Pressure on margins sends HBOS tumbling

HBOS tried to shore up confidence in its business yesterday after tightening profit margins caused shares in Britain's biggest mortgage lender to plunge.

Investors took fright after the owner of Halifax said 60m of increased retail funding costs had more than wiped out gains from higher mortgage rates in the second half of the year. Shareholders were also worried that earnings, which are set to meet market expectations, were boosted by one-off gains from selling corporate banking investments.

Andy Hornby, HBOS's chief executive, stressed HBOS expected to meet earnings expectations despite a 180m hit to profits from writing down securities in its trading book due to the credit crunch. The bank is also writing down another 340m, though these provisions will go through its reserves instead of coming out of profits.

But investors are more concerned about prospects for revenues as margins are squeezed and retail lending threatens to dry up. HBOS said its net interest margin would drop more than it had expected for the full year as higher funding costs in the wholesale markets bite into profitability.

Mr Hornby said the bank was giving an honest assessment of short-term pressures, but that HBOS's business was in good health for the long run. "When wholesale markets start to adjust, we will see margin improvements," Mr Hornby said. "I am confident in terms of the outlook."

The bank said it would not buy back any more shares until markets calmed down, having returned 500m of capital to shareholders this year.

Mr Hornby said the slump in HBOS's shares was partly a reaction to central banks' decision to inject 50bn of liquidity into the financial system, which has unnerved some in the markets.

But HBOS's stock fell more than 8 per cent in the worst one-day slump for more than five years. Analysts said the bank now looked riskier because profits relied more on corporate lending than steady earnings from retail banking.

The bank increased corporate lending in the second half as rivals reined in their lending. Mr Hornby said the bank was being extremely careful who it did business with and had cut back on its commercial property lending.

Citigroup analysts said the quality of the bank's earnings now looked weaker. "With market dislocation expected to continue, we would expect downward revisions to the 2008 market consensus," the Citi analysts added.

But Mr Hornby said HBOS would be a gainer from increased deposits as savers put their money into safer institutions and consumers tighten their belts in the face of a slowdown. He said HBOS had taken in more than 1bn in extra deposits in November.

HBOS's $35bn (17.2bn) Grampian conduit fund is funding itself in the commercial paper market, and the bank is "very, very comfortable" with the unit, Mr Hornby said.