Banco de Chile Q2 2023 Earnings Call Transcript

Quartr
Provided by Quartr
August 4, 2023

There are 10 speakers on the call.

Operator

Good afternoon, everyone, and welcome to Banco De Chile Second Quarter 2023 Results Conference Call. If you need a copy of the management financial review, it is available on the company's website. With us today, we have Mr. Rodrigo Aravena, Chief Economist and Institutional Relations Officer Mr. Pablo Mihia, Head of Investor Relations and Daniel Garrase, Head of Financial Control and Capital.

Operator

Before we begin, I would like to remind you that this call is being recorded and that the information discussed today may include forward looking statements regarding the company's financial and operating performance. All projections are subject to risks and uncertainties and actual results may differ materially. Please refer to the detailed note in the company's press release regarding forward looking statements. I will now turn the call over to Mr. Rodrigo Ravenna.

Operator

Please go ahead, sir.

Speaker 1

Good afternoon, everyone. Thank you for attending this conference call, where we will present the main achievements and financial results posted by our bank during the Q2 of this year. We are glad to host this webcast today in a period where Banco de Chile once again showed its unquestionable leadership in the financial industry in the country. Some of the main highlights of this quarter include: 1st, we posted the highest net income in the industry by achieving a bottom line of ARS332,000,000,000 equivalent to an ROE of 28%. Therefore, we remain as the most profitable bank in Chile.

Speaker 1

2nd, despite the weak economic cycle, we continue delivering sound asset quality figures. In the Q2, we posted a cost of risk of only 0.7% and NPLs of 1.3%, both well below figures posted by the industry. And 3rd, by achieving a CET1 ratio of 15.5%, we continue to be the bank with the soundest capitalization, confirming we are the best prepared for facing challenging economic cycle and further regulatory requirements in connection with the implementation of Basel 3 in Chile. All these results were accomplished in a period when we carry out important advances in our core 3 day priorities, including advances in our digital transformation process and in ESG matters. We will present a deep analysis of all these topics through this presentation.

Speaker 1

But before moving to these topics, I'd like to share our view on the macro financial environment we have faced in our forecast for this in the following year. Please go to slide number 3. The chart on the upper left clearly shows that the overall activity remains weak. In the Q1, the GDP contracted by 0.6% year on year after the 2.3% year on year drop in the last quarter of 2022. This recession has largely been explained by the decline in consumption, which went down by 4.8% year on year in the Q1, driven by the substantial fall of 28% year on year in durable consumption.

Speaker 1

Growth investment has also contributed to the negative growth by falling to 1% year on year in the same period. All in all, domestic demand declined by 8% in the Q1, which was partially offset by the slight recovery of total export. Available information from the Q2 shows a similar trend as the Imasek, which is the monthly GDP figure went down by 1.4% year on year. The chart on the other right displays the evolution of the overall activity sequentially. Generally, the graph shows how the economy has stagnated as the level of the Ima segment remained below the level posted in December of 2021 due to the important decline in the commerce sector.

Speaker 1

This negative trend has resulted from several factors, including the normalization of liquidity levels and the contractionary fiscal and monetary policies implemented mainly in 2022. Inflation has also affected disposable income levels, reducing household purchasing power. In this environment, we've seen a gradual increase in the unemployment rate to 8.5% in the 2nd quarter, 70 basis points above 1 year ago as shown on the chart on the bottom left. This has resulted from the greater acceleration in labor force which went up by 3% year on year while employment increased by 2.2% year on year. The greatest dynamism in the labor force has increased the participation rate to 61%, although it remains below the pre pandemic level.

Speaker 1

This recession has contributed to reducing macroeconomic imbalances. The current account balance, for instance improved significantly at the beginning of this year at the chart of the bottom right displays. In the Q1, it posted a surplus of $700,000,000 achieving the highest figure since 2010 and the first positive balance in 3 years. As a result, the last 12 months balance improved to 1 point of the GDP to minus 6.9%. It is worth highlighting the importance of normalizing the external deficit since it is one of the most relevant sources of macro stability for a country.

Speaker 1

I'd like now to analyze the evolution of the main nominal figures of the economy. Please move to the next slide. Number 4, the inflation rate has been decreasing as the average chart shows. In June, annual inflation rate was 7.6%, the lowest since December of 2021, while the core CPI, which is the measure that excludes food and energy prices fell to 6.9%, also the lowest figure in several quarters. These trends have been accompanied by lower annual increases and all the alternative core measures and a lower diffusion index, which represents the proportion of articles that increased prices in the month, which posted a historically low figure of only 42%.

Speaker 1

The lower inflation has resulted from different factors, including the subdued activity, which reduced pressures on non tradable goods and the combination of the stronger Chilean peso and the lower CPI in trade partners factor that drove a decline in trade inflation to 7.3% year on year in June from a peak of 17.3% in August of last year. In fact, as you can see in the chart on the bottom right, the local currency appreciated nearly 7% from 1 year ago, while the real estate rate strengthened by 14% in the same period. In this environment, the Central Bank began an easing cycle in monetary policy by reducing the overnight rate to 10.25 percent or 100 basis points in the meeting held in July. This is the first cut in the policy rate since early 2020 when the pandemic affected the economy. The press release showed an expansionary bias as the Board signaled further interest rate reduction in the coming meetings.

Speaker 1

This bias was reinforced by the Governor of the Central Bank, who anticipated reductions towards levels below 8% by the end of this year. As a response of the new tone in monetary policy, market interest rates have been anticipating both lower inflation and interest rates, which can be clearly seen in the chart on the bottom right, which shows the recent decline in the nominal 10 years sovereign rate despite the opposite trend observed in global rate. I'd like to briefly discuss our macroeconomic forecast for this and the next year. Please go to the next slide number 5. We expect that the Q2 was the bottom in this negative cycle with a GDP decline of around 1.4%

Speaker 2

year on year.

Speaker 1

For the second half, we estimate a gradual recovery of the overall activity driven by the lower inflation and interest rate. Nevertheless, despite the expected recovery, we continue forecasting a negative growth for the year of around -0.2 percent. For 2024, we foresee an expansion in line with the potential growth close to 2%. This combination of factors such as subdued growth, a stronger currency and lagged effect of the interest rate hike is consistent with a further inflation rate decline. In this environment, we have reassessed our prior expectation of inflation for this in the next year.

Speaker 1

As such, now we expect headline inflation of 3.8% at the end of this year and 3% in 2024. We believe a lower inflation rate should leave room for the Central Bank to reduce the interest rate to 7.5% this year and to 4% next year as the right chart shows. All these forecasts are subject to risk. Given the important integration of Chile into the global economy, it's important to analyze the evolution of its trade partners such as China even more after its weaker than expected expansion during the last quarter. In the local front, the evolution of lagged factors such as labor market and political considerations including discussions related to changes in taxes, pensions and the constitution are worth monitoring.

Speaker 1

Based on this aspect, we acknowledge down the risk in our growth forecast. Let me now share a brief overview of recent trends in the financial industry. Please go to Slide number 6. This quarter, the banking industry reported a net income of ARS1.3 trillion, resulting in an ROE of 18.4% as indicated in the chart on the top left. This year on year decline in net income is mainly attribute to lower inflation that went from 4.3 percent in Q2 2022 to 1.4% in Q2 2023, which impacted operating income as despite in the chart in the middle of this slide.

Speaker 1

Furthermore, a rise in loan loss provisions, excluding additional provisions has affected most banks in the industry as evidenced by an increase of 16% in the Q2 versus Q2 last year as shown on the chart to the right. This is in line with the trend that we have forecasted over the last quarter in relation to the normalization of customer risk profile, which is being reflected by delinquency that rose quickly from 1.4% to 2% during the same period. Persistent high interest rate levels, weak economic environment and political uncertainty have reduced the banking industry loan growth to only 4% nominal year on year. Mortgage loans was the main driver of growth increasing 11% nominal year on year followed by consumer loans that rose 4.9% nominal in the same period. This was partially offset by slight contraction in commercial loans.

Speaker 1

Looking ahead, we anticipate as economic conditions improve, we should see a potential recovery in loan demand and a more favorable lending environment. Lastly, it's worth mentioning that the composition of the Chilean banking industry assets differs from other regions. Unlike some geographies, banks in Chile have a significant concentration in loans accounting for 62.3% of total assets. In terms of financial instruments, including derivatives, these make up only 17.6% of total assets, while the held to maturity portfolio constitute only 3.7%. As a result of this asset composition, the local banking industry in Chile is relatively less exposed to recent financial events that have impacted certain banking players worldwide early this year.

Speaker 1

A threat and conservative banking regulation as well as lower reliance on financial instrument and held to maturity investment contribute to a more stable and resilient banking landscape in Chile. It's important to note that today the amount of financial assets held by the Chilean banking industry is even above average levels seen prior to the pandemic. As banks are currently in the process of replacing FCIC collaterals, which should be totally composed of high quality liquid assets by the maturity of the obligation. Now I'd like to pass the call to Paolo, who will go into more detail about Banco de Chile advances and the financial performance.

Speaker 3

Thank you, Rodrigo. I'd like to begin with our main accomplishments in our key strategic projects. Please go to Slide 8. Our consistent and outstanding results has been a direct outcome of our effective strategic approach, which places customers, efficiency and ESG at the core. We've implemented this through an approach of 6 key priorities, allowing us to surpass our midterm objectives as evidenced on the right.

Speaker 3

In the upcoming slides, we will explore the advancements we've made in digital transformation, productivity and sustainability, illustrating our commitment to progress and excellence in these crucial areas. Let me start with Digital Banking. Please move to Slide number 9. In recent years, we have dedicated our efforts in constructing a robust front office digital banking ecosystem aimed at enhancing our customers' journey and overall experience. This slide highlights some key components and advances of this ecosystem.

Speaker 3

When it comes to digital banking, we cater the various customer segments with tailored options. Quintafan, our pioneering online onboarding service has been exceptionally successful, attracting over 1,000,000 users. Moreover, we provide digital accounts for SMEs, teenagers and offer both digital current accounts in Chilean pesos and in dollars. Additionally, our diverse range of online products enables customers to effortlessly open accounts and manage their finances conveniently at any time without the necessity of visiting the branch. This approach empowers our customers with greater control of their banking experience, putting the power of managing their finances right at their fingertips.

Speaker 3

We take immense pride in being the pioneers in the Chilean banking industry by establishing a virtual building in the metaverse, a significant milestone aimed at promoting engagement among young people. Additionally, we have facilitated SME customers to receive payments through QR codes using our app, demonstrating our commitment enhancing convenience and efficiency in financial transactions. Furthermore, we continually strive to elevate service quality through the implementation of cutting edge technologies such as artificial intelligence by leveraging advanced tools to manage calls, analyze customer behaviors and gather post service feedback, we ensure that our customers' needs are met with the utmost efficiency and satisfaction. Our relentless efforts to deliver exceptional customer journeys through digital initiatives have not gone unnoticed. Thanks to our dedication, we've been recognized as a leading bank for customer experience by the esteemed Praxis Experience Index.

Speaker 3

This recognition reinforces our commitment to putting customers at the heart of everything we do and providing them with unparalleled banking experience. We continue to strive to improve our efficiency and productivity, which are a key pillar of our strategy. Please turn to Slide 10 to review recent developments we've made in enhancing productivity and reducing costs. Alongside our efforts in productivity, we have remained firm in optimizing processes and enhancing customer experience. In this regard, we have introduced various changes to our deposit service model to encourage higher digital adoption.

Speaker 3

As a result, there has been a significant operational and management enhances in our deposit processes, leading to a noteworthy 18% surge in digital channel adoption within the 1st month, reducing costs and optimizing margins simultaneously. Additionally, we have fine tuned our cash management sales process for enterprise payment agreements with SMEs, resulting in a substantial 32% annual increase in the stock of active contracts of cash management payment contracts for companies, strengthening client relationships and fostering future growth. Another area of focus on productivity during the last quarter was branch customer service. The successful improvement in back office processes resulted in a 50% reduction in branch waiting times compared to the Q1 of 2023. This improvement is essential for ensuring a positive impact on customer experience, promoting loyalty and fostering a positive image of the bank in their minds of the customers.

Speaker 3

On the cost reduction front, a comprehensive review of our entire physical infrastructure identified areas for space rationalization, unlocking important and potential savings while ensuring our infrastructure remains efficient and optimized. We are improving our investment planning methodology to ensure that all of our strategic initiatives are aligned with our long term objectives and driving value creation and long term sustainability for the bank. Furthermore, we are reviewing our end to end procurement process to identify key improvements to be addressed during the renewal of our ERP system, especially the procure to pay processes. We expect that this project will modernize our current system, enabling faster and more automated procure to pay processes, streamlining our operations. In conclusion, efficiency and productivity are at the heart of our bank.

Speaker 3

We firmly believe that by consistently seeking opportunities for improvement and optimizing our operations, can sustain our leadership in the industry and continue to drive sustainable growth. Please turn to Slide 11. Sustainability has been fundamental for us. As illustrated on this slide, our bank has been actively involved in supporting the community, especially during times of crisis and natural disasters like earthquakes, large scale fires, among others. In recent years, environmental, social and government criteria have become increasingly crucial in shaping our strategic direction.

Speaker 3

Our ESG journey has shown remarkable progress since 2014. Notably, we have achieved several milestones, such as enhancing transparency through our annual reports, fostering sustainable finance by establishing an ESG financing framework and bolstering governance with the creation of ESG related policies and the establishment of Foremost Sustainability Committee led by the CEO, which reports advances regularly to the board. These initiatives, along with numerous other advancements in this domain, have led our performance to be acknowledged and recognized by the leading international ESG rating firms. Our commitment to ESG practices continues to drive positive outcomes and reinforces our position as a responsible and forward thinking institution. Please turn to Slide 12.

Speaker 3

During the quarter, we continued to progress in sustainability, and this was recognized by our strong improvement in our annual sustainability ESG rating score, which positioned us once again as the bank with the highest score in the Chilean banking industry. Additionally, we issued 2 social bonds overseas raising over $80,000,000 under our ESG financing framework with a focus on supporting women owned enterprises to drive economic growth and to promote gender equality. We also actively promoted entrepreneurship by not only participating in the FOGAPE Chile Apolla programs, but also by being the private bank that granted the most loans to SMEs under this assistant package, and we organized the National Entrepreneurship Contest targeting SMEs University and high school students. We also remain committed to providing our employees with knowledge on sustainable finance and climate change through specialized training initiatives, which is crucial in building a workforce that is well informed and equipped to integrate sustainability principles into all areas of operations, especially risk management. Finally, we actively engaged in the community on several fronts.

Speaker 3

We conducted multiple financial education talks to empower individuals with valuable financial knowledge and skills that lead to better financial decision making within the community. Our reforestation volunteering program also assisted in rehabilitating areas impacted by the summer forest fires, among other activities. All of these initiatives reaffirm our commitment to making a positive impact on society, the environment and to continue creating long term value for our stakeholders. Please turn to Slide 14 to begin our discussion on our results. We have a consistent track record of outperformance, and this quarter is no exception.

Speaker 3

Once again, we recorded an impressive bottom line of MXN 332,000,000,000 equal to an ROAE of 27.6%, greatly surpassing all of our peers as depicted on this slide. Our success stems from the strength of our dedicated team and well crafted long term strategy that prioritizes sustainable growth with a balanced approach to risk and return as reflected by our market leading position in terms of capital adequacy and NPLs. As a result, we have established ourselves as the most resilient and sustainable bank in Chile. We expect their long term ROAE should settle at approximately 18%, But in the short term, ROAE will surpass this range, and we estimate it to reach a level of around 22% in 2023. For 2024, under a normalized scenario, it's reasonable to expect an ROAE of around 18%.

Speaker 3

This is primarily due to an expected decrease in inflation, lower short term interest rates and the normalized level of cost of risk of around 1.2%. Additionally, it's important to mention that we will repay MXN 4,000,000,000,000 of FCIC funding to the Chilean Central Bank for putting further pressure on net interest margin. Please turn to Slide 15. Operating revenues were up 6 when compared to the Q1 of 2023, but fell 12% year on year. The annual drop was a product of several drivers associated with market factors, including a sharp decrease in inflation that went from 4.3% in the Q2 of 2022 to 1.4% in the Q2 of 2023.

Speaker 3

As a reminder, a change of 100 basis points in inflation is roughly MXN 70,000,000,000 in net interest income. In addition, revenue generated by treasury also declined on a year on year basis. These factors were partially offset by a steady 10% expansion of customer income. And on a sequential basis, customer income continued growing, posting an increment of 3% quarter on quarter because of stronger demand deposit contribution given the scenario of high interest rates. It's essential to emphasize that quarterly fees grew by 7%.

Speaker 3

However, the growth would have been higher if the accounting treatment for income from collection services for over due loans did not change as now it's recognized under operating income instead of fee income. This change took effect this year. Taking this into account, fees would have grown 12% year on year this quarter, double digits. The yearly rise in fees was primarily from increased usage of transactional services due to higher use of credit cards as a result of personalized campaigns to promote this method of payment to customers, which coupled with a larger quantity of credit card users by and by higher checking account commissions due to an increase in the number of current account holders and the effect of inflation on fees. Additionally, there was a boost in insurance brokerage related to an annual increase of 55% in written premiums, in line with the recovery in the level of consumer loan origination and to a lesser extent, to the effect of inflation.

Speaker 3

On a sequential basis, fees remained relatively flat with some growth in credit cards and current account administration fees offset by higher commissions paid for electronic transfers and expenses related to our loyalty program, primarily due to exchange rate increases. In terms of non customer income, we generated less revenues year on year from our UF GAAP position due to the sharp drop in inflation during the period versus the same period last year. This was further amplified by higher results managed by our trading and investment portfolio in the Q2 of 2022 as we greatly benefited from the positive impact of interest rate movements in the financial positions held at that point. This was partially offset by income from management of term spreads and interest rate gapping under the current scenario of high short term interest rates and extraordinary income from the sale of a branch in the metropolitan region and nonrecurring income associated to VAT reimbursements and the reclassification of fee income associated with the collection of services previously mentioned. On a sequential basis, non customer income posted an increment of 15% quarter on quarter due to higher inflation during the quarter as well as the previously mentioned tax reimbursements and property sale.

Speaker 3

The charts on the right demonstrate how our performance has compared to our peers. This quarter, NIM reached 4.6%, significantly surpassing all of our competitors. A similar trend is evidenced in fees and overall operating income as indicated in the charts on this slide. Our remarkable comparative performance is a result of our unwavering commitment to our business strategy and our proactive approach to managing risks, all backed by a robust corporate government standards. Please turn to Slide 16.

Speaker 3

Banco de Chile is a universal bank catering to clients across all segments in the Retail and Commercial Banking. As shown in the chart, 65% of our loans are focused in the Retail segment, with the remaining 35% in Wholesale Banking. As you can note, the Retail segment participation in the overall portfolio has slightly increased compared to previous quarters due to the weaker loan demand from the Wholesale segment. During the pandemic, as for many banks, our growth mainly centered in low risk and low margin products, resulting in a significant shift in the low mix and the balance sheet structure. However, we anticipate their expansion in the upcoming periods will gradually restore the loan mix to levels that we had before the pandemic in higher margin products, thereby helping to increase loan spreads and offset temporary factors, which are still impacting interest income from loans.

Speaker 3

Nevertheless, total loans experienced a 2% annual growth and a 1.6% decline compared to the Q1 of 2023, as illustrated on the chart on the right. In turn, mortgage loans expanded by 9% during the 12 month period, primarily driven by inflation. However, in real terms, residential mortgage loans remained relatively flat due to the weaker demand caused by high long term interest, the unstable inflation prospects and the weak economy. In terms of consumer loans, growth was primarily fueled by both originations of installment loans that has allowed us to recover the nominal balance we managed before the pandemic and an increase in credit card related loans. This has been based on improved segmentation of customers that has been supported by our business intelligence tools, while enabling us to maintain credit risk at low levels.

Speaker 3

These drivers resulted in a notable annual surge of 12%, achieving the market share of consumer loans of around 18%, which represents an increase of 130 basis points over the last 12 months, notably higher than the average in the industry as shown on the bottom right graph. However, we expect that the strong growth level in consumer loans will gradually slow to levels slightly above inflation by the year end, reflecting the current economic situation in customers' debt levels as well as the higher comparison base. Commercial loans experienced a decline of 4% on a yearly basis, primarily due to the adverse effects of the still weak investment, which has been attributable to the remaining uncertainty and elevated interest rates. These economic conditions directly impacted customer demand to seek financing for new projects. From a concentration standpoint, it's important to highlight the diverse nature of our commercial loan portfolio covering a wide range of economic sectors as depicted on the chart on the bottom left.

Speaker 3

This diversification ensures that we don't have significant dependence or concentration risk in any specific industry, providing a safeguard against potential effects arising from economic contractions in sectors such as real estate, construction or the ongoing challenges affecting the private health industry. The construction sector, for instance, represents only 2.7% of commercial loans at Banco de Chile, while the house insurance industry represents less than 1%. Nevertheless, we remain vigilant and well prepared to promptly adapt their lending strategies to foster growth with an appropriate relationship between risk and return. Please turn to Slide 17 to discuss our solid balance sheet structure. Our asset and liability structure are well diversified and robust as shown on the chart at the top left.

Speaker 3

Our primary focus is on Commercial Banking, with loans being the main revenue source, accounting for 67% of our total assets as of June 2023. It's also worth mentioning that before the pandemic, total loans used to be in the range of 72% to 78% of our total assets. We should return to near these figures once the FCIC fundings are totally paid off by June 2024. For this reason, financial instruments make up 15.1% of our total assets as of June 2023, with a minimal 1.7% exposure and held to maturity financial instruments significantly lower than our peers as indicated on the chart on the right. It's also important to note that we're in the process of replacing FCIC collaterals by pledging high quality liquid assets in lieu of loans as requested by the Central Bank.

Speaker 3

Accordingly, the share of financial instruments would continue to increase versus cash or overnight deposits already present in their balance sheet to fully secure the obligation with the Central Bank. In this regard, it's important to note that we shouldn't need to raise additional funds to deal with expiration of the FCIC. Furthermore, we have managed our balance sheet positions appropriately for the economic cycle, which has provided stability in our results with lower sensitivity to changes in market interest rates and adjusting appropriately our UF position to optimize margins. Moreover, our prudent risk management criteria has proven crucial in navigating through these different economic cycles, making a critical difference between banks and the current environment. Regarding our liabilities, our main funding source consists of deposits, making up approximately 51% of our assets.

Speaker 3

Specifically, our ratio of demand deposits to time deposits is gradually approaching their historical levels as indicated by the chart on the bottom left. It's worth mentioning that our overall customer liquidity, which was present in 2021 and most part of 2022 has been preserved. However, instead of keeping these funds in 0 interest bearing accounts, customers have opted to place them in time deposits, which today have very attractive rates. It's also important to highlight that approximately 46% of our total liabilities, excluding equity, relates to retail counterparties, of which deposits represent a huge portion. This reflects that regardless of the high share represented by demand deposits and time deposits, our diversified customer base enables us to reduce liquidity risk.

Speaker 3

Likewise, we rely on bonds, constituting 18% of our liabilities, which are primarily utilized to finance our mortgage portfolio. This approach is particularly important as it helps reduce liquidity risk given that bonds provide a more stable funding source compared to time deposits. As for liquidity coverage ratio, we recorded in the Q3 a level of 3 18%, 2 18 percentage points above the limit. And in the case of our net stable funding ratio, we reached a level of 137% in June 2023, 67 points above the regulatory limit. Both of these indicators are well above the levels maintained by our peers and reflect their solid balance sheet structure and prudent term mismatches.

Speaker 3

Finally, we have maintained our end of period U. S. GAAP relatively stable due to our expectations of lower inflation for the second half of twenty twenty three, as you can see on the chart on the bottom right of this slide. This means that for every 100 basis point change in inflation, we generate approximately COP 68,000,000,000 more in net interest income from our current UF GAAP position. It is worth noting that an important part of our UF exposure is structural as it pursues to hedge our equity from inflation in the long term.

Speaker 3

As such, over the coming quarters, our UF GAAP will be determined by both directional positions and inflation index fair value through comprehensive income securities to take advantage of market opportunities and the funding strategy followed by the banking book. Please turn to Slide 18. Banco de Chile is the most capitalized bank in the industry. As of June 2023, our Basel III ratio was 17.8%, well above the fully loaded Tier 1 limit of 12.25 percent applying for us, as shown in the table on the right. Regarding CET1, we reached 13.5% this quarter, significantly surpassing our main competitors, as shown in the chart on the bottom left and well above the fully loaded limit established by the regulator of 8.75%.

Speaker 3

With these levels of capital, we are easily complying with the fully loaded Basel III requirements. Finally, I want to highlight that during the Q2, the regulator has established a countercyclical buffer of 0.5% for all banks in the Chilean banking industry to be fulfilled by May 2024. I want to emphasize that this change has no effect in our strategy or outlook as we are more than sufficiently capitalized to comply with this. Please turn to Slide 19. In the Q2 of this year, expected credit losses amounted to merely COP 67,000,000,000, representing a substantial 37% reduction when compared to the same period last year and a 36% decrease compared to the Q1 of 2023.

Speaker 3

The year on year decline is attributed to the MXN 40,000,000,000 of additional provisions established in the Q2 of 2022 compared to this quarter, where we did not set additional provisions. Additionally, this decline was further boosted by a reduction in commercial loan provisions, resulting from an internal risk ratings improvement for 1 specific wholesale customer during the Q2 of 2023 as well as lower exposure to the segment due to a decrease in commercial loan exposures. However, the positive impact was partially offset by the increase in credit charges in our retail loan portfolio, which is a result of gradually returning to more normal levels of cost of risk. On a sequential basis, the decline in cost of risk is due to the improvement previously mentioned in commercial loans as well as lower provisions related to consumer loans due to higher loan volume expansion in credit cards during the Q1. We are confident that the leading level of coverage ratio that we maintained, coupled with the highest level of additional provisions, should provide adequate protection in the event of a prolonged economic downturn and increasing delinquencies as demonstrated on the chart to

Operator

Thank you very much. We'll be moving to the Q and A part of the call. The first question comes from Mr. Yuri Fernandes from JPMorgan. Please go ahead, sir.

Speaker 4

Hey, guys. So I have a first question here regarding the sensitivity for rates. I guess Pablo mentioned in the call the sensitivity for inflation, I think was €60,000,000,000 every €100,000,000 But just checking the sensitivity for rates here. And also regarding loan growth, when should we see loan growth accelerating because you have some pressure from inflation, you have some pressure from FCIC, and we are seeing like very lackluster loan growth in Chile. So just trying to understand what should we expect for 2024?

Speaker 4

And if I may, a final one, very quickly, dividends. What is the expectation for payout this year if Banco De Chile will continue to pay, I think, 100% of the distributable earnings that last year was around 70% payout on reported earnings? Thank you.

Speaker 3

Hi, Yuri. We had an issue. It just cut out. Let me just finish the last page here and we'll go into your questions. So if you can turn to Slide number 20.

Speaker 3

As you can see on the slide on the left, high inflation figures continue to impact total expenses. In nominal terms, operating expenses increased by 12% compared to the same period last year and remained flat versus the Q1 of 2023. Considering that the average inflation measured in terms of U. S. In the last 12 months was 10.7% and our expenses grew 1.6% in real terms.

Speaker 3

This nominal annual increase is primarily influenced by inflation, index line items and a lesser extent to IT related expenses. It's important to note that advances in efficiency across various areas have allowed for significant growth in disbursements allocated to IT related expenses as a result of our ongoing digital transformation program, which is essential for addressing this transformative changes demanded by digitalization. Regarding the efficiency ratio, we achieved a ratio of 35 4% this quarter, which is well below the industry average and that of our main peers as shown in the chart on the bottom right. As mentioned earlier in the presentation, this level of efficiency is a result of several initiatives implemented through our productivity plan and cost control measures. Finally, it's worth mentioning that as previously indicated in our reports, the upward trend of our efficiency ratio towards normalized figures was expected and remains well below the midterm target of 42%.

Speaker 3

Please go to Slide 21. Before I answer the questions now, I just want to recap some of the main points and give some guidance for 2023. So after a period of strong growth and record levels of inflation, the Chilean economy is undergoing an adjustment. Accordingly, we expect the current recession to last about the Q2 of twenty twenty three and during the second half of twenty twenty three, we should begin to see signs of growth. As a result of the high overnight rate, GDP will continue posting a negative rate for the full year.

Speaker 3

Nevertheless, this approach of the Chilean Central Bank to control inflation has been very effective, reducing inflation more quickly than expected. Accordingly, we're estimated that inflation will end the year slightly lower than 4% in December 2023 was approximately 1 percentage point down from the level that we saw last quarter. In this environment, given the Central Bank's delay in adjusting the monetary policy, we expect that the overnight rate ending the year below 8% is reasonable. In this context, we've changed our outlook for NIM, reducing the guidance from 4.6 percent to 4.3%. In terms of cost of risk, we expect levels of around 1.2% for the year with an efficiency ratio of around 38%.

Speaker 3

This baseline scenario should provide us with a return on equity of around 22% for this year, depending on the evolution of these indicators. In the current economic landscape and our prudent improvement business strategy has consistently set us apart from our peers, reinforcing Banco de Chile's position as the best bank in terms of profitability, capital and risk management. Moreover, we are very proud to be recognized as the leading bank in Chile with respect to ESG risk. This acknowledgment reflects our unwavering commitment to sustainable practices and responsible business operations, solidifying our reputation as a trusted and esteemed financial institution within the industry. Our dedication in ESG principles further strengthens our position as a forward thinking and responsible leader, driving a positive impact and fostering sustainable growth in the market, which is key for our shareholders.

Speaker 3

So now we'll go into the questions. So the first question was the dividend. So what we've seen and what our dividend policy is today is dividend policy of 60% of distributable net income, which means net income less the effect of inflation on capital, you get to distributable net income. Last year, we distributed or this year versus the prior year's earnings, we distributed around 60%. In the future, depending on the environment, the economy, politics, which affects the industry and the environment, we should we need to think of Banco of Chile using our capital effectively.

Speaker 3

So we can't rule out changes in the dividend policy or in the dividend payout in the future, taking this into consideration. So we can't rule out a similar payout in coming periods.

Speaker 2

So in that, let me add just one quick idea and Rodrigo Varadena here. So in that matter, it's very important to analyze the potential implication of different scenarios of economic growth for the future. Important to remember that still under a recession, we continue posting negative year on year growth rate of activity for the next year, even though we're expecting an economic growth of 2%, as we said in the presentation, we have a downward bias in that estimate because there are several sources of risk. So that's why we acknowledge possibility of having a few weak growth for the next quarter. So obviously, it also impacts the perspective of growth dividend for the future.

Speaker 2

Growth is still a matter of uncertainty for the future.

Speaker 3

What is that? And can you Jordi, can you repeat the other questions?

Speaker 4

Yes, sure. It was regarding overall dividends. I think they are somewhat connected. I'll do another one here. I think it's more important.

Speaker 4

You mentioned, Pablo, I think 1.2 percent cost of risk, I think, for 2023, and you are running below 1%, right, was 0.7% this quarter. And I think the 1st Q was around 1%. So my question is, are you thinking that cost of risk will accelerate materially in the second half? And how do you see this versus your high coverage ratio, right? Because maybe something I was thinking for you is that Banco de Chile could consume the additional part of the voluntary provisions in the coming years, like basically keeping cost of risk closer to 1, like at lower levels.

Speaker 4

So I don't get like the 1.2 seems a little bit too high, given you have such a high coverage ratio and given the first half was below 1% on cost of risk. So if you can add some color on this would be great. Thank you.

Speaker 3

So cost of risk should be around this range of 1%. There's a lot of uncertainties still in the Chilean economy and how this can proceed in the future, but around 1% is it could be slightly higher, but around 1% is reasonable. And then the medium term 1.2% is the long term level for Banco de Chile under a more normalized scenario with a normalized asset quality book, where we have a good relationship between risk and return. Remember that during the pandemic, we had strong growth in low margin products, SME loans with government guarantees, loans, upper income segments with lower margins. This has affected the this has positively impacted the cost of risk temporarily and this should be normalized in the future and which should also be noticeable in the NIM.

Speaker 3

So today we have a NIM in 4.6%. In the medium term, we should think about levels similar to this because there's many factors that have to be considered in this unusual scenarios that we've lived in over the last couple of years, which affected the assets and liabilities in different ways, including the loans as I mentioned.

Speaker 2

Hi, Yuri, I'm Rodrigo Galena again, sorry. Yes, important also to mention the rule of the excess of liquidity that we have in previous years, which also was very important in terms of asset quality indicators, etcetera. So basically, what we are assuming for the future is that a further normalization in the total level of liquidity. But additionally, we're expecting a higher unemployment rate for the future. So basically, we're beginning to see a slight increase in the unemployment rate.

Speaker 2

Today we are at level of 8.5%. However, we have different lien indicators anticipating a further deterioration in terms of the employment growth. So we can rule out that unemployment rate over the next quarter will be around 9%. We can rule out the possibility that total unemployment rate will surpass the level of 9%, which is consistent with normalization of cost of risk as well in the future.

Speaker 4

Super clear, Rodrigo and Pablo. I was thinking that the 1.2% of the full year, but it's clear. This is kind of a mid term guidance indication and not that your full year will be around this level. Thank you very much.

Speaker 5

Thank you. Thanks.

Operator

Thank you, Yuri. Thank you very much. The next question comes from Juan Ricardo from Scotiabank. Please go ahead, sir. Your line is open.

Speaker 6

Hi. Congrats on the strong results and thank you for the opportunity to ask questions. My first one is related to financial results, which were very strong in the quarter, around €120,000,000,000 I think that you mentioned the drivers in your remarks. So my question is going forward, how sustainable these levels are?

Speaker 7

Hi, this is Daniel Gilarte.

Speaker 5

Regarding financial results, of course, we are seeing still some long term ratios of course and long term market factors. Treasury income of course has been quite affected now and probably will be more affected in the future considering the path that is estimated for interest rate in the short term and in the long term as well and also inflation. So probably we are considering a slide in treasury revenues, of course, for the next year. But basically, approaching to the long term levels basically, I mean, to a normalized scenario over the next 2 years, I would say.

Speaker 6

That's helpful. And then I have a follow-up on NIM. I think that Paolo mentioned made a comment on the NIM expectation in the long term. Can you comment on what level of NIM do you expect for 2024? And please repeat the long term expectation for NIM?

Speaker 6

Thank you.

Speaker 3

So with NIM really depends on many factors. There's many factors at play. So you have today inflation that's coming down. We're expecting around 4% and for the next year inflation is expected to be at around 3%. That's something important to be considered.

Speaker 3

So for every 100 basis point change in inflation with the gap that we have today on the balance sheet is about between Ps. 60,000,000,000 and Ps. 70,000,000,000 change in net interest income, so something like 15 basis points. So we have that. We also have the different factors and the assets that are coming due, loans are coming due, financial instruments coming due, which will be at higher rates.

Speaker 3

This is a positive impact to growth in terms of more profitable products with a stronger economy should be possible as well. So probably in the ranges of around 4% is reasonable, slightly higher than 4%. And we're expecting for this year 4.3%. So next year, slightly lower than that, 4.2 is reasonable to expect in this scenario. Obviously, this depends on the baseline scenario of which you saw in terms of rates and inflation.

Speaker 3

This could have a change and also on expectations that Chile returns to growing next year and which should increase the demand for loan growth.

Speaker 2

One other important thing to consider here is that for the future, we are expecting a neutral interest rate that will likely be a bit higher than we used compared to the rate that we used to see in the past. So for example, before the pandemic, the neutral interest rate in Chile used to be around 3% to 5%. Now we're expecting for the long run and interest rate at least a little bit higher than 4% in an environment where the potential growth broadly will be 2% or slightly lower for that. So important to consider the different opposite forces that there will be in the future.

Speaker 3

Prior to the pandemic, net interest margins on average were around 4.5%. We should be in similar levels.

Speaker 6

Got it. Thanks for the color.

Speaker 3

In the medium term, obviously.

Speaker 6

Understood. Thank you for the comments.

Operator

Okay. Thank you very much. Our next question comes from Mr. Tito Lovato from Goldman Sachs. Please go ahead sir.

Operator

Your line is open.

Speaker 8

Hi, Rodrigo and Pablo. Thank you for the call taking my questions. Couple of questions also. Just to think about your profitability going forward, just given all of the moving parts, you're coming from a high level of ROE. How quickly does that normalize as inflation comes down, as interest rates come down and cost of risk kind of gradually going up?

Speaker 8

Just to think about that gradual sort of evolution in ROE and thinking about sustainable levels, I think, in the past, 18% or so. Is that sort of where should we expect ROE to be next year? Or any color you can give on the ROE trajectory from here? And then my second question, I guess, somewhat following up on the dividend question, but from a different perspective. You have a very high capital ratio as you've highlighted.

Speaker 8

What is the optimal capital ratio? I mean, I don't think you need to sustain a 13% core Tier 1 or do you think you do or what should that optimal capital level be in a normalized environment? Thank you.

Speaker 3

Thanks for your question. In terms of ROE, there's a lot of moving parts. So for this year around 22% is reasonable. For next year around 18% in this baseline scenario which is our long term level. There's many moving parts because of the pandemic.

Speaker 3

So on the assets, we've had lower rates than normal because of different products that were originated during this time period and liabilities as well, there's different moving parts. So this makes it challenging to analyze the banking industry today. However, when we take into consideration all these moving parts that have benefits and negative impacts on the balance sheet, We should expect gradually returning to the 18% today. We have had higher rates for longer than we were expecting and with a little bit lower inflation, but this has meant that we have a very strong net interest margin for the year. For next year, this should begin to normalize and we should have levels of around 18% of ROE, which is in line with our long term level.

Speaker 3

In terms of the capital, the capital is today we're very comfortable with the level of capital that we have. So we're very comfortable, but we're aware that we have to use our capital efficiently. And for this reason, in the future, we have to analyze how much capital is required for the growth that we're anticipating. Today, the growth in Chile is very slow. As Rodrigo mentioned, the long term rate of GDP growth is around the 2% level with elasticity today being closer to 1%, 1.3% around there versus the higher levels in the past.

Speaker 3

So this is something that has to be taken into consideration and the Basel III requirements for layer 2 which is possible to be implemented. We just recently had an increase in the requirements for the countercyclical buffer of 0.5%. So all this has to be taken into consideration, but we can't roll out a change in similar to what we've had in the past in terms of how much we pay out.

Speaker 8

Okay. Thanks, Pablo. But I guess just to think, I mean, 13.5% core Tier 1. Is there an optimal level in terms I mean, because 18% ROE, even loan growth picking up, maybe you grow loans 10% a year, you would still be

Speaker 7

yes. Hi, this

Speaker 5

is Daniel Delarse. Regarding capital and core capital, of course we have today a 15.5% ratio. We have of course some internal buffers very important there. And also we basically want to see how it's going to evolve the implementation of Basel III in Chile. Today we don't have for instance for any of the banking players, pillar 2 charges.

Speaker 5

So we have to see what's going to happen in the next years. And additionally, in terms of our target ratio, we don't have a specific figure, but of course we want to hover in the future 2 or at least 2 percentage points over the regulatory limits and also our internal buffers as well.

Speaker 8

Okay. That's helpful. Thank you very much for the color.

Operator

Thank you very much. Our next question comes from Mr. Ernesto Gabilondo from Bank of America. Please go ahead, sir.

Speaker 7

Hi, good morning, Rodrigo and Pablo. Thanks for taking my call. My first question is also a follow-up on NIMs. In the past, you have said that NIMs benefited from higher rates. So considering that rates are starting to go down, what should be the impact for NIMs?

Speaker 7

And can you remind us the sensitivity to rates for every change of 100 basis points? Then my second question is on expenses. We saw them growing at double digit this quarter. So how should we think about OpEx growth for the full year and next year? And then my last question is on your effective tax rate.

Speaker 7

Considering lower inflation levels, where do you see the effective tax rate normalizing? Thank you.

Speaker 3

All right. Thanks for the question. So in terms of NIM, NIM, there's a lot of moving parts. So we have different events that occurred during the last years, which are coming due all at once. So it's very difficult to analyze.

Speaker 3

So we have negative impacts and positive impacts. So we have, for example, today rates coming down, lower inflation, but we also have positive impacts of higher rates on loans being originated during this time of higher rates and they'll stay higher because of different levels of interest rates that we're seeing today as Rodrigo mentioned. So it's very difficult to isolate one factor from another. So it's true, the lower rates will have a negative effect, but we also have positive effects that are occurring at the same time. And for this reason, this is the reason why we don't expect a large change from the guidance of this year of 2022 of 4.3% and next year which should be around similar levels of around 4.2 percent because we have different factors that are impacting us negatively but also positively.

Speaker 3

So the change of and you have to take into consideration that the rates went up very quickly over a very short period of time and we're already seeing reductions. So not the entire loan book is in price at very high rates. So today we have a lot of loans at very low rates. So there is it makes the calculation more difficult. So for 100 basis point change, if you think of an average rate of the total loan book of 100 basis points, it would be something like 30 basis points over a 3 year period.

Speaker 3

And it's about 1 third of that impact per year. But it's a calculation that's very complicated to take into consideration because of the quick changes that we've had in the open net rate. In terms of expenses, if you see the expenses in real terms, our expenses only grew around 1%. So we've been very good at managing our expenses and implementing changes in order to control expenses quickly. Remember that all salaries in Banco de Chile are indexed inflation and adjusted at least twice per year.

Speaker 3

And basically almost all contracts in Chile are indexed inflation. So it's reasonable to expect that inflation plays a major role. We already implemented a large change in the footprint of Banco de Chile. We already made changes in the past, which we haven't we already made large changes that some of the competition is currently doing. If we look at for the future, we should think of cost growing around inflation and we should think of the efficiency ratio being as we showed in the press release and the conference call, we mentioned less than 42%.

Speaker 3

And in terms of taxes with our baseline scenario of 3% inflation, we should think of around 23%.

Speaker 7

Thank you very much, Paolo. Just a follow-up in terms of the expenses. You said that cost growth should be in line with inflation next years. But thinking about this year that, as you mentioned, has been pressured of salaries linked to inflation, how should we think about the OpEx growth for this year?

Speaker 3

It should be around So for next year, in line with inflation.

Speaker 7

And for this year?

Speaker 3

It should be around the high single digits growth.

Speaker 7

Perfect. Thank you very

Operator

much. Okay. Thank you very much. Our final question for today comes from Neha Agarwala from HSBC Global Research. Please go ahead, ma'am.

Speaker 9

Hi. Thank you for taking my question and congratulations on the solid quarter. For this year, if I'm not wrong, you expect about 22% ROE, which means a meaningful deceleration in the second half of the year. Are you just being conservative, for instance, in your provisioning guidance? Or do you expect meaningful slowdown in your margins or any other other aspect of the business?

Speaker 9

And my second question is, for next year, the decline in the ROE is mostly coming from the NIM, but we should see an improvement in the other indicators like fee income and provisions should our country to remain stable. Is that right? Thank

Speaker 3

you. Thanks. So for the remainder of the year, we have to think that we have a reduction in the interest rates and inflation that will be impacting the bottom line for the remainder of the year. That's the main impact that we see. In terms of the second question, can you repeat?

Speaker 9

For next year, the decline in the ROE would be mostly driven by the top line, the NIM. How should the OpEx and fee income should improve and OpEx should remain under control and provision should also be stable? Is that the trends that you expect or is there any divergence? Thank you.

Speaker 3

Provisions should normalize to levels of around 1.2 percent versus this year, which should be around the 1%. That would be the only difference in a little bit lower inflation and lower rates.

Speaker 9

And slightly higher tax rate?

Speaker 3

Sorry?

Speaker 9

And slightly higher tax rate for next year.

Speaker 3

Tax rate, yes, because of the lower inflation.

Speaker 9

Perfect. Thank you so much.

Speaker 3

Thank you.

Operator

Okay. Thank you very much. We see no further questions. I would like to apologize once again for the technical issue that interrupted today's presentation. And I'll pass the line back to the management team for the concluding remarks.

Speaker 3

Thank you for listening. We'll see you again in the next quarter results. Thanks.

Operator

Thank you. This concludes today's conference call. We'll now be closing all the lines. Thank you and goodbye.

Powered by Quartr
Earnings Conference Call
Banco de Chile Q2 2023
00:00 / 00:00