2008 Interim Report Section 5

4th Aug 2008 18:10



Geographical regions

Summary

In the analysis of profit and loss by geographical region that follows, operating income and operating expenses include intra HSBC items of US$1,169 million (first half of 2007: US$852 million; second half of 2007: US$1,133 million).

Profit/(loss) before tax 

	Half-year to
	30 June 2008				30 June 2007				31 December 2007
	US$m		%		US$m		%		US$m		%
Europe	5,177		50.5		4,050		28.6		4,545		45.2
Hong Kong	3,073		30.0		3,330		23.5		4,009		39.9
Rest of Asia-Pacific	3,624		35.4		3,344		23.6		2,665		26.5
North America	(2,893)		(28.2)		2,435		17.2		(2,344)		(23.3)
Latin America	1,266		12.3		1,000		7.1		1,178		11.7
	10,247		100.0		14,159		100.0		10,053		100.0

Total assets6

	At 30 June 2008				At 30 June 2007				At 31 December 2007
	US$m		%		US$m		%		US$m		%
Europe	1,313,319		51.5		1,040,019		48.3		1,184,315		50.3
Hong Kong	325,692		12.8		300,681		14.0		332,691		14.1
Rest of Asia-Pacific	259,041		10.2		201,123		9.4		228,112		9.7
North America	531,607		20.9		519,693		24.2		510,092		21.7
Latin America	117,019		4.6		88,925		4.1		99,056		4.2
	2,546,678		100.0		2,150,441		100.0		2,354,266		100.0

Europe

Profit/(loss) before tax by country within customer groups and global businesses

	Personal Financial Services US$m		Commercial  Banking  US$m		Global Banking  and Markets14 US$m		Private Banking US$m		Other US$m		Total US$m
Half-year to 30 June 2008
UK	1,164		1,656		329		162		168		3,479
France15	122		151		492		14		(70)		709
Germany	-		21		122		20		(8)		155
Malta	26		33		12		-		-		71
Switzerland	-		-		-		335		-		335
Turkey	19		51		56		-		-		126
Other	(7)		28		179		48		54		302
	1,324		1,940		1,190		579		144		5,177
Half-year to 30 June 2007
UK	384		1,001		902		198		(79)		2,406
France15	97		119		461		9		26		712
Germany	-		19		125		25		-		169
Malta	26		35		18		-		-		79
Switzerland	-		-		-		260		-		260
Turkey	71		34		56		-		-		161
Other	26		28		112		1		96		263
	604		1,236		1,674		493		43		4,050

For footnotes, see page 89.

	Personal Financial Services US$m		Commercial  Banking  US$m		Global Banking  and Markets14 US$m		Private Banking US$m		Other US$m		Total US$m
Half-year to 31 December 2007
UK	837		1,063		312		119		1,055		3,386
France15	76		73		231		16		(75)		321
Germany	-		17		70		20		19		126
Malta	19		32		27		-		-		78
Switzerland	-		-		-		215		-		215
Turkey	73		41		62		(1)		-		175
Other	(28)		54		151		53		14		244
	977		1,280		853		422		1,013		4,545

Loans and advances to customers (net) by country

	At 30 June  2008 US$m		At 30 June 2007 US$m		At 31 December 2007 US$m
UK	380,051		325,199		326,927
France15	78,376		67,670		81,473
Germany	7,638		5,763		6,411
Malta	4,684		3,700		4,157
Switzerland	14,829		11,164		13,789
Turkey	8,127		6,148		7,974
Other	15,255		8,464		11,544
	508,960		428,108		452,275

Customer accounts by country

	At 30 June  2008 US$m		At 30 June 2007 US$m		At 31 December 2007 US$m
UK	413,593		346,547		367,363
France15	60,281		48,961		64,905
Germany	11,054		9,671		10,282
Malta	6,292		4,779		5,947
Switzerland	42,125		35,266		41,015
Turkey	7,090		5,074		6,473
Other	9,205		8,210		8,969
	549,640		458,508		504,954

For footnotes, see page 89.

Economic briefing

The UK economy slowed in the first half of 2008. Gross Domestic Product ('GDP') increased by 2.0 per cent during the first half of the year against the comparable period of 2007, somewhat below the average of the past decade. The housing market deteriorated markedly as the number of mortgage approvals for house purchases fell sharply and nominal house prices recorded small but persistent monthly declines. Employment growth was subdued, with some measures of unemployment increasing slightly during the second quarter of 2008. The Bank of England cut interest rates by 50 basis points during the first half of 2008, although a sharp rise in inflation to an annual rate of 3.8 per cent in June complicated the outlook for monetary policy during the second half of the year.

Having expanded by 2.6 per cent in 2007, GDP in the eurozone rose by 2.1 per cent year-on-year in the first quarter of 2008 driven, in part, by a strong increase in business investment and a further rise in exports. Labour markets remained relatively robust, with the unemployment rate for the region remaining at about 7 per cent. However, consumer spending growth was subdued and most indicators of activity deteriorated as the second quarter progressed. Inflation continued to pick-up during the first half of 

Profit before tax

	Half-year to
Europe	30 June2008 US$m		30 June2007 US$m		31 December 2007 US$m
Net interest income	4,475		3,920		3,826
Net fee income	4,223		4,144		4,287
Net trading income	3,649		3,338		3,605
Net income/(expense) from financial instruments designated at fair value	(659)		348		878
Gains less losses from financial investments	608		790		536
Dividend income	20		161		10
Net earned insurance premiums	2,286		1,480		2,530
Other operating income	1,427		262		931
Total operating income	16,029		14,443		16,603
Net insurance claims incurred and movement in liabilities to policyholders	(1,388)		(1,146)		(2,333)
Net operating income before loan impairment charges and other  credit risk provisions	14,641		13,297		14,270
Loan impairment charges and other credit risk provisions	(1,272)		(1,363)		(1,179)
Net operating income	13,369		11,934		13,091
Total operating expenses	(8,193)		(7,972)		(8,553)
Operating profit	5,176		3,962		4,538
Share of profit in associates and joint ventures	1		88		7
Profit before tax	5,177		4,050		4,545

	%		%		%
Share of HSBC's profit before tax	50.5		28.6		45.2
Cost efficiency ratio	56.0		60.0		59.9
Period-end staff numbers (full-time equivalent)	84,457		80,912		82,166
Balance sheet data6
	US$m		US$m		US$m
Loans and advances to customers (net)	508,960		428,108		452,275
Loans and advances to banks (net)	94,795		79,817		104,527
Trading assets, financial instruments designated at fair value and  financial investments16	481,015		370,193		445,258
Total assets	1,313,319		1,040,019		1,184,315
Deposits by banks	112,081		86,912		87,491
Customer accounts	549,640		458,508		504,954

For footnotes, see page 89.

the year, rising from an annual rate of 3.1 per cent in December 2007 to 4.0 per cent by June 2008. The European Central Bank responded by raising interest rates by 25 basis points in July, taking the repo rate to 4.25 per cent.

In Turkey, economic activity accelerated slightly during the early months of 2008, with first quarter GDP growth rising by 6.6 per cent on the comparable period in 2007. Growth is, however, expected to moderate during the remainder of 2008 in response to weakening business and consumer confidence, political uncertainty and rising interest rates. Headline inflation remained under pressure from increases in energy and food prices, rising from 8.4 per cent in December 2007 to 10.6 per cent in June 2008. The Central Bank of the Republic of Turkey revised its medium-term inflation forecasts and, after initially reducing interest rates, tightened policy, raising rates by 50 basis points in both May and June 2008. The current account deficit widened to above 6 per cent of GDP, although HSBC expects continued capital inflows and the high level of interest rates to provide support to the domestic currency. 

Reconciliation of reported and underlying profit before tax

	Half-year to 30 June 2008 ('1H08') compared with half-year to 30 June 2007 ('1H07')
Europe	1H07 as reported US$m		Disposals  and  dilution   gains1 US$m		Currency translation2 US$m		1H07 at 1H08 exchange rates US$m		Acqui- sitions1 US$m		Under- lying  change  US$m		1H08 as reported US$m		Re- ported change %		Under- lying change %
Net interest income	3,920		(7)		129		4,042		150		283		4,475		14		7
Net fee income	4,144		122		169		4,435		(46)		(166)		4,223		2		(4)
Other income3	5,233		(101)		213		5,345		(49)		647		5,943		14		12
Net operating income4	13,297		14		511		13,822		55		764		14,641		10		6
Loan impairment charges and other credit risk provisions	(1,363)		-		(11)		(1,374)		-		102		(1,272)		7		7
Net operating income	11,934		14		500		12,448		55		866		13,369		12		7
Operating expenses	(7,972)		5		(299)		(8,266)		(17)		90		(8,193)		(3)		1
Operating profit	3,962		19		201		4,182		38		956		5,176		31		23
Income from associates	88		-		16		104		(12)		(91)		1		(99)		(88)
Profit before tax	4,050		19		217		4,286		26		865		5,177		28		20

For footnotes, see page 89.

Review of business performance

European operations reported a pre-tax profit of US$5.2 billion compared with US$4.1 billion in the first half of 2007, an increase of 28 per cent. On an underlying basis, pre-tax profits increased by 20 per cent. In March 2007, HSBC acquired the remaining 50 per cent interest in HSBC Assurances in France. In October 2007, HSBC disposed of the Hamilton Insurance Company Limited and Hamilton Life Assurance Company Limited in the UK. Underlying net operating income grew by 6 per cent, in contrast with operating expenses, which fell by 1 per cent.

Personal Financial Services delivered the strongest increase in pre-tax profits due to a solid performance in the UK and continued expansion in Turkey. In the UK, growth was driven by lower operating expenses, in part reflecting the absence of the overdraft fee refund charges recognised in the first half of 2007, lower credit impairment charges and a one-off gain on the disposal of MasterCard Inc. ('MasterCard') shares. Commercial Banking was strongly ahead of the first half of 2007, as the strength of established businesses in the UK and France was complemented by strong growth in Turkey and other emerging markets. Commercial Banking also benefited from one-off gains on the disposal of the UK merchant acquiring business to a joint venture with Global Payments Inc., together with its share of the disposal gain on the sale of MasterCard shares. Private Banking performed well, as a result of significant inflows of client assets combined with increased foreign exchange trading profits due to volatile markets. Pre-tax profits declined in Global Banking and Markets, driven by write-downs in credit-related trading exposures, which outweighed improvements in Balance Sheet Management and Rates. 

In France, HSBC's disposal of seven regional banks was completed on 2 July 2008 and a profit on disposal of US$2.1 billion will be recognised in the second half of 2008.

The following commentary is on an underlying basis.

Personal Financial Services reported a pre-tax profit of US$1.3 billion, an increase of 97 per cent compared with the first half of 2007. In the UK, preߛtax profit growth was driven by a reduction in loan impairment charges, following the enhanced credit controls introduced since 2006, together with lower operating expenses and a one-off gain on the disposal of MasterCard shares. In France, a US$38 million gain on the disposal of four mutual funds was offset by a fall in net interest income, as a contraction of spreads counteracted the benefit of higher balances. In Turkey, revenue growth, driven by increasing volumes on credit cards, deposit accounts and personal loans, outweighed the significant increase in costs incurred to support business growth and higher loan impairment charges as loan balances grew and seasoned. 

In the UK, marketing campaigns primarily focused on higher value customers. The highly successful RateMatcher campaign, launched in April 2008, delivered a significant increase in new mortgage business, with balances transferred amounting to US$1.3 billion. Additional non-Rate Matcher mortgage business was also written as a result of the campaign. On current accounts, the acquisition of customers to fee-based packaged accounts continued with the 'One Great Rate' campaign launched in February 2008. The Group also continued its focus on Premier, which was re-launched during 2007 in order to provide seamless cross-border banking for affluent customers. 

In France, HSBC's disposal of seven regional banks was completed on 2 July 2008. These subsidiaries had been classified as held for sale and, accordingly, their net profits since February 2008 were reported within other operating income rather than in the individual income statement lines. In its core business in France, HSBC increased market share, building on its growing brand awareness. HSBC's Personal Financial Services business in France, going forward, is focused on its core strategic segment of customers with a strong international connectivity. Premier was relaunched in France in the first half of 2008, supported by an extensive media campaign along with customer acquisition initiatives based on direct marketing. As a result, new Premier account openings have increased by more than 70 per cent since the first half of 2007.

In Turkey, HSBC's organic growth strategy concentrated on delivery through branch expansion and new customer acquisition, predominantly led by credit card products. Investment in network expansion continued throughout the first half of 2008, with the opening of 78 new branches, supported by the addition of more than 1,500 staff since June 2007.

Net interest income was in line with the first half of 2007. In the UK, growth in savings balances and increased spreads on current accounts and credit cards were offset by the effect of a planned reduction in personal lending and credit card balances and a reduction in spreads on savings accounts.

HSBC's increased focus on attracting and retaining deposit customers drove a 19 per cent increase in UK savings account balances for both new and existing customers. A number of new savings products launched in the past year, including a cash e-ISA and Online Bonus Saver, contributed to this growth. The resulting increase in net interest income from volume growth was partly offset by tightening spreads, due to competitive pricing and consecutive base rate cuts.

Average current account balances declined by 5 per cent, due to a reduction in the size of individual customer account balances, driven by recent increases in food and utility costs. Despite this, the focus on high value customer account acquisition continued, with new Premier account openings 18 per cent above the first half of 2007. Current account spreads increased, driven by funding benefits, resulting in a 1 per cent growth in net interest income on current accounts.

Average unsecured lending balances in the UK declined by 10 per cent, reflecting a shift in risk preference and a greater focus on attracting deposit customers. HSBC maintained a cautious approach to unsecured lending, tightening its credit criteria and employing segmentation and risk-based pricing strategies in order to improve the profitability of new business. Spreads increased on unsecured loans as price rises implemented in the second half of 2007 flowed through the portfolio, while the cost of funds was largely fixed.

Credit card balances were 9 per cent lower than in the first half of 2007, falling to US$14.2 billion. This was predominantly due to the sale of certain non-core credit card portfolios between October 2007 and May 2008 and the more conservative approach to lending noted above. The resulting reduction in net interest income was partly offset by the benefit of a re-pricing exercise undertaken during 2007, which resulted in improved yields. 

Average mortgage balances were 2 per cent lower than in the first half of 2007, driven by an industry-wide decline in mortgage volumes. Buy-to-let mortgages continue to represent less than 3 per cent of the UK mortgage portfolio, the result of a decision not to write brokered or self-certified mortgages. Despite turbulence in the UK mortgage industry, the market for remortgages remained relatively healthy and, with many lenders unable to compete, HSBC was able to expand its business, launching its mortgage RateMatcher campaign in April 2008. The campaign proved to be a success, generating significant press coverage and inbound call activity and a 38 per cent increase in mortgage applications compared with the first half of 2007. The RateMatcher campaign boosted HSBC's market share of new mortgage business by value from 3 per cent in the first half of 2007 to 6 per cent in the first half of 2008, with a high of 12 per cent achieved in the month of May. The income benefits of the new business generated by the RateMatcher campaign will be seen in the second half of 2008 due to the time lag between loan approval and draw down. 

Excluding the regional banks, net interest income in France fell. Growth in deposit and lending volumes from new customers attracted by direct marketing campaigns was more than offset by narrower spreads, higher liquidity costs and a lower benefit from net free funds. 

In Turkey, net interest income rose by 22 per cent, largely from increased card balances, where HSBC's customer acquisition strategy led to a 37 per cent increase in credit cards in circulation, supported by a larger branch network and several new products, including co-branded and partnership cards. This volume-related growth was partially offset by a narrowing in spreads due to a sharp reduction in the interest rate cap set by the Central Bank of the Republic of Turkey. Competitive pricing designed to gain market share also led to an increase in volumes on deposit accounts and overdrafts, which more than compensated for the resulting decline in margins.

Net fee income was 5 per cent lower as an increase in Turkey offset a decline in France and a fall in the UK, partly due to a reduction in credit card fee income as a result of the partial disposal of the non-core credit card portfolios referred to above. In Turkey, credit card fees increased, driven by a 37 per cent increase in the number of cards in force, as a result of cards being deployed as the principal product to deliver customer acquisition. Excluding the regional banks, fee income in France was lower than in the first half of 2007. Increased sales of fee-based packaged accounts partly compensated for lower stock exchange and mutual fund fees, as poor market conditions deterred private investors. 

Net trading income declined by 27 per cent. The movement in trading income largely reflected the fair value measurement of embedded options linked to government regulated home savings products in France.

Net income from financial instruments designated at fair value fell significantly to a loss of US$761 million. This was driven by falling investment markets affecting assets held within the life insurance businesses in France, the UK and Malta. A corresponding movement within net insurance claims and movement in liabilities to policyholders partially offset this decline.

Gains less losses from financial investments increased significantly to US$182 million, driven by a US$38 million gain on the disposal of four mutual funds in France during January 2008 and a US$160 million gain on disposal of MasterCard shares in the UK in June 2008.

Net earned insurance premiums increased by 4 per cent to US$2.1 billion, mainly in the UK due to continued sales of the new Guaranteed Income Bond which was launched in July 2007 and due to the reclassification of certain pension contracts as 'insurance' rather than 'investment' products following the addition of enhanced life insurance features. In France, net insurance premiums reduced following the ceding of premiums under a significant reinsurance transaction in the first half of 2008. Excluding this, premium income was higher due to the success of promotional offers. The additional premiums led to additional policyholder liabilities being established and therefore to an increase in net insurance claims. 

Other operating income increased to US$252 million, compared with an expense of US$110 million in the first half of 2007. This was mainly due to the non-recurrence of the Financial Services Authority ('FSA') rule changes implemented in May 2007, which affected the present value of in-force insurance ('PVIF') policies in the UK. In France, the reclassification of the regional banks as held for sale resulted in their net profits of US$15.3 million since February 2008 being reported in other operating income.

Loan impairment charges fell by 15 per cent; in the UK, they were 22 per cent below the same period in 2007 due to stable delinquency levels in the core unsecured portfolios and the disposal of selected non-core credit card portfolios referred to above. Mortgage impairment charges in the UK have gradually increased from their historically low levels in line with HSBC's expectations and market conditions. In France, loan impairment charges increased slightly, mainly as a result of a reduction in limits applied to unauthorised overdrafts at the end of 2007 in accordance with new guidelines issued by the Commission Bancaire. Overall, credit quality in France remained good. In Turkey, loan impairment charges rose by 287 per cent, due to increased volumes of credit cards and personal loans, combined with rising delinquency rates. In recognition of this, HSBC tightened its new account underwriting criteria at the start of 2008, with increased cut-off scores, lower credit lines and revised account management policies. 

Operating expenses improved by 9 per cent, mainly driven by the non-recurrence of overdraft fee refunds in the UK. There was a reduction in defined benefit pension costs, as a result of an actuarial assessment, and this partly offset an increase in rental charges following the sale and leaseback of UK branch properties. Excluding the regional banks, costs in France decreased, mainly due to a reduction in staff pension and post-retirement healthcare costs following the transfer of certain obligations to a third party. There was an increase in Premier marketing costs as the product was relaunched. Organic business expansion in Turkey was supported by a 34 per cent increase in operating expenses as 78 new branches were opened and staff numbers increased by more than 1,500 since June 2007. 

Commercial Banking reported pre-tax profits of US$1.9 billion, an increase of 53 per cent compared with the first half of 2007. Revenues were boosted by gains of US$425 million and US$103 million on the sale of the UK merchant acquiring business to a joint venture with Global Payments Inc., as well as a share of the profits on the sale of MasterCard shares, respectively. Excluding these items, profit before tax rose by 11 per cent and revenues by 6 per cent, driven by the continued strength of established businesses in the UK and France augmented by new and growing operations in the developing markets in Turkey and in central and eastern Europe. 

Following the roll-out of International Banking Centres and other infrastructure investment in previous years, the volume of cross-border business increased significantly. Successful outward referrals through the Group's Global Links system increased by 122 per cent, including a 138 per cent rise in outward referrals from the UK. The attraction of HSBC's international franchise was illustrated by the Group's capture of a leading share of UK start-ups and business banking customers with an international focus. 

In the UK, HSBC continued to focus on enhancing customer experience through the recruitment of sales staff and investment in direct channels in support of a strategic ambition to be recognised as the 'best bank for small business'. In the first half of 2008, more than 100 branch-based business tills were opened and HSBC re-deployed 83 local business managers into key branch sites to provide additional local specialist support for customers located outside major conurbations. 

HSBC continued to concentrate investment in the developing markets of central and eastern Europe and in Turkey. New receivables finance businesses were launched in Poland and the Czech Republic and, in Turkey, a further 18 branches were opened providing services to micro, small and mid-market customers. Across central and Eastern Europe, HSBC increased income by 49 per cent. 

In France, following HSBC's disposal of seven regional banks which was completed on 2 July 2008, HSBC remains well positioned to benefit from the Group's international presence and is supporting this opportunity by investing in a new development programme, including 10 new Corporate Banking Centres and an expanded product range.

Net interest income rose by 2 per cent, to US$1.7 billion, largely driven by an increase of 43 per cent in Turkey and a more modest rise in the UK.

In the UK, average lending balances increased by 13 per cent. This was broadly based as strong volumes of new business were generated from HSBC's client base, particularly in the mid-market segment. The income benefit from lending volume growth was partly offset by lower spreads as yields fell in the competitive market. However, new lending spreads in the corporate, mid and small business segments increased by 14 basis points and 21 basis points compared with the first and the second halves of 2007, respectively, as market liquidity for new credit reduced, driving prices higher. Net interest income on sterling overdrafts declined as the benefit of a modest increase in average balances was more than offset by tighter spreads. As part of its market positioning to its preferred customer base, HSBC reduced the rate charged to customers for unauthorised overdrafts, further constraining net interest income.

Average current account balances and spreads were broadly in line with the first half of 2007. Average foreign currency denominated current accounts grew, driven by customer acquisition, although the benefit of volume growth was more than offset by lower spreads in the declining US dollar interest rate environment. 

HSBC's strong capital position during a period of industry uncertainty helped to attract customer deposits and average deposits increased as a result. The benefit was offset by lower spreads as a reduction in interest rates paid to customers lagged base rate cuts in the first half of 2008.

In Turkey, higher net interest income was driven by growth in both loans and deposits as HSBC expanded across the country. Average loan and trade services balances increased by 15 per cent, following very strong customer acquisition. Micro, small and mid-sized customer numbers rose by 21 per cent in the period driven by branch expansion. The number of branches servicing Commercial Banking customers rose from 89 at 31 December 2007 to 107 at 30 June 2008. Customer acquisition was also boosted by the success of bundled products, including overdrafts, commercial car loans and small and micro business product bundles. The opening of three new Corporate Banking Centres in Istanbul also contributed. The benefits from loan growth were augmented by wider spreads as the proportion of higher yielding small and mid-market lending increased. Average deposit balances also rose, due to customer acquisition and competitive pricing, offset by slightly lower spreads from a shift in product mix to higher yielding deposits.

Excluding HSBC's French regional banks, net interest income in France was broadly in line with the first half of 2007 as growth in deposit and lending volumes were offset by narrower spreads, higher liquidity costs and a lower benefit from net free funds. Both average current account balances and deposits increased, driven by customer acquisition and initiatives taken to increase market share in small business banking. Average loan balances rose by 15 per cent as HSBC gained market share. This was partly offset by tighter spreads.

Net fee income increased by 3 per cent to US$1.1 billion. This was largely driven by higher fees in Turkey and the UK, where the rise in volumes in the mid-market segment, noted above, had a corresponding effect on related fee income. Payments and cash management, factoring, trade and insurance products also contributed to the growth in fees in Turkey.

Net fee income in the UK rose by 5 per cent. Higher card issuing fees were driven by an increase in transaction volumes, primarily due to the success of the revolving commercial credit card following its launch in 2006. Currency volatility in the first half of 2008 helped to drive higher transaction volumes and commissions from foreign exchange activity. A decline in lending fees offset these following a reduction in early repayment fees.

In France, excluding the regional banks, net fee income was 8 per cent higher than in the first half of 2007. Volumes rose as a consequence of the client acquisition noted above and increased marketing to existing customers, triggering a strong increase in banking transaction fees. This was offset by lower brokerage and mutual fund fees, as uncertain market conditions subdued investment sentiment and led customers to switch from investment fund products to deposit accounts. 

A net loss from financial instruments designated at fair value of US$75 million compared with income of US$9 million in the first half of 2007. This fall was largely a result of a decline in value of equity investments held to support liabilities under insurance contracts, mainly offset by the change in net insurance claims and movement in liabilities to policyholders.

The sale of certain mutual funds in France and MasterCard shares in the UK led to an increase in gains less losses from financial investments. 

As part of the Group's strategy to grow the insurance business, HSBC introduced a new guaranteed investment bond and enhanced the benefits of some existing customer policies, which resulted in higher net insurance premiums and a PVIF gain in other operating income, respectively. The increase in other operating income was also driven by the gain on sale of the UK merchant acquiring business. Increased net insurance premiums were partly offset by a rise in net insurance claims.

Loan impairment charges of US$285 million were 10 per cent higher than in the first half of 2007, largely due to higher charges in France and Turkey following balance sheet growth. Loan impairment charges in the UK were broadly flat, notwithstanding a 13 per cent growth in lending and a weakening economic environment.

Operating expenses were unchanged from the first half of 2007. In the UK, a focus on efficient delivery of customer service through direct channels allowed investment in additional customer-facing staff in the commercial centres and the commercial wealth business. Additional investment in relationship managers and local business managers helped to improve customer retention and broaden the range of services delivered. 

Increased utilisation of direct channels was evidenced by a 28 per cent rise in the number of active business internet banking customers. HSBC continued to develop its straight-through processing capability to enable more customers to buy products online. Business Direct, HSBC's commercial direct banking service, attracted over 33,000 new accounts, of which approximately 75 per cent were opened by new HSBC customers. 

Excluding the regional banks, costs in France were moderately lower than in the first half of 2007. This was due to reductions in staff pension and post-retirement healthcare costs following the transfer of certain obligations to external parties, and the beneficial effect of efficiency initiatives, partly offset by the non-recurrence of a litigation provision release.

In Turkey, costs rose by 32 per cent, driven by investment in a larger branch network together with increased marketing costs to support business expansion in the small and micro segments through the enlarged branch network. Staff costs increased by 15 per cent and customer facing staff numbers by 39 per cent as HSBC focused on customer service and product delivery in the expanded network. 

Global Banking and Markets' profit before tax declined by 34 per cent to US$1.2 billion, primarily due to US$1.4 billion of write-downs in credit-related trading exposures and leveraged and acquisition finance loans, coupled with a reduction in Principal Investments revenues. These more than offset strong profit growth in Balance Sheet Management and Global Banking, and strong performances in the foreign exchange and Rates businesses.

Total operating income fell by 14 per cent to US$3.8 billion. The tighter credit and liquidity conditions in the UK which contributed to the write-downs referred to above were also reflected in a reduction in Principal Investments income after the excellent result in the first half of 2007. Higher revenues in other areas, most notably Rates in the UK and France and Balance Sheet Management in the UK, were driven by greater market volatility. Balance Sheet Management revenues increased by US$384 million in Europe. Global Banking revenues increased by 27 per cent as write-downs on leveraged and acquisition finance loans were more than offset by gains on credit default swap transactions in other parts of the portfolio.

Net interest income rose by 166 per cent, led by strong growth in Balance Sheet Management revenues in the UK due to increased margins driven by steepening sterling and US dollar yield curves. There was also growth in the UK from a focused enlargement of secured lending (repo) business. The UK also benefited from growth in payments and cash management activity, which was driven by a 33 per cent rise in deposits as customers responded to the volatile markets by increasing their cash holdings.

Net fee income declined in the UK and France in Global Markets. Higher cross-selling fees paid to Commercial Banking for generating foreign exchange business reduced net fee income but were more than compensated for by higher trading income on foreign exchange. A decline in equity markets also reduced funds under management in Global Asset Management, further contributing to lower fees. 

Trading income fell by 29 per cent, chiefly from the write-downs noted above. As the market turmoil continued, the fair value of asset-backed securities and structured credit instruments further deteriorated as the credit and liquidity disruption that began in the US sub-prime market spread into other mortgage and mortgage-related products. HSBC had mitigated its risk from such events by purchasing protection from monoline insurers against losses from defaults, primarily on asset-backed credit products. The market turmoil initially caused the fair value of this protection to increase significantly, reflecting the market view that it was more likely that defaults would occur on the underlying asset-backed paper. This sudden increase in the potential liabilities of the monoline insurers resulted in their credit ratings being downgraded as the scale of the liabilities incurred cast significant doubt on the ability of many monoline insurers to pay. Accordingly, a credit risk write-down was taken against the fair value of the exposure to monoline insurers. The market turmoil also caused the market value of some leveraged and acquisition finance loans to fall due to general credit and liquidity disruption. More information on these write-downs and the underlying assets is provided on page 113. 

Partially offsetting these trading losses, Rates trading grew by 115 per cent due to high customer demand for inflation protection products in the UK and France. Foreign exchange trading revenues also rose, by 38 per cent, as market volatility continued, and equities grew by 79 per cent, excluding the effect of the gain on the sale of HSBC's investment in Euronext N.V. in 2007. Further income arose from the fair value gains in Global Banking. 

A loss of US$218 million was recognised in net income from financial instruments designated at fair value. This was due to a loss on euro-denominated debt which is offset in trading income. 

Gains less losses from financial investments and dividend income both declined in comparison with the very strong performance in the first half of 2007 from the Principal Investments business. In 2008, the number of investments realised fell and the exit multiples achieved were reduced.

The loan impairment charge was small and represented only one basis point of customer loans and advances. This compared with a release in the first half of 2007. The UK credit environment for large corporate lending undoubtedly weakened in the first half of 2008, as evidenced by weak retail sales, falling commercial property prices and the restructuring of much of the UK house building sector.

Operating expenses fell by 2 per cent, reflecting lower bonus costs in the UK which were in line with financial performance. This was partly offset by higher administrative expenses in both the UK and France, where IT costs rose due to growth in headcount to support the increased volume and scope of business in Global Markets, including cross-sales and product control.

Private Banking reported a pre-tax profit of US$579 million, an increase of 15 per cent, compared with the first half of 2007. Good performances were recorded in both Switzerland and Monaco as a result of strong deposit growth, gains on the disposal of the Hermitage Fund and an increase in client foreign exchange trading. However, the cost-efficiency ratio worsened by 1.8 percentage points to 54.9 per cent due to higher staff costs caused primarily by the non-recurrence of a pension saving in 2007. Despite this, the cost efficiency ratio remained one of the lowest in the industry.

Net interest income grew by 38 per cent to US$515 million, primarily due to strong deposit growth augmented by widening interest rate spreads in the first half of 2008. In Switzerland and the UK, average customer deposits grew by 35 per cent and 12 per cent to US$42.1 billion and US$15.0 billion, respectively. The growth in deposits was driven by net new money and customers switching from investment securities to cash deposits during the recent market turbulence. 

Net fee income increased by 2 per cent to US$559 million, with a 3 per cent increase in funds under management in Switzerland and higher performance fees on UK hedge fund products. This was partially offset by a decline in UK real estate fee income, as expectations of falling house prices drove lower transaction volumes and the non-recurrence of a large tax advisory fee in the first half of 2007. Management fees decreased in France as the private bank exited some business with institutional clients following a decision not to market to this segment and, in Germany, as the market value of funds declined. 

Market volatility led to increased foreign exchange trading by clients in Switzerland, contributing to a 28 per cent rise in trading income.

Gains less losses from financial investments were 81 per cent higher at US$78 million. The increase related to the disposal of HSBC's residual holding in the Hermitage Fund, following earlier disposals in 2006 and 2007.

Client assets, which include deposits and funds under management, increased by 2 per cent to US$262.7 billion compared with 31 December 2007. The growth in client assets was driven by US$10.0 billion of net new money, mainly due to client acquisition in Switzerland and Monaco and foreign exchange gains. However, this was partly offset by a decline in the market value of investment securities, particularly equities. The growth in cross-referrals continued, with inward referrals from other customer groups contributing US$1.9 billion to total client assets, an increase of 68 per cent, compared with the first half of 2007.

Operating expenses rose by 23 per cent to US$699 million due to a US$65 million non-recurring pension benefit which occurred in the first half of 2007 and hiring for business growth, which increased property and compensation costs. 

Within Other, profit before tax rose by 126 per cent to US$144 million, largely due to fair value movements on HSBC's own debt and related derivatives. Widening credit spreads resulted in gains of US$395 million in the first half of 2008 compared to gains of US$6 million in the first half of 2007 and a gain of US$1,254 million in the second half of 2007. These movements will reverse over the remaining life of the debt.

Reconciliation of reported and underlying profit before tax

	Half-year to 30 June 2008 ('1H08') compared with half-year to 31 December 2007 ('2H07')
Europe	2H07 as reported US$m		Disposals  and  dilution   gains1 US$m		Currency translation2 US$m		2H07 at 1H08 exchange rates US$m		Acqui- sitions1 US$m		Under- lying  change  US$m		1H08 as reported US$m		Re- ported change %		Under- lying change %
Net interest income	3,826		(5)		(11)		3,810		-		665		4,475		17		17
Net fee income	4,287		-		6		4,293		-		(70)		4,223		(1)		(2)
Other income3	6,157		19		(34)		6,142		-		(199)		5,943		(3)		(3)
Net operating income4	14,270		14		(39)		14,245		-		396		14,641		3		3
Loan impairment charges and other credit risk provisions	(1,179)		-		26		(1,153)		-		(119)		(1,272)		(8)		(10)
Net operating income	13,091		14		(13)		13,092		-		277		13,369		2		2
Operating expenses	(8,553)		2		(12)		(8,563)		-		370		(8,193)		4		4
Operating profit	4,538		16		(25)		4,529		-		647		5,176		14		14
Income from associates	7		-		1		8		-		(7)		1		(86)		(88)
Profit before tax	4,545		16		(24)		4,537		-		640		5,177		14		14

For footnotes, see page 89.

Analysis by customer group and global business

Profit before tax

	Half-year to 30 June 2008
Europe	Personal Financial Services US$m		Commercial Banking US$m		Global  Banking and Markets US$m		Private Banking US$m		Other US$m		Inter- segment elimination9 US$m		Total US$m
Net interest income/(expense)	3,373		1,739		1,351		515		(156)		(2,347)		4,475
Net fee income	1,479		1,134		999		559		52		-		4,223
Trading income excluding net interest income	34		18		1,362		106		33		-		1,553
Net interest income/ (expense) on trading activities	(1)		20		(285)		7		8		2,347		2,096
Net trading income7	33		38		1,077		113		41		2,347		3,649
Net income/(expense) from financial instruments designated at fair value	(761)		(75)		(218)		-		395		-		(659)
Gains less losses from financial investments	182		140		190		78		18		-		608
Dividend income	1		2		11		4		2		-		20
Net earned insurance premiums	2,084		213		-		-		(11)		-		2,286
Other operating income	252		581		362		4		251		(23)		1,427
Total operating income	6,643		3,772		3,772		1,273		592		(23)		16,029
Net insurance claims8	(1,290)		(98)		-		-		-		-		(1,388)
Net operating income4	5,353		3,674		3,772		1,273		592		(23)		14,641
Loan impairment (charges)/ recoveries and other credit risk provisions	(963)		(285)		(29)		5		-		-		(1,272)
Net operating income	4,390		3,389		3,743		1,278		592		(23)		13,369
Total operating expenses	(3,065)		(1,449)		(2,554)		(699)		(449)		23		(8,193)
Operating profit	1,325		1,940		1,189		579		143		-		5,176
Share of profit/(loss) in associates and joint ventures	(1)		-		1		-		1		-		1
Profit before tax	1,324		1,940		1,190		579		144		-		5,177
	%		%		%		%		%				%
Share of HSBC's profit before tax	12.9		18.9		11.6		5.7		1.4				50.5
Cost efficiency ratio	57.3		39.4		67.7		54.9		75.8				56.0
Balance sheet data6
	US$m		US$m		US$m		US$m		US$m				US$m
Loans and advances to  customers (net)	153,460		111,791		210,727		31,933		1,049				508,960
Total assets	207,810		133,372		897,664		67,408		7,065				1,313,319
Customer accounts	183,608		105,135		196,432		64,242		223				549,640
Loans and advances to banks (net)12					78,488
Trading assets12,13					482,034
Financial instruments designated at fair value12					6,914
Financial investments12					88,717
Deposits by banks12					105,792
Trading liabilities12,13					365,523

For footnotes, see page 89.

Analysis by customer group and global business (continued)

Profit before tax 

	Half-year to 30 June 2007
Europe	Personal Financial Services US$m		Commercial Banking US$m		Global Banking and Markets US$m		Private Banking US$m		Other US$m		Inter- segment elimination9 US$m		Total US$m
Net interest income	3,130		1,647		495		365		32		(1,749)		3,920
Net fee income	1,428		1,066		1,108		523		19		-		4,144
Trading income/(expense) excluding net interest income	45		11		1,705		83		(2)		-		1,842
Net interest income/ (expense) on trading activities	(2)		12		(268)		4		1		1,749		1,496
Net trading income/ (expense)7	43		23		1,437		87		(1)		1,749		3,338
Net income/(expense) from financial instruments designated at fair value	315		9		(2)		-		26		-		348
Gains less losses from financial investments	19		8		651		42		70		-		790
Dividend income	1		2		144		5		9		-		161
Net earned insurance premiums	1,380		109		-		-		(9)		-		1,480
Other operating income/ (expense)	(110)		(89)		337		9		147		(32)		262
Total operating income	6,206		2,775		4,170		1,031		293		(32)		14,443
Net insurance claims8	(1,245)		99		-		-		-		-		(1,146)
Net operating income4	4,961		2,874		4,170		1,031		293		(32)		13,297
Loan impairment (charges)/  recoveries and other credit risk provisions	(1,127)		(256)		17		3		-		-		(1,363)
Net operating income	3,834		2,618		4,187		1,034		293		(32)		11,934
Total operating expenses	(3,244)		(1,382)		(2,513)		(541)		(324)		32		(7,972)
Operating profit/(loss)	590		1,236		1,674		493		(31)		-		3,962
Share of profit in associates and joint ventures	14		-		-		-		74		-		88
Profit before tax	604		1,236		1,674		493		43		-		4,050
	%		%		%		%		%				%
Share of HSBC's profit before tax	4.3		8.7		11.8		3.5		0.3				28.6
Cost efficiency ratio	65.4		48.1		60.3		52.5		110.6				60.0
Balance sheet data6
	US$m		US$m		US$m		US$m		US$m				US$m
Loans and advances to  customers (net)	149,789		87,247		165,028		25,544		500				428,108
Total assets	198,518		104,420		677,459		56,090		3,532				1,040,019
Customer accounts	166,282		83,421		153,196		54,893		716				458,508
Loans and advances to banks (net)12					66,281
Trading assets12,13					354,488
Financial instruments designated at fair value12					3,400
Financial investments12					53,774
Deposits by banks12					85,104
Trading liabilities12,13					265,059

For footnotes, see page 89.

	Half-year to 31 December 2007
Europe	Personal Financial Services US$m		Commercial Banking US$m		Global Banking and Markets US$m		Private Banking US$m		Other US$m		Inter- segment elimination9 US$m		Total US$m
Net interest income	3,474		1,772		866		428		54		(2,768)		3,826
Net fee income/(expense)	1,632		1,128		1,208		509		(190)		-		4,287
Trading income excluding net interest income	15		25		952		78		91		-		1,161
Net interest income/ (expense) on trading activities	(5)		18		(342)		5		-		2,768		2,444
Net trading income7	10		43		610		83		91		2,768		3,605
Net income/(expense) from financial instruments designated at fair value	(189)		22		(183)		-		1,228		-		878
Gains less losses from financial investments	31		28		449		73		(45)		-		536
Dividend income	-		2		11		2		(5)		-		10
Net earned insurance premiums	2,131		412		-		-		(13)		-		2,530
Other operating income/ (expense)	164		54		516		(1)		154		44		931
Total operating income	7,253		3,461		3,477		1,094		1,274		44		16,603
Net insurance claims8	(1,969)		(364)		-		-		-		-		(2,333)
Net operating income4	5,284		3,097		3,477		1,094		1,274		44		14,270
Loan impairment (charges)/ recoveries and other credit risk provisions	(917)		(259)		9		(7)		(5)		-		(1,179)
Net operating income	4,367		2,838		3,486		1,087		1,269		44		13,091
Total operating expenses	(3,391)		(1,559)		(2,637)		(667)		(255)		(44)		(8,553)
Operating profit	976		1,279		849		420		1,014		-		4,538
Share of profit/(loss) in associates and joint ventures	1		1		4		2		(1)		-		7
Profit before tax	977		1,280		853		422		1,013		-		4,545
	%		%		%		%		%				%
Share of HSBC's profit before tax	9.7		12.7		8.5		4.2		10.1				45.2
Cost efficiency ratio	64.2		50.3		75.8		61.0		20.0				59.9
Balance sheet data6
	US$m		US$m		US$m		US$m		US$m				US$m
Loans and advances to  customers (net)	151,687		106,846		163,066		30,195		481				452,275
Total assets	200,432		124,464		794,673		60,010		4,736				1,184,315
Customer accounts	178,757		99,704		163,713		62,055		725				504,954
Loans and advances to banks (net)12					89,651
Trading assets12,13					396,487
Financial instruments designated at fair value12					7,122
Financial investments12					94,416
Deposits by banks12					85,315
Trading liabilities12,13					305,697

For footnotes, see page 89.

ENDMSCUUUCWRUPRGQC

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