transcript of SAN.MC earnings conference call or presentation 23-Jul-19 8:30am GMT

Q2 2019 Banco Santander SA Earnings Call

Madrid Aug 13, 2019 (Thomson StreetEvents) -- Edited Transcript of Banco Santander SA earnings conference call or presentation Tuesday, July 23, 2019 at 8:30:00am GMT

TEXT version of Transcript

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Corporate Participants

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* José Antonio Álvarez Álvarez

Banco Santander, S.A. - CEO & Vice Chairman

* José Antonio García Cantera

Banco Santander, S.A. - CFO, Head of Financial Division & Senior EVP

* Sergio Gámez Martínez

Banco Santander, S.A. - Global Head of Shareholder & IR

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Conference Call Participants

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* Alvaro Serrano Saenz de Tejada

Morgan Stanley, Research Division - Lead Analyst

* Andrea Filtri

Mediobanca - Banca di credito finanziario S.p.A., Research Division - Research Analyst

* Andrea Unzueta

Crédit Suisse AG, Research Division - VP

* Daragh Joseph Quinn

Keefe, Bruyette & Woods Limited, Research Division - Analyst

* Fernando Gil de Santivañes d´Ornellas

Barclays Bank PLC, Research Division - Research Analyst

* Francisco Riquel

Alantra Equities Sociedad de Valores, S.A., Research Division - Head of Research

* José Maria Abad Hernandez

Goldman Sachs Group Inc., Research Division - Executive Director

* Mario Ropero

Fidentiis Equities S.V.S.A., Research Division - Senior Banking Analyst

* Sofie Caroline Elisabet Peterzens

JP Morgan Chase & Co, Research Division - Analyst

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Presentation

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Sergio Gámez Martínez, Banco Santander, S.A. - Global Head of Shareholder & IR [1]

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Good morning, everyone

(technical difficulty)

Grupo Santander H1 2019 Earnings Presentation. Well, as every quarter, our group CEO, José Antonio Álvarez, will address the key highlights of the quarter as well as the group performance and obviously the concluding remarks; and our group CFO, José García Cantera, the different business areas' performance. We hope to have around 30 minutes for Q&A.

So with no further delay, José Antonio, please?

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José Antonio Álvarez Álvarez, Banco Santander, S.A. - CEO & Vice Chairman [2]

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Thank you, Sergio. Good morning to everyone. Thank you for attending this conference call. So I'm going to follow the usual path of the presentation with a new chapter, including the restatement we've done to reflect the organizational change we made along us with the ring-fencing in the U.K. As usual, I am going to go through the group evolution. And José García Cantera, our CFO, will speak about the business area.

As a summary, I will say the quarter was good, so good in activity. Both the loan growth and customer funds grew significantly, 2% and 3%. Underlying profit, 8%. And the capital generation was in line with our expectations, 11 -- I mean organic capital generation was in line with our expectations, 11 basis points in the quarter, yes.

So these are relating to results. Underlying profit was EUR 2.1 billion, close to EUR 2.1 billion in the quarter, up 8% quarter-on-quarter. This quarter we have, as you know, the Single Resolution Fund contribution. Without taking this into account, the growth was 16% quarter-on-quarter, so a good dynamic in the profit generation of the group.

The capital Tier 1 -- core equity Tier 1 stands at 11.30%. While, as you know, we are progressing according to our targets with a significant impact of the regulatory effects. The profitability, we are close to 12% underlying return on tangible equity. And I'm going to elaborate later on, on the new organizational structure and the new -- the restatement we've done 1 month ago and we communicated to you accordingly.

So following our way to look at the group. In terms of growth, both the customer dynamics and the volume dynamics are progressing well, taking into account the macro scenarios. So we are progressing in line with double-digit or double-digit-plus in Latin America and U.S. And in Europe, the volumes grew less, particularly on the loan side, where still we have some countries in deleveraging. And customer funds are growing also in Europe in a significant way.

Profitability, customer revenue is growing accordingly with the volumes. We were -- the NIM has progressed this quarter on, not only in emerging markets due to volumes, also in mature markets due to the good margin management. And finally, we continue to build capital, as I mentioned before.

If we go with the activity, the number of customers keeps growing. Loyal customers, we are growing double-digit in individuals, 7% in companies. And the number of active -- the percentage of active customers, loyal customers compared with active customers, is already in 30% with a significant increase in the majority of the countries in which we operate.

We are providing you some numbers how the digital transformation is progressing across the group. The number of digital customers approached 35 million. And well, the most important, I think, key area is they are growing in line with the 25%. The accesses to the bank online and mobile, 3.7 billion in the first half of the year, it's 1.9 billion a quarter, growing at 28% year-on-year. It's a significant growth. And the active transactions, this means the transactions in which the customer has an access to the bank to do a transaction, so it's in the region of 550 million per quarter and growing at 25%. So those are numbers that tell you about the progression on the digitization in the bank.

Going to volumes. You see the loans are growing in almost all markets. But Spain and Portugal, where we are still in a deleverage mood, this is a combination of deleverage in the market, plus being more demanding on the capital use, particularly in [some circumstances] which the profitability is poor. Mainly, it's related to the CIB and institutional lending, where we are not being so aggressive, particularly in Spain. And the customer funds, we are growing well all across the board. The quarter was good in investment funds, particularly, that were not so strong in the previous quarter, we recovered some growth in this quarter.

So when it comes to results, so we had a -- the bottom line, the attributable profit, EUR 3.2 million -- billion in the first half. And well, this is the bottom line after the extraordinary charges due to the restructuring costs, mainly in Spain but also in U.K. that we've done in the quarter. And that, I will explain later on.

Going for the different lines on the P&L. Net interest income progressing well according with the volume, as I mentioned before. Net fee income is fairly flat in euros. We are growing 2% in constant euros. Both this line and the capital gains were a bit weaker than we were expecting due to the CIB. CIB has been both fee income and capital gains we saw in the previous quarter, still the case in this quarter, a bit weaker than we were expecting or that in the previous year. And total income, we are growing 1% in euros, 3% in constant euros. That is the -- that reflects good cost control. Credit quality under control according to our expectations. And this leads to an attributable profit -- underlying attributable profit [slight level] of EUR 4 billion in the quarter, very much in line with what we got the last year, 2% more in constant euros and very much in line with the previous year in current euros.

Extraordinary charges in the quarter. So we have this quarter, this is slightly above EUR 600 million for Spain. It's basically a restructuring cost related with Popular, EUR 26 million in U.K. We'll be closing branches in U.K. and doing some restructuring inside U.K. And the extra time for PPI in U.K. represent an EUR 80 million charge in the quarter. So this quarter, we have a net negative in this line.

So you have the attributable profit. How is the volume? This quarter has been one of the highest quarter in terms of profit generation -- underlying profit generation in several years. And the growth, the figures speak by themselves compared with the previous quarter.

Going by lines. Net interest income progressing well. Basically, quarter-on-quarter, South America and North America grew significantly, particularly Brazil, Chile, U.S. and Argentina. The fee income, I mentioned CIB being weaker, but the retail and wealth management are progressing well quarter-on-quarter. The other revenue, while we recorded here the Single Resolution Fund contribution in this quarter and, well, particularly the first quarter was significantly weaker than last year, when we accumulate the whole year, we are well below where we were last year.

So in NII, net interest income, you have here the numbers I mentioned before. The growth overall, mature markets growing 2% due to lower deposit costs and developing markets growing due to volumes with some margin pressure in several markets, not particularly in Brazil, where the volume growth is much higher than the NII growth.

In fee income, activity is growing well. So you have some figures in the main fee generator lines. Cards, insurance premiums and mutual fund balances are growing well. Net fee in developing markets were growing double-digits. Fee income in mature markets, minus 4%. And you have at the bottom what tells you more about the fee income generation by segments, we are growing both in retail banking, wealth management and insurance, but CIB is drop -- is decreasing 9%.

Costs. Good cost control, particularly in Europe. Yes. So you see nominal costs falling in Spain 7.3%, U.K. falling 0.6%, Portugal 3.8% down in nominal costs. In real terms, all our markets are going down. And overall, we are decreasing 1.8% in real terms when we compare with inflation, particularly intense, this cost control in Europe, in line with our commitments that we made to you in the Investor Day back in April.

Credit quality, no news here is good news. So the cost of credit remains well under control, NPL ratio trending down. Coverage is pretty much in line.

Capital generation, I mentioned at the very beginning, in line with our expectations. So regulatory impacts continue to have a significant impact. We mentioned to you 50, 60 basis points we are expecting for the year. Organic generation, 29 basis points, so we continue to guide you on average 10 basis points a quarter. This is the run rate, has been for -- and we don't see any reason to change this guidance that we gave to you.

Well, we include here naturally in this quarter has an impact, the restructuring cost, I think, it's 13 basis points, the restructuring costs that affect the quarter. And the positive side, the available for trade portfolio, given the trend of the interest rates, particularly in Europe, will represent some help on this regard.

Well, in relation with the MREL and other requirements, we are well above the requirements and much better than the average of our competitors. The ratios, we continue to generate tangible net asset value per share. The underlying return on tangible equity is 11.7%. And the RoRWA, some increase in the RoRWA, 1.62% at the group level.

Let me just spend like a couple of minutes just explaining the new -- the restatement we've done and the main changes in -- this is to reflect, on one side, the changes in the reorganizational structure. We are providing you Europe, North America and South America P&L accounts. Well, the idea of this reorganization we told you in the Investor Day is to have more convergence in the business model and improve significantly the shared service across the group. That is about costs. We don't need to replicate all the things we are doing market-by-market. We have plenty of developments, particularly in the IT side, also in operations that we can share across the group. And this is the intention of this restructuring.

On top of that, you have the ring-fencing in the U.K. That is very well known by all of you. And some changes in Spain, particularly to split Openbank from the Spanish business, that previously was included in the Spanish business. And the second, and probably this tell you more about where are we heading to, is the creation of Santander Global Platform that is kind of digital service unit, a single unit to be -- in order to be more transparent what we are doing here.

First, let me go to the new areas. Europe, you have here in this slide the big numbers. In some people, still the balance sheet is skewed towards Europe. So you see both the loans and customer funds, 70% -- or around 70% is in Europe. While you have -- you may have in your heads the P&L that is 50-50 or has been around 50-50 while -- when the balance sheet is more skewed to Europe. But in the coming years, and we mentioned in Investor Day, probably we're going to see more growth in Latin America -- we are seeing more growth in Latin America and in the U.S. than in the one we are seeing in Europe. And probably this is going to get more balanced.

In relation with the Santander Global Platform, so we have Openbank. You have the numbers there. We plan to provide you good numbers. The number of customers is growing well, 1.2 million customers. This is a really digital -- fully digital bank for individuals. So this is a bank that provides all the traditional banking service in a digital way for individual customers. You can do investments. You can buy insurance. You can have your credit card. You can have loans, mortgages, unsecured personal loans. It's a full bank for individuals.

Transactionality is growing well, 29% year-on-year. Loans and deposits are growing much faster naturally than the traditional banks. And the business is progressing well. So you see the number, the balances per customer -- per loyal customer, that's significant, are in line with other ones.

ODS, that is included here, is a technology company that develop software for digital banks. That is the service provider for Openbank. But well, we try to have this company to provide a service Banking as a Service platform to potentially sell third parties in the future.

So also inside the Santander Global Platform, we have what we call Global Payment Services. Superdigital, probably you heard about this, it's banking without a bank. We are providing unbanked population in Latin America, where we already have 0.5 million users -- active users in Brazil. We have -- and we are expanding into Mexico and Chile in the first phase. And we -- the goal is to expand all across the region. And this proposition to unbanked population, that has a big space to grow.

Second, we are developing Global Merchant Services, starting from GetNet in Brazil. Around the world, we have more than 1 million active users. We're going to start in Mexico at the beginning of next year and the rest of LatAm in the first phase. Well, we may translate into other geographies later once we have this up and running in Latin America.

The international transfer for open market, the first phase, we already launched in 3 European countries. And finally, the Global Trade Services, that is international trade products. It's a combination of FX, cash management, trade finance. It's the combination of all these things. And well, we're going to start with the main countries and we're going to go for the rest of Santander geographies and open markets later on.

Finally, we have what we call internally Digital Assets, that is the Centres of Digital Expertise. When you -- I mentioned here contact center, the number of programs means that we are having 33 activities in 9 markets, so in all our geographies. The conversion rate optimization is the same. So we are developing once and applying to all our geographies in order to have not to continue to replicate here and there. It's about getting higher, bigger access at a lower cost. The Digital Assets are solutions that we are developing in common. Globile is a mobile platform that we have in common in all the countries. And the majority of the components are common. And we have also these here.

Santander InnoVentures is -- probably you know better, it's investment in fintech. We have EUR 100 million invested in 24 companies from 7 countries. This is the perimeter of this. We'll continue in the future quarters to provide you with information about each of these initiatives that in some cases is trial and error; in some other cases is improving our traditional banks; in some other cases is launching stand-alone initiatives, like Openbank and Superdigital.

I hand over to José García Cantera to go through the business areas.

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José Antonio García Cantera, Banco Santander, S.A. - CFO, Head of Financial Division & Senior EVP [3]

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Good morning, everyone, and thank you, José Antonio. I will start my call with looking at the breakdown of our results. You can see that they remain quite balanced between Europe and the Americas. The Americas has increased its share in the quarter, around 3 percentage points to 55%, mainly due to the larger contribution from the U.S. while Europe is negatively impacted by the charge of the Single Resolution Fund.

In terms of profit, underlying profit growth, we see growth in 7 out of the 10 core markets and double-digit growth in Brazil, in the U.S., Mexico and Portugal.

If we turn to the main countries, in Brazil, you can see interest rates remain stable. And as a consequence, the yield on loans is gradually adjusting downwards. We have double-digit growth, 10% growth in loans and deposits and the combination of these slightly lower margins. And this double-digit growth is what is producing this net interest income growing at almost 7% year-on-year.

We are gaining market share in many businesses in retail. So for instance, in credit cards, we are up 86 basis points year-on-year, in payroll-based loans, 117 basis points. So our value proposition continues to be very well regarded by our customer base.

Operating expenses rose below inflation, improving the efficiency ratio to a historical low of 32%. And provisions were lower. The cost of credit fell to 3.84%. So a very good quarter overall. And the trends that we saw in the first half are the ones we would expect to see in the coming quarters.

In Spain, we successfully completed the integration of Banco Popular with the migration of all our branches to the new platform. We also completed the reorganization of our insurance business, the end of the agreement with Allianz and the creation of a new joint venture with Aegon and MAPFRE.

In terms of business activity, very strong new origination in loans, which has not been seen in the year-on-year growth because still the new origination in mortgages is insufficient to compensate for the amortization of the existing portfolio. We also see the leveraging in CIB.

On the other hand, consumer credit grew, for instance, by EUR 600 million in the first half. And also SMEs is growing quite well. Customer funds increased around EUR 15 billion year-on-year, very good second quarter, which generally season -- it is, from a seasonal point of view, the strongest in the year.

Underlying profit was 5% higher year-on-year at EUR 694 million, excluding the EUR 600 million charge from restructuring. Costs fell 7%. So this is already -- we've been lowering cost at this rate for already a few quarters. And we would expect to see that once we enter into the new phase of the restructuring we just agreed with the unions.

Net interest income rose 4%, including -- excluding the impact of IFRS 16. Basically as you can see, because of improved customer margins, that year-on-year went from 1.7% to 1.9%. Net fee income dropped mainly due to, as José Antonio said, lower activity in CIB. Lower profits in the second quarter reflect the EUR 63 million contribution to the Single Resolution Fund. Without that, profits would have increased 7%. Looking ahead, we would expect to see more or less again the same trends in the second half of this year.

In Santander Consumer, despite that the new car sales in Europe were down 2% as of May, our revenues -- new lending actually, was up for us 4%. In Italy, for instance, it was up 13%; in France, 8%; in Spain, 7%. This is due to the good performance of the brands with which Santander Consumer Finance works. Customer deposits, already close to EUR 40 billion, is something that differentiates Santander Consumer from other companies. And it shows the success that we are having in our depositor frame in the different countries where this is actually the case.

In the -- first half profit was down a little bit year-on-year, although pretax profit was up 2%. The difference is the good performance in those subsidiaries that we have the agreement with PSA. Customer revenues were up 4%, with growth in most countries, notably Spain, Italy, Poland and France and costs, that remain very much under control. Quarter-on-quarter, second quarter profit was up 3%, again based on higher volumes and lower provisions because of portfolio sales.

Moving to the U.K. The business was conducted in an environment of tough competition and uncertainty over Brexit. Lending volumes remained stable year-on-year. The growth in mortgages and consumer credit was offset by the falling commercial real estate. Customer funds rose 2% year-on-year. Underlying profit was down 13% due to lower total revenues. Same trends as we saw in previous quarters. Significant pressure on loan spreads in the mortgage portfolio and lower SVR balances. The fall in net fee income was due to regulatory changes affecting overdrafts and reduced revenues from cards and lower gains from financial transactions.

On the other hand, we saw a very positive trend in costs that were down 1% in nominal terms, 3% in real terms and lower provisions in the quarter. So compared with the first quarter, the underlying profit was up close to 30%, which shows a very good improvement again quarter-on-quarter. Looking ahead, we would expect to see a strong pressure on net interest income, particularly now that no interest rate rises are expected. Costs, however, should be down in real terms in the coming quarters.

Going to the other countries more quickly. In the U.S., another excellent quarter with good evolution of results as well as volumes. The first half attributable profit rose 30% year-on-year with very good performance in revenues, costs falling in real terms and lower provisions. Remember that the comparison needs to be adjusted by the TDR change that obviously is affecting net interest income and provisions, but it doesn't affect the bottom line. In short, we expect the good evolution to continue, although there is some seasonality in the Consumer Finance business that tends to have a better performance in the first half relative to the second half.

In Mexico, our strategy continues to yield very positive results with significant growth in customer acquisition. Loyal customers up 30%, digital customers up 57%. We saw growth in loans, notably large companies and payrolls and also increasing in funds but a lower rate in deposits because we are focusing on really profitable deposits. Profit is up 12% year-on-year with a very good performance of net interest income. Net interest margin in the quarter was affected by wholesale activities. Retail businesses increased around 4%. So overall, very good quarter with return on tangible equity of 20%.

Portugal, very strong activity in volumes with a gain in market share in all segments. We are producing more or less around 20% in the different businesses in the country. Profit rose 14% year-on-year due to revenue growth, lower costs and the optimization of the operating structure following the integration of Banco Popular. In Poland, as we mentioned in the previous quarter, these results reflect the integration of the retail business of Deutsche Bank. So the growth year-on-year figures are somehow distorted. But again, the integration was concluded successfully. And now we are seeing net operating income after provisions up 12%, although that doesn't flow all the way down to the bottom line because of higher contribution to the deposit guarantee fund and the Banking Tax that is gross. So it flows all the way again down to the bottom line. So a strong quarter, the second quarter, where there was also some seasonal effects from dividends.

Chile, volumes were up 7%, so a very good performance, although the quarter-on-quarter and year-on-year results are distorted by inflation. We have very low inflation in the first quarter that affected results, inflation recovery in the second quarter. But year-on-year, it's still lower and that is affecting our revenues. Profits increased 4% due to the good results in markets, lower provisions and costs, which are growing below inflation. The second quarter was much better again than the first quarter due to the sharp increase in net interest income from high inflation and increased volumes.

In Argentina, a very good performance, although the performance in Argentina continues to be conditioned by the economic environment. Inflation stabilized in the quarter and the economic outlook improved. After a very good performance in the first -- in the second quarter, when we look at the last 12 months in constant euros, profit was stable as high inflation adjustments, in this case, EUR 74 million, was offset by the rise in customer revenues.

In Uruguay, Peru and Colombia, significant increase in customer activity and a very positive evolution of profits that increased 16% to EUR 94 million, the main contributor obviously being Uruguay.

And finally, in the Corporate Centre, the underlying profit was affected by lower gains on financial transactions as a result of higher costs from foreign currency hedging. Net interest income is affected by a higher stock of issuances and the impact of IFRS 16. Operating expenses fell as we see the positive impact of the ongoing streamlining and simplification measures.

I'll now turn it back to José Antonio for his concluding remarks. Thank you.

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José Antonio Álvarez Álvarez, Banco Santander, S.A. - CEO & Vice Chairman [4]

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Thank you, José. And I', going to go to the presentation just to share a couple of -- to say to you a couple of comments. We are developing the activity in an increasingly demanding macroeconomic scenario that, well, affects both mature markets and emerging markets, also in different extension. To grow revenues in mature markets has become difficult, more difficult, due to the lower for longer and the fee income generation being affected by new competitors coming to the market and a reduction in prices while still with -- where we still finding good opportunities to grow in emerging markets, both in net interest income and in fee income.

Well, the -- we see the activity going forward having a good development due to the increase in our strategy of loyalty -- increasing loyalty and number of active customers is proving to be [right] and is producing not only increasing volumes, also translating into revenues. So in some jurisdictions, and we commit to you particularly in Europe, the main driver is going to be the cost side of the equation like -- where we expect to reduce costs, EUR 1 billion nominal costs in Europe. And these remain -- our efforts are going in this direction. And you saw in the numbers that we are progressing well.

The balance sheet remains pretty strong. Capital ratio continue -- we continue to build capital quarter-on-quarter. And the tangible net asset value, aside from fluctuations on currencies, we continue to get good developments there.

Integration of the Santander Global Platform is -- our intention here is to review -- to be as transparent as we can in the old efforts and the [preliminaries] we are doing both in what we call supertankers, the traditional banks, in the digitalization of these -- of the traditional banks. Also we provide to you information about the new activities we are developing in this field that will help in a great measure the transformation of the bank in the coming years.

Finally, we provide to you information about Europe -- the new areas as Europe, North America and South America. And this on the slide in page -- this on the slide in the next page, that translates into the areas, the targets -- the medium-term targets that we provide to you in the Investor Day. You have there the different targets, the main targets, the -- in terms of number of customers, in terms of cost/income, in terms of profitability by the new areas that we defined. You have also as a -- in the final page, the return on tangible equity country-by-country more in a traditional basis.

That's all on our side. We remain at your disposal for the questions you may have in relation with the results or other topics.

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Sergio Gámez Martínez, Banco Santander, S.A. - Global Head of Shareholder & IR [5]

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Thanks, José Antonio and José. And yes, indeed, we can proceed now with the Q&A. So please, operator?

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Questions and Answers

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Operator [1]

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(Operator Instructions) The first question comes from Francisco Riquel from Alantra Equities.

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Francisco Riquel, Alantra Equities Sociedad de Valores, S.A., Research Division - Head of Research [2]

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Two for me. First, on the top line. The interest rate, the scenario has changed in the last few months. If you can please update on the outlook for NII in developed markets, particularly Spain and the U.S.

And second, on costs. If you could please update on the EUR 1 billion of cost-cutting plan in the European operations that you have reiterated today. I understand that half of the targets comes from Spain, where you have already reached an agreement with the unions, so just to check whether you are on track or not. And also if you can please give more color on the other half and in what countries. What actions shall we expect for you to deliver on these targets? We have seen some progress in the U.K. And also what are the pending restructuring costs?

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José Antonio Álvarez Álvarez, Banco Santander, S.A. - CEO & Vice Chairman [3]

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Okay. Interest rate, the scenario, I mentioned in the presentation the lower for longer. Naturally, the shape of the yield curve and the yield curve as a whole has decreased pretty significantly in the quarter. And this is affecting in a significant way our business in Europe. The sensitivity to low rates for 100 basis points is north of EUR 1 billion. So this gives you an idea of the impact. So for that reason, I said in the presentation that the outlook for revenues was difficult in mature markets and depends very much on the activity -- on the levels of activity we are able to develop in the coming years.

On the NIM, on the net interest margin, I'm more optimistic. And if you saw the last couple of quarters, and particularly in this quarter, we increased our net interest margin due to the reduction we were able to get in deposit costs. And we still have some room there that we're going to take advantage of this. At the same time, probably due to the situation of the market, I am a bit more optimistic on the capacity to increase margins on the asset side that are very low at the moment.

In relation with the cost-cutting plan for Europe, you asked the question. I mentioned in the presentation also our EUR 1 billion nominal cost reduction in Europe. And you asked how to split this. I will say, well, by countries, you said Spain is half of this or close to half of this. U.K. is 40% of this, so it's significant. And also we have small numbers in Portugal and shared services.

When we create the idea of Europe, one of the main targets we have is to reduce cost in shared services by EUR 150 million, yes? And this is part of the plan. This is -- comes from all the countries together, doing the things in a different way, both the IT and operations, mostly in IT and operations. IT and operations represent 50% of the cost reduction we are planning in the coming years.

And finally, you said restructuring costs. Well, we're going to have the payback in Spain. What is left is EUR 200 million, more or less, yes? So from the Popular acquisition, the payback is worth 2.3 years. In U.K., probably the payback is 1 for 1, yes? So you can expect a number of -- for restructuring costs in line with the reduction in cost we are pertaining there.

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Operator [4]

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The next question comes from Alvaro Serrano from Morgan Stanley.

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Alvaro Serrano Saenz de Tejada, Morgan Stanley, Research Division - Lead Analyst [5]

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It's related to -- on the NIM outlook, just a follow-up there. You mentioned you're more optimistic on asset spreads. I'm thinking Spain and the U.K. at the moment. What makes you more optimistic on those asset spreads, any particular product? Because it does look pretty challenged, the market, particularly in Spain. And in your deposits, you've got the 1|2|3 account in both countries. I think you've launched a 0|1|2|3 account which lowers the remuneration. Maybe you can give us a sense of defining how much that benefit could be of the 0|1|2|3?

And the second, on the U.S., you've now had year-to-date EUR 400-and-something million versus consensus. I think consensus is looking for EUR 600 million for the full year. So you did it in the first half, EUR 465 million, and consensus was EUR 630 million or so. Is there anything in the second half? You mentioned seasonality already. But provisions looked relatively contained. Is there anything apart from seasonality in terms of the U.S. slowdown, anything you can flag that should produce a slowdown in Q2? Or is consensus just too low?

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José Antonio Álvarez Álvarez, Banco Santander, S.A. - CEO & Vice Chairman [6]

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Okay. So I'm going with the same questions. NII, why I'm not so pessimistic about asset spreads? As I said, the revenue -- the macro environment is difficult. Well, I do think that -- particularly in Spain, not much in the U.K. In U.K., the asset is spread -- the margin compression comes more from the SVR book. So it's the back book who is reducing the size of this book. And the front book, the margin compression, we came from 130 basis points 1 year ago to 90 basis points now. But it's fairly stable in the last couple of quarters, so I'm not seeing in the front book additional margin compression. The margin compression comes from the back book.

While in Spain, I continue to see an environment in which, due to difficult revenues, I see less -- traditionally more aggressive entities less keen to continue with the aggressive financing in the market due to difficulties in generating revenues, particularly this is particularly strong from the domestic players, yes? For that reason, I'm not saying that now is the case. But looking forward, this is my view.

You mentioned on the deposit side, the 1|2|3 account. Naturally, we have all the -- a full range of products. We have the 1|2|3 account, but we have other accounts just because some customers are more sensitive. They don't care about balances or interest rate that we pay, they care more about the fee and we have different accounts that we can adapt to this. So well, I still see some room to reduce deposit costs, yes? So both across Europe, including Consumer Finance, Spain, Portugal and U.K., we are talking not a big deal, but 5, 10 basis points is something that I think we can achieve that given the current levels is significant.

So the question about the U.S. The U.S. business is, as José mentioned, is doing well. Volumes are growing. Finally, we've got an agreement with Chrysler to keep working with them the next 4, 5 years in SCUSA. Our penetration rate in Chrysler went up to 35%. The scenario -- the greater scenario is fairly benign. The residual values of the cars in lease activities are holding up. And the last vintage has shown Consumer Finance having better behavior.

So with low rates, in the case of the U.S., goes in favor of the consumer activities, [it should have] got placed against the banking activities. But overall, in consumer, we are optimistic. Although as José mentioned, the second quarter and the first quarter are the seasonal highs. The third and the fourth quarter are much weaker in consumer activities. But overall, I remain optimistic about the capacity of SCUSA to keep generating good results.

While in the bank, in the bank, probably I explained in the previous quarters, we are making good progress in the corporate CIB activities. While in retail, we are still working on this and improving the operations in the -- and improving the branches and everything to improve our competitiveness in the market.

So we are going up in the rankings in terms of customer satisfaction and the -- how the customer value our apps and all these things. So we are -- the trend goes in the right direction, but there's still work to do. Overall, I remain fairly optimistic about our capacity to continue to generate good growth in profits in the U.S. activities.

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Operator [7]

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The next question comes from Sofie Peterzens from JPMorgan.

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Sofie Caroline Elisabet Peterzens, JP Morgan Chase & Co, Research Division - Analyst [8]

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It's Sofie from JPMorgan. I'm going to ask on capital, your capital progression was good this quarter. Could you just remind us what kind of capital headwinds and tailwinds you see in coming quarters that we should take into consideration? Are there any more regulatory headwinds that you expect to take and how we should view capital in coming quarters?

And my second question would be on Santander Global Platform. Could you just give a little bit guidance how we should think about the performance and the outlook in this division over the next 2, 3 years? And my last question is on the IRPH mortgages. Could you just give your view of what you expect from the September ruling?

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José Antonio Álvarez Álvarez, Banco Santander, S.A. - CEO & Vice Chairman [9]

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Okay. So let me to elaborate in the Santander Global Platform and IRPH and I pass to José the capital headwinds to go into what we have in front of us going forward. Overall, I gave you the guidance, the organic capital generation. And José will elaborate about the headwinds.

Santander Global Platform, as I said to you, we have several business there. The most important ones are Openbank. We've been providing the financials of this bank and we keep updating you on this. So this is a -- we plan to expand Openbank as an activity to several markets in Europe and several markets in Latin America in the coming years. It's a full banking proposition, and we provide good results.

The other activities I mentioned there that probably you're less aware of, I do expect Superdigital already has financials. They are making some money already in Brazil. And we expect this activity to start to make money from the very beginning or achieve the breakeven in several counties.

This is not going to be in itself a big P&L generator. But this is going to be extremely important to generate customers for the banks, yes, for the traditional banks, because as I said to you, this is for unbanked population, not only for unbanked population, we also reach agreements with the other distribution networks in order to gather their revenues through our Superdigital proposition, like the one going -- the agreement we reached in Brazil with a large network of sellers called Natura with 1 million sellers in the state that they use Superdigital in order to process and to gather the cash they get from the revenues they are doing. So it's a proposition for unbanked population but also serves some type of -- some kind of business. This is the second one.

The third one and the fourth that I mentioned in the presentation, the GMS and GTS, are more embedded in the traditional banks. GMS is acquiring business. As you know, we have significant market shares in the majority countries in which we operate and we try to be the full proposition for all the banks we operate. So we already have -- the starting point is GetNet in Brazil, where we started 6 years ago or 7 years ago with 4% or 5% market share. Now we've got 15% market share and still growing. And we have market shares in Spain, 15%, 16%, in Mexico, 15%, in other geographies, in line with our market share. And we plan to put all these together in order to have a stand-alone, the same proposition all across the board. And eventually, third parties will use the platform, the GMS, the acquiring platform may use -- the third parties may use the platform in the markets in which we plan to operate this platform. But this is a significant revenue and P&L business.

And finally, GTS. GTS is more an idea of providing middle market. And this means with the same kind of services the CIB customers are getting already and with having a full digital proposition all across the board for these kind of customers. This is also potentially a good way to get significant revenues out of this business. But we plan to improve significantly our proposition in order to accelerate the growth in this space.

Those are the most significant business. You have all the others. And our idea through the Investor Relations department and quarter-on-quarter to provide detailed information of all this.

IRPH, you mentioned, well, the latest news I have is we're going to have a ruling by the end of the year. Our portfolio there, if I am not wrong, is around EUR 4 billion, yes? So the 50% came from Popular, 50% was by -- generated by Santander. And that's all I can tell you about this. Well, nothing else on top of this, yes? So José, do you want to explain capital?

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José Antonio García Cantera, Banco Santander, S.A. - CFO, Head of Financial Division & Senior EVP [10]

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Yes. On capital, well, it's always very, very difficult to estimate the impact of capital inspections. But I would say we will expect to see another 20 to 30 basis points of regulatory headwinds in the second half, and -- but at the same time, we would expect our capital ratio to grow from here until the year-end. As we mentioned in our Investor Day, our target is to get to 11.50% as soon as possible.

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Operator [11]

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The next question comes from Mario Ropero from Fidentiis.

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Mario Ropero, Fidentiis Equities S.V.S.A., Research Division - Senior Banking Analyst [12]

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The first one is a follow-up on what you just said on the 20 to 30 basis regulatory headwinds still pending in the second half. Can you please clarify how much is TRIM and what would be the rest?

Then the second one is on behalf of a fall in Spain, could you please tell us what is the average yield and the pace at which you expect this yield today to decline, given the yield compression that we are seeing very recently?

And then finally, just a follow-up on the cost guidance you gave for the U.K. If I'm correct, you said that basically we can expect a decline in the cost base in the U.K. equal to the restructuring charges that we are seeing. Is that correct? I mean, basically, the decline that we are seeing in the U.K. in cost this quarter is not all, no? I mean, we are still waiting to see more.

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José Antonio Álvarez Álvarez, Banco Santander, S.A. - CEO & Vice Chairman [13]

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Thank you. I take the cost question in the U.K. and José will elaborate in the other 2, the capital and the ALCO portfolio. The cost guidance in U.K., I said to you that basically in the context of the EUR 1 billion reduction in costs in Europe, probably around EUR 400 million or something like that comes from the U.K.

And as for the question how much this in restructuring costs? I said in U.K. normally it's 1 for 1, yes? So it's what I said. This is in the medium term. So you should expect a reduction in cost in the U.K. of this size or the size I mentioned, yes? José?

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José Antonio García Cantera, Banco Santander, S.A. - CFO, Head of Financial Division & Senior EVP [14]

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All right. So as I said, it's again very difficult to estimate future impacts from regulatory inspections. But I would say we still have the SME TRIM pending. The conclusions of that exercise, that could mean around 10 to 15 basis points, I would say. Then we have some other exercises from -- for corporate activities and market-related activities. And then we have the first impacts of FRTB and others. So I would say of -- from 20 to 30, I would say 2/3 would be TRIM and the rest would be other smaller impacts. For the ALCO portfolio, the yield is around 1% right now.

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Operator [15]

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The next question comes from José Abad from Goldman Sachs.

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José Maria Abad Hernandez, Goldman Sachs Group Inc., Research Division - Executive Director [16]

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My first question is on rate cuts on monetary policy. In case of additional rate cuts by the ECB over the coming months, which seems actually likely, what's the rationale for not passing these negative rates through to a broader group of clients? So in -- and in particular, what's the rationale for not passing these negative rates through to retail customers and households?

Now my second question is on dividend policy. So the Deputy Governor of Bank of Spain has been actually very vocal over the last actually 2, 3 months about the need of Spanish banks actually to accelerate the buildup of capital through several channels. One is a return of a scrip dividend, which you've probably done. And the other is actually banks changing the way they or you provide guidance. They suggest actually guidance to be linked to the payout of a reported earnings rather than to an absolute amount, which is partially actually your case. So in light of this, should we be expecting any changes in your dividend policy and/or capital plans targets going forward?

And if I may, a third question on the countercyclical capital buffer, which remains at 0 in some of your realms, in particular Spain, whether we should expect actually an increase either in second half or first half of next year.

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José Antonio Álvarez Álvarez, Banco Santander, S.A. - CEO & Vice Chairman [17]

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Okay. The question ECB negative rates, is why not to pass to the customers? We are already doing. We've been doing in the most -- we started with institutional clients as long as the rates got more and more into the negative territory, we need to rethink our view in relation with this. Particularly with the large corporates and corporates, we need to start to think how we'll manage the deposits, more the deposits that are not operational deposits. Those who are operational probably will remain 0. Those who are not operational, we need to look at this.

Your question about retail, probably it's too early to enter into this territory of charging retail customers for holding deposits. It's a discussion that is not on the table right now.

In relation with the dividend policy, so our policy is we said to pay out 40% to 50%. You mentioned -- you relate this with the ECB, Bank of Spain comments and the capital targets. Naturally, every year, we have a [ICAP], the capital plan, in which we include our projections for dividends and capital and building the capital required for the business with the buffers [we can add in]. So I do not see a -- we're going to -- I don't see any threat to this 40%, 50% payout ratio.

When you mention to pay dividends based on reported profits and being audited, we already changed our quarterly dividend policy for the ratio and -- because we were paying the first interim dividend before the first half results were audited. And we concentrate the dividends in 2 payments. But this doesn't mean that we plan to change our payout ratio. So it's a question to accommodate to the requirements that have audited results before we pay any dividend to the shareholders.

And finally, the countercyclical buffer, it's true that the Bank of Spain published something -- the methodology to estimate the countercyclical buffer. It maybe is too early to say. I don't know if you want to...

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José Antonio García Cantera, Banco Santander, S.A. - CFO, Head of Financial Division & Senior EVP [18]

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Yes. In any case legally, any requirement for countercyclical buffers actually enters into force a year later. So even -- we wouldn't expect anything in the coming quarters. But just to give you sensitivity, a 25 basis point countercyclical buffer in all countries where we operate in Europe would increase our capital requirements at group level by around 8 basis points.

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Operator [19]

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The next question comes from Andrea Unzueta from Credit Suisse.

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Andrea Unzueta, Crédit Suisse AG, Research Division - VP [20]

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The first one is on the Brazilian NII, if you could give us the contribution from the bond portfolio this quarter. I know it was quite stable in previous quarters. But I was wondering what happened this quarter? And how should we think about that proportion of NII in Brazil going forward?

And the second one is just a clarification. Last quarter, you guided for regulatory impact on capital of around 20 to 30 basis points. And I had understood that you booked 12 basis points this quarter. But your guidance going forward remains the same. So I was wondering if there is an incremental regulatory impact now.

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José Antonio Álvarez Álvarez, Banco Santander, S.A. - CEO & Vice Chairman [21]

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So I think in the second part of the -- I thought we guide you to 50 to 60 basis points regulatory impact for the whole year, yes? And we are still basically within this range, yes? So I don't know if I made a mistake, but what I have in my head, I always had 50 to 60 basis points and in line with what José elaborated what is coming in the next 2 quarters is the figures José mentioned. And NII on the bond?

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José Antonio García Cantera, Banco Santander, S.A. - CFO, Head of Financial Division & Senior EVP [22]

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Yes. We have an ALCO portfolio in Brazil of around EUR 16 billion with an average yield of 10%. So with this -- and the average duration is 3 years.

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Operator [23]

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The next question comes from Daragh Quinn from KBW.

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Daragh Joseph Quinn, Keefe, Bruyette & Woods Limited, Research Division - Analyst [24]

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It's Daragh Quinn from KBW. Just on the U.K., maybe if you could just give us more detail about that outlook for weaker margins and the net reduction in costs but also presumably some kind of normalization of provisions. Just trying to understand how the mechanics work to see an improvement in return on equity from the current levels.

And then just on capital, you've reiterated the organic capital generation. But just looking a bit further out, I mean what kind of impact do you anticipate from operational risk or other areas of Basel IV that could also have -- has an impact that, at some stage, the market will start wanting to take into account?

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José Antonio Álvarez Álvarez, Banco Santander, S.A. - CEO & Vice Chairman [25]

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Okay. Thank you. The first question about U.K., I mentioned in the margin side was basically the impact is coming from the back book, the standard variable rate that, while although I have reduced a bit, will continue to be there. In the fee income generation, over the last -- as you know, limiting over (inaudible) isn't an issue. So we're going to produce a significant reduction in costs. There's already areas in which we can grow revenues. Particularly, we can grow revenues with a more focused activity in the corporate sector, also what revenues we get from other areas like -- related more with fee income.

In provisions, well, normalization, what you call normalization, we are not seeing signs of deterioration of the mortgage book because, well, as you know, 85% or 90% of the book is mortgages -- are mortgages. Loan to value is pretty low, so -- well, it's more -- you can make the hypothesis on your own of what you call normalization of provisions. We are not seeing any risk of -- at this point to have a high provision seeing in -- meaning mortgages, although I understand that the level -- the current level is very low, but it has been very low for years already, yes? Well, capital, [duration] operationally Basel IV is 2022, José?

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José Antonio García Cantera, Banco Santander, S.A. - CFO, Head of Financial Division & Senior EVP [26]

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Yes. I think it's still very early, although, Daragh, you know this, although it seems that Basel IV is really finalized, the reality is that it's not. And in terms of the operational risk, as you know, there are 2 components. One is size and the other one is the multiplier. The multiplier still needs to be defined. And there are some uncertainties with regards to size and the size of the actual operational loss that is part of the calculation.

So the range, depending on how this plays out, actually the range could be somewhere in between like 20 to 100. So I think it's speculation at this stage. And until we see this really finalized, I prefer not to give you a number because again it will very much depend on the outcome.

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Operator [27]

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The next question comes from Fernando Gil de Santivañes from Barclays.

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Fernando Gil de Santivañes d´Ornellas, Barclays Bank PLC, Research Division - Research Analyst [28]

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Just a quick one from my side. The first one is volumes in Spain and U.K., what are the trends that you're seeing and especially in Spain after the new mortgage law? This is one.

Second would be the fixed-rate mortgage production. How do you see it in Spain?

And finally, in the U.S., you had the approval to increase in Santander Consumer. So if you can please provide an update on how you are doing on the increase on shareholder in Santander Consumer? And the capital release, if you get to that figure, 80%, how much will it be?

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José Antonio Álvarez Álvarez, Banco Santander, S.A. - CEO & Vice Chairman [29]

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So volumes in Spain, particularly in mortgages after the new mortgage law was introduced. Naturally, when you introduce a new law that is much more demanding on terms of the requirements in order to reassure that the customers know every stream of the contract they sign and they need to go twice to the public notary, for example, when before it was just one. And they sometime, between the first visit, let's call in that way, to the notary and the second one, creates some noise in the process. But it's a pure procedure. And some of the digital deployments that were new to assure that the new process was working properly had some problems because they were different developments in the market.

Aside from this I will call noise, the activity remains, I would say, business as usual. When I mean activity, I mean activity in the demand of the new mortgages, not the activity on finally signing the mortgages, where the procedure creates some noise in this. But I wouldn't say nothing that wasn't expected, yes? So the usual thing when you introduce a more -- much more demanding in terms of procedure law.

And other than mortgages, I will say, well, probably this is more about us than the market as a whole, we are more demanding in terms of profitability of the new lending. For that reason, probably we are less -- we are growing less or even decreasing some portfolios that the profitability is not the one we require. And other than that, I don't see a change in trend.

In the U.K., José already mentioned that we are seeing a growth of 1%, 2%. We are growing in line with the market, both in mortgages and the other items. And I don't see this changing. So we haven't seen a change in the trends in the market in the U.K.

Fixed rate, we are 20-something percent of the new production is coming from fixed rate. We are not so pushing that much this. We are -- let's say, we have a policy in which we offer fixed -- both fixed and floating rate without particular bias in our distribution of mortgages towards fixed rate or variable rate. We are allowing -- we inform the customers that we're allowing them to choose what they think is more convenient to them.

Finally, your last question, SCUSA buyback, capital release in relation with this. Well, you know it's public. The share buyback is now $1 billion, up to $1 billion. According to the SEC rules that we have a percentage that we can buy based on the volume. Depending on the volume, we will reach the 80%, where is the level at which triggers a capital release depending on the price at which we buy. Because depending on the price, the price matters at the price I would buy, but maybe in the region of 10 basis points or maybe below 10 basis points, yes? So that's the outcome we expect.

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Operator [30]

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The next question comes from Andrea Filtri from Mediobanca.

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Andrea Filtri, Mediobanca - Banca di credito finanziario S.p.A., Research Division - Research Analyst [31]

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First question, on BRRD II, what are the main changes versus your current MREL requirement? And if you can elaborate on this final version to address us on this. And secondly, on capital, what's the outlook for the approval of the new U.K. IRB models?

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José Antonio Álvarez Álvarez, Banco Santander, S.A. - CEO & Vice Chairman [32]

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Okay. The MREL requirements has no impact at all. BRRD II has no impact on us at all. In relation with the approval of models in U.K., well, we need the approval of both the local regulator and the ECB. I don't know if you have a specific...

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José Antonio García Cantera, Banco Santander, S.A. - CFO, Head of Financial Division & Senior EVP [33]

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No. Obviously, the approval of models now, it's a bit more complicated because of Brexit because it has to be approved by both the ECB and the PRA. And the current situation is delaying a little bit the approval of the models. We expected to have some new mortgage models approved this year. Now it seems that it's going to be delayed to next year. But again, this is not going to affect our plans in terms of the targets that I gave you earlier.

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José Antonio Álvarez Álvarez, Banco Santander, S.A. - CEO & Vice Chairman [34]

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But having said that, our weighting in U.K. probably now is in the mid-teens, when our competitors on average are around 10%, 11%, yes? So it's a big deal for us. But when this is going to happen, I cannot give you a specific timetable for this. Okay?

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Sergio Gámez Martínez, Banco Santander, S.A. - Global Head of Shareholder & IR [35]

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Thank you, everyone. Thanks for joining. And obviously, the IR team is at your disposal for any follow-up you may have. Thank you.