Despite a recent surge in the valuations of Argentine banks, analysts believe the country’s financial sector still has lots of room to grow, due to large and frontloaded credit growth.
In 2017, the Argentine financial system saw loans grow by 54%, a strong acceleration compared with the 28% growth in 2016.
Frederic de Mariz,
UBS analyst Frederic de Mariz says that his conversations with banks’ management teams have led him to believe that “the system should continue to grow loans at 15% in real terms for the next three years, or 25% in nominal terms. We estimate 36% for 2018-2019, in line with market expectations of 37%.”
Credit Suisse is another bank that expects greater upside in terms of growth and valuations – and draws comparisons with the Brazilian banking boom between the end of 2003 and 2007.
Credit Suisse banking analyst Marcelo Telles believes there are many parallels.
During that period in Brazil, annual loan growth reached as much as 26% per year in real terms. The leading banks – such as Itaú and Bradesco – consistently traded at elevated multiples: price to books of around 3.5-times and price to earnings of around 15-times.
Today, Argentina’s main banks are around that level (around 3.4-times P/B and around 13.0-times P/E) and, if anything, the underlying fundamentals look even stronger in Argentina than they did in Brazil in 2013. Today, credit penetration in the economy is just 15.8%, compared with 25% for Brazil at that time.
According to Telles, at this stage in the cycle it is the opportunity for loan growth that drives bank growth rather than today’s return on equity (ROE) – which is still flattered in Argentina by high inflation.
“Valuations are even more correlated with loan growth than ROE,” he says. “During [the Brazilian 2003-2008] credit cycle, profitability, although healthy, had its ups and downs.
“The fact that valuations improved consistently during the period regardless implies that the market seems to attribute more importance to loan-growth dynamics rather than profitability during a credit boom.”
Credit Suisse believes that the system’s loan growth will be around 16% to 20% in real terms over the next three years, taking credit-to-GDP to around 23% in 2021 – and to 32.1% by 2023.
This room to grow in terms of credit penetration is across the board, and now that political risk has been removed – at least for a couple of years following president Mauricio Macri’s success in October’s midterm elections – the banks will be seeking aggressive loan growth.
Deposits are also expected to grow from 2019 as Argentina moves from a negative interest-rate environment into one with positive real rates, which should help attract deposits into the system and lower funding costs.
De Mariz at UBS points to the equity transactions that many of the listed banks completed last year to enable them to capitalize on strong demand for loan growth as the economy moves into positive growth territory.
“During 2017, the four banks raised equity, bringing tier-1 capital levels to 16.4%, on average,” he notes. “Asset quality is a remote concern at this stage of the credit cycle. UBS economists expect inflation to reach 15.8% in 2018, while we estimate Argentine banks to post growth of 42%.
“Furthermore, we estimate that penetration levels revert closer to pre-crisis levels and reach 24% by 2020, which should translate to loan growth of 32% for the next three years.”
While neither analyst sees much room for operating leverage to generate margin improvements in the near future – as capex in new branches and technology will be prioritized to capture the enlarging customer base for credit products in the country – there are other potential positive factors that will drive banks’ profitability.
One important theme will be possible consolidation. Argentina has one of the most fragmented banking systems in Latin America, with the top five banks accounting for 58% of total deposits – compared with 66% in Brazil, 73% in Mexico, 81% in Colombia, 78% in Chile and 92% in Peru.
According to Telles at Credit Suisse: “This scenario creates an opportunity for consolidation in the system, where the large private-sector banks should be among the beneficiaries given their large scale and bigger capital base [recently strengthened further in most cases].
“Scale will play an even more important role in a lower inflation environment, as sector profitability should decline further as inflation recedes.”
Banco do Brasil’s majority participation in Banco Patagonia is clearly up for sale and other opportunities that are often mentioned include HSBC’s retail presence – the bank’s management continues to deny it is interested in selling, but it would fit into the broader regional strategy and bankers in Argentina say they have been shown the bank’s books on multiple occasions.
China’s ICBC is also often mentioned, although it is less clear whether the Chinese bank would be interested in scaling back in a market that has strategic importance for the country.
Other drivers of growth include expectations of more regulatory freedom in the coming years as the current government moves to remove remaining prescriptive rules: minimum interest rates and maximum fees, as well as mandated lending to certain sectors.
Also, improved sovereign upgrades and inclusion in the MSCI – expected by many to come this June after the market was disappointed and surprised by its continued omission in June 2017 – all create positive momentum for earnings growth and operation improvement.