Credicorp Ltd (BAP) 2020 Q4 法說會逐字稿

Good morning, everyone. I would like to welcome you to the Credicorp Ltd. Fourth Quarter 2020 Conference Call. We now have all of our speakers in conference. (Operator Instructions) At the conclusion of today's presentation, we will open the floor for questions. (Operator Instructions)

With us today is Mr. Walter Bayly, Chief Executive Officer; Mr. Gianfranco Ferrari, Deputy Chief Executive Officer; Mr. Alvaro Correa, Deputy Chief Executive Officer; Mr. Reynaldo Llosa, Chief Risk Officer; Mr. Cesar Rios, Chief Financial Officer; and Mrs. Milagros Cigüeñas, Investor Relations Officer.

And now it is my pleasure to turn the conference over to Credicorp Chief Financial Officer, Mr. Cesar Rios. Mr. Rios, you may now begin.

Thank you. Good morning and welcome to Credicorp's conference call of our earnings results for the fourth quarter 2020. Since our previous conference call, economic reactivation in Peru has continued at a better-than-expected pace. In seasonally adjusted terms, GDP in the last quarter of 2020 stands around 3% below the pre-pandemic levels. Our estimates suggest GDP declined around 11.3% in 2020 due to the COVID-19 pandemic, which is better than initially forecast.

The job market has also continued to recover, as indicated by data on payrolls managed through the banking sector. The external sector has also provided favorably as copper prices have reached levels not seen in almost 8 years. We expect the GDP to rebound between 8% and 10% in 2021, underpinned by high copper prices, capital inflows to emerging markets, and expansive monetary and fiscal policies in the local front.

Next slide, please. Two significant factors are driving uncertainty in the current context. First, the sanitary situation generated by COVID-19 has deteriorated in developed and emerging countries over the last few weeks. The recent data on excess mortality reflects this reality. The government has established restriction measures based on the severity of COVID-19 indicators, which include the high, very high, and extremely at risk levels.

On January 28, the government ordered a new localized lockdown from January 31 to February 14 in regions that registered extreme risk levels of COVID-19 indicators, including Metropolitan Lima. The effect of these restrictions will slow down the recovery in the common and service sectors. But all of the sectors, including mining, fishing, manufacturing and construction, will continue to produce.

Downside risks to our current GDP growth forecast of 8% to 10% might be revised if the sanitary situation deteriorates further and more restrictive lockdowns are mandated. However, vaccine doses will arrive in Peru in February, and the vaccination process will begin immediately.

Second, Peru will hold general elections on April 11, 2021. The latest surveys show candidate George Forsyth leading voters' preferences with 17% of total votes, followed by Keiko Fujimori, Julio Guzmán, Verónika Mendoza and Yhony Lescano, who are neck and neck for second place as of the date of the poll. It is still early to predict outcomes. The political landscape continues to be marked by uncertainty that will play out in coming months.

It is important to note that according to the latest surveys, 25% of voters are undecided, intend to leave the votes blank or will initiate ballots. The second round of presidential election is set to be held on June 6, 2021.

All are relevant events in countries in which Credicorp operates include a law passed in Bolivia in January 2021, which gives eligible borrowers the option of a 6-month grace period. This facility is in addition to the loan deferrals implemented in 2020, which led to both interest reversals and 0 interest rate impairment charge in December 2020. We are closely monitoring the effect of these measures in our business at BCP Bolivia.

In Chile, elections will be held on April 11 to elect the members of the constitutional assembly, regional governors, mayors and councilmen. General election is set for November 2021.

Next slide, please. The Peruvian financial system has evolved favorably, hand in hand with economic recovery in the last quarter of 2020. According to data from the central bank, loan growth in December stood at 12.3% year-over-year at a constant exchange rate, the highest growth rate since 2013, underpinned by the effect of Reactiva loans. If we include the effect of Reactiva loans, total loans, if -- sorry, if we exclude the effects of Reactiva loans, total loans declined 4.6% year-over-year.

Importantly, there are signals of recovery in loan origination in the retail segment, which includes consumer and mortgage loans. In this context, Peru posted one of the highest loan growth rates in the region in 2020. For 2021, we expect total financial system loans in Peru to grow around 2% as the effect of the Reactiva loans start to recede and the structural loans recover.

Lastly, we would like to comment on recent events on the economic policies and regulatory fronts in Peru. The Central Bank recently announced monetary measures to expand long term credit. This...

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(Operator Instructions)

Okay. At December 2020, Congress passed a law on interest rate ceilings. These ceilings will be set by the Central Bank, which will also set limits on charges for certain fees in the financial system.

On February 2, the executive branch of (inaudible) had announced its intention to take the matter to constitutional court if Congress insists on passing the measures to the (inaudible). Additionally, the Minister of Finance has approved a decree that enables SUNAT, the national superintendency of tax administration, to gain access to clients' deposits information if balances exceed PEN 30,800.

Lastly, on January 28, 2021, the government announced the COVID-19 government guarantees program directed to individual SMEs. We will be extended until March 21, 2021. As explained in our last call, under this initiative, banks can offer reduced interest rate on reprogramming facilities in exchange for additional government loans coverage for very specific segments of clients. We will continue to closely monitor these developments to evaluate impact on Credicorp's operations.

Next slide, please. Economic reactivation describable is evident at Credicorp's end markets by a significant activity in the use of digital channels. Demand for financial products in the individual segments continue to reactivate. Some products such as mortgages and bancassurance produced a significant recovery in the fourth quarter of 2020. Digital sales in particular accelerated this quarter, and on a full year basis grew 72% in 2020. This expansion took place in a context of growth in the downturn of digital channels due to immobilization measures and social distances. Bancassurance and advance on wages are the products that reported the highest growth in sales this quarter, posting expansion above 400% in respect to January's figures.

Analyzing the full year transactional trends results. First, average monthly number of transactions grew 51.5% led by digital transactions, which grew 91.5%. Second, digital transactions have come to represent 77.7% of total transactions this quarter, The largest increase in shares of transaction was registered by Yape, which represents 19% of total transactions this quarter compared to 5% in the first quarter this year. This expansion was driven by our new product Yapecard, which allows BCP and non-BCP clients to execute transactions. This new product generated more than 1 million new Yape accounts in 2020 and banked almost 400,000 people during the same period.

Next slide, please. Now I will comment on the highlights of Credicorp's performance in the fourth quarter and the full year 2020. Results show a quarterly recovery in line with economic reactivation. A summary of results shows in a year-over-year analysis, the loan portfolio grew more than 19% in quarter-end balances, driven mainly by loans from the government relief programs. After isolating the effect of this progress, Credicorp's structural loan portfolio fell 2.2% in quarter-end balances.

On a quarterly basis, net interest income registered a contraction of 4.3% due to the impact of nonrecurring events and 0 interest for loan impairment charge in Bolivia in particular. If we isolate nonrecurring events, adjusted net income fell minus 0.8%. On a full year basis, adjusted net interest income contracted 1%. This evolution was fueled by lower interest rate and a less profitable asset mix, which was partially offset by the reduction in interest expenses generated by a lower-cost funding structure. In this context, full year structural NIM situated at 4.78%.

Nonfinancial income was boosted this quarter by fee income, which increased 20.7% quarter-over-quarter, in line with more transactional activity at the expiration of fee waivers. In full year results, nonfinancial income dropped 10% due to a decrease in transactional activity throughout the year.

Full year insurance underwriting results were impacted by COVID-19-related and incurred but not reported claims in the life business, which was partially offset by a decrease in property and casualty claims.

Provision expenses fell considerably this quarter. Better economic expectations and improvements in client behavior led to a contractual cost of risk of 2.44% this quarter. In full year terms, the structural cost of risk was 5.07% in 2020.

In this context, Credicorp reported PEN 653 million in net income this quarter, which represents a return on equity of 10.8%. On a full year basis, Credicorp generated PEN 347 million. If we isolate nonrecurring events, adjusted net income for 2020 situated at PEN 725 million, an adjusted ROE of 3.5%.

I will now explain the results of our main operating units. Next slide, please. I will begin by explaining BCP's standard loans evolution. In 2020, the total loans portfolio in year-end balances grew 18.8%, driven by Reactiva loans, while the structural loan portfolio decreased 4.1%.

Now let me explain before the details the evolution of the average daily balances, which are major drivers of margins. On a quarter-over-quarter basis, loans in average daily balances grew 1.4%, driven by Reactiva loans, while the structural portfolio dropped 2.5% due to a contraction in the wholesale and SME segments. On a full-year year basis, total loan growth in average daily balances of 17.1% was mainly driven by the Reactiva program, which provided loans primarily to the middle market, SME-Business and SME-Pyme segments. If we exclude the Reactiva program, BCP's structural loan portfolio in average daily balances grew 4.1% in 2020, mainly driven by corporate banking, mortgages and consumer loans, which expanded 7.5%, 7.2%, and 13.1%, respectively.

BCP's funding structure has improved to active liability management and by the increase of savings and demand deposits. On a full year basis, total deposits grew 30%, led by low-cost deposits. In 2020, BCP materially reduced its funding cost. It has been able to repay more expensive sources of funding, such as [due to bank], repos and senior bonds, and have seen opportunities in a context of low interest rates to implement a timely liability management strategy.

Next slide, please. Regarding payment behavior and the [reprogram] portfolio in retail banking at BCP. In the fourth quarter, retail clients registered an improvement in their payment behavior hand in hand with economic reactivation. On-time payments on structural retail loans reached 96% at the end of December, improving from 94% in September. By the end of the year, only 20% of the retail portfolio has current reprogramming facilities compared to 23% in September.

Finally, our high uncertainty portfolio, which is comprised of loans that are within grace period or those that have overdue installment, currently represent 9% of the structural loans compared to 18% last quarter. In this portfolio, at the end of the third quarter of 2020, only 3% of the structural loans were still within grace period, and 6% were overdue.

Next slide, please. Now let me explain the evolution of cost of risk and asset quality indicators. On a quarter-over-quarter basis, the decrease in provision expenses is attributable from an improvement in macroeconomic expectations and updating the probability of default of the specific segments based on the latest assessments of transactional and payment behavior. On a full year basis, provision expenses growth was mainly concentrated in the individual segments, specifically consumer. In addition, higher wholesale banking provision expenses were driven by the evolution of the specific clients in the airline, tourism, transportation and energy sector, which has been highly impacted in the COVID-19 context.

In this scenario, the structural cost of risk situated at 2.33% for the quarter and 4.74% for the full year. As anticipated in our last call, figures for asset quality show a deterioration quarter-over-quarter, particularly in structural loans in the individual segment, given that credit card and consumer grace periods have expired. This was partially offset by a rebooting of write-offs, which initiated in September after [LDS] mandated to freeze the counting of days of delinquency expired. We expect further deterioration through the first half of 2020, particularly in the SME segment as grace periods in this segment will expire. In the aforementioned context, the NPL coverage ratio situated at 145.1%.

Finally, BCP's accumulated provisions represent 7.92% of the total structural portfolio.

Next slide, please, going on to BCP results. Net interest income continued to follow an upward trend and rose 5.9% quarter-over-quarter. In full year figures, net interest income declined 2.4%, impacted by nonrecurring events through the year. If we exclude nonrecurring events, the full year adjusted net income analysis shows, first, a decrease in adjusted interest income of 4.2% due to a dropping market rate and a change in the asset mix, which was partially offset by active investment portfolio management.

Second, adjusted interest expenses fell [17.2%] due to a drop in interest rate and funding structure improvement. In this context, adjusted net interest income rose 0.8% in 2020.

In terms of NIM, the full year contraction of 87 basis points was attributable to the aforementioned variations and to the dilution effects of Reactiva loans, which generate negligible NIM. Risk-adjusted NIM situated at 2.28% this quarter and 1.03% in 2020.

Regarding nonfinancial income, in terms of the quarterly evolution, core items grew 13.2%, hand in hand with economic reactivation. This was the first full quarter free of fee exemptions, and as a result, fee income expanded 12%. Additionally, alongside an uptick in transactions gained, and [NIM-based] transaction grew 18.1%. On a full year basis, non-financial income fell 11%, mainly driven by fee income and gains on FX transactions, which contracted 12.1% and 11%, respectively, due to a decrease in transactional activity for the year.

Next slide, please. BCP's efficiency ratio grew year-over-year after cost control measures were implemented in 2020, including reducing nonessential expenses and variable compensation. In full year terms, overall operating income contracted 5.4%. BCP's adjusted efficiency ratio remained stable at 14.9%. This evolution was a result of our efforts to speed up the process to implement BCP's transformation strategy, which focused on improving the client experience and efficiency levels.

The table in this slide shows our progress in leveraging efficiency drivers to move forward on our journey to optimize our cost income ratio. First, we accelerated our IT investments to expand digitalization. The share of digital transactions grew 16 percent points. As a result, 55% of our clients are digital, and we are able to close -- and we were able to close 20 branches this year.

Next slide, please with regard to Microfinance. Let me explain the dynamics of Mibanco's loan portfolio and funding base, In 2020, the total loan portfolio in year-end balances grew 20.5%, while the structural loan portfolio decreased 6%. The structural portfolio construction is explained by the severe impact of the pandemic in the micro businesses segment and the fact that liquidity was provided by clients through the government programs.

Now let me explain in further detail the evolution of average daily balances, which are major drivers of margins. On a quarter-over-quarter basis, loans in average daily balances grew 9 4 -- 9.4%, driven by government programs loans, while the structural portfolio grew 1.4%. On a full year basis, total loan portfolio grew 13.4% in average daily balances, driven by government programs, while structural loan portfolio grew 1%. With the onset of economic reactivation during the second semester of 2020, origination levels for Mibanco's structural portfolio is starting to recover in segments that are still within our risk appetite.

Regarding the evolution of funding at Mibanco, demand and savings deposits grew 37% year-over-year, which allowed us to reduce the share of more expensive funding sources in total banking. All these factors led to a structural funding cost to fall from 4.2% in 2019 to 3.3% in 2020.

Next slide, please. Client payments at Mibanco's continued to follow an upward trend, and the high uncertainty portfolio has shrunk considerably. Mibanco's client payment performance level produces substantial improvement, and there was a drop in request for new reprogramming facilities as grace periods expire in a context of economic reactivation. Moreover, overdue payments remained stable this quarter.

Analyzing the structural portfolio reprogramming figures, we note: first, non-reprogrammed, up-to-date loans increased this quarter to represent 49% of the structural loans at the end of December. Second, the overdue portfolio slightly increased this quarter as client facilities expired and reached 6% of the structural loans.

Finally, the high uncertainty portfolio, which is comprised of loans that are within grace periods or loans that have overdue installment, currently represents 24% of the structural loans compared to 43% last quarter. In this portfolio, at the end of the fourth quarter of 2020, 18% of the structural loans were still within grace periods. The majority of these periods will end by June 2021 and the remainder by the end of 2021.

Next slide, please, regarding asset quality indicators. Provision expenses decreased quarter-over-quarter due to adjustments in our credit risk model after better-than-expected trends in client behavior were registered in the context of economic reactivation. This improvement was partially offset by the increase in delinquency as grace periods expired. This evolution, coupled with the expansion of the structural loan portfolio, led the structural cost of risk situate at 4.7% this quarter. In full year terms, the structural cost of risk situated at 10.6% in 2020.

In terms of portfolio quality, the structural NPL ratio rose to 10.2% in 2020. Delinquency showed an uptick as grace periods expired and some clients were unable to make payments. The increase in NPLs was partially attenuated by a reboot of charge-offs. In this context, Mibanco's NPL coverage ratio increased to 178% in 2020.

Next slide, please. Now let's look at Mibanco's results. Net interest income fell 6.4% quarter-over-quarter after being hit by accrual interest reversals as grace periods expired and some clients registered delinquency. In full year figures, net interest income declined 18.4%, impacted by, first, a contraction in the structural portfolio and the influence of the government program loans; the context of lower interest rate; and the interest rate reversals due to increase in delinquency ratios. In terms of NIM, the full year contraction of 400 basis points was attributable to the aforementioned variations that was partially offset by an improvement in the funding structure. In this context, risk-adjusted NIM situated at 3.2% in 2020.

Regarding efficiency, full year operating expenses decreased 6.3% due to cost control initiatives, including a reduction in head count, noncore expenses, variable compensation, among others. Although nonfinancial income reflected an uptick in bancassurance fees for policy insurance to the recurrent portfolio, operating income dropped at a faster pace than operating expenses, leaving efficiency to deteriorate.

Next slide, please. Now I will comment on the results of the insurance business. On full year basis, net income decreased due to growth in provisions related to excess mortality for COVID-19. This was partially offset by lower claims in the P&C business. The decrease in claims in the P&C business was attributable to a drop in cases, mainly in the cars line and personal line after movement were restricted to stem contagion. Life net premiums increased through the [alliance] channel and due to an increase in sales in the bancassurance channel.

An analysis of the evolution of provisions this quarter indicates that there were a decrease in incurred but not reported provisions in the life insurance business after fewer COVID-19-related cases were reported. On a year-over-year basis, however, claims increased 59.8%, mainly due to the impact of COVID-19.

In a quarterly basis, corporate health insurance and medical services registered an increase in net income. This evolution is explained by lower claims at the corporate health insurance business and higher demand for medical services. On a full year basis, net income increased due to a drop in net claims in the corporate health insurance, which was attenuated by a decrease in the medical services income due to lower demand.

Next slide, please. Regarding the pension fund business, assets under management at the system level dropped year-over-year due to fund withdrawals under the government mandated facilities. In the case of Prima, total fund withdrawals amounted to PEN 7.5 billion, which represents 70% of the funds that were available for withdrawal. The law signed by the executive in November could lead to conditional withdrawals in the first quarter 2021 for approximately PEN 3.4 billion.

(inaudible), net income increased quarter-over-quarter due to a recovery in the profitability of the reserve funds, in line with market performance. Nonetheless, it was partially offset by an decrease in income due to a decrease in affiliate contributions. On a full year basis, total fees decreased due to higher unemployment, which reduced the level of contribution; second, contribution exceptions granted by the government in April; and finally, a decrease in assets under management level after funds were withdrawn through government-mandated facilities.

Next slide, please. Regarding our investment banking and wealth management businesses, total assets under management posted an increase of 34.5% over the year, impacted by the exchange rates and driven by the asset management businesses in general, and the subscription of the third-party funds from institutional clients in particular. On a quarterly basis, recurring income grew 4.1%, mainly driven by asset management and corporate finance businesses.

In full year terms, the decrease in the earnings contribution was mainly associated to growth in recurring expenses, which was in turn driven by transformation in the operating model and by one-off expenses from new subsidiaries. This was partially offset by growth in recurring income, mainly due to capital markets and asset management businesses. Our nonrecurring results also contributed gains of PEN 24 million in a context in which nonrecurring income are weighted to nonrecurring expenses.

Next slide, please. Now I will summarize Credicorp consolidated performance. An analysis of the balance sheet structure shows that Credicorp's interest-earning assets increased 29% in 2020, driven by both the loan and the investment portfolio. We increased the size and duration of investment portfolio while maintaining interest rate risk and maintaining a solid short-liquidity buffer.

In 2020, Credicorp's loan portfolio and year-end balances grew 19.1%, driven by government program, while the structural loan portfolio decreased 2.2%. Average daily balances on a full year basis, the loan portfolio grew 15.8%, while the structural loan portfolio grew 4%.

As explained to our lines of businesses, this has to have been financed mainly through low-cost funding sources. Additionally, we executed our inaugural international series bond issuance at holding company level this year to increase our liquidity buffer.

Next slide, please. Now to summarize the evolution of the main risk indicator, there was a significant quarter-over-quarter drop in provision expenses, which was attributable to an improvement in expectation for 2021 and to an improvement in client payment behavior. On a full year basis, growth in provision expenses reflected the impact of COVID-19, which led to a structural cost of risk 2020 at 5.07%.

Regarding asset quality, NPL increased quarter-over-quarter as the grace period expired. Our coverage ratio increase year-over-year situated at 156.1%. It is important to note that NIM this quarter was impacted by a 0 interest rate loan impairment charge of PEN 148 million in the context of regulatory changes in Bolivia. On a full year basis, NIM contracted and situated at 4.3% due to a contraction in structural NIM, the impact of government programs and 0 interest rate terms.

Next page, please. In terms of full year efficiency, the cost-to-income ratio situated at 46.3%. Deterioration was driven by lower income and nonrecurring event in most of our lines of businesses. The deterioration attributable to microfinance was driven by a decrease in income from Mibanco Peru and the reconsolidation of Mibanco Colombia. Common equity Tier 1 level for both BCP and Mibanco remain above our internal target, situating at 11.4% and 18.1%, respectively.

It is important to mention that the capital ratio of Mibanco increased due to capital contribution of PEN 400 million executed in December. As mentioned previously, our core Tier 1 ratios are calculated at the Peruvian GAAP accounting as the charts use local net income figures.

Next slide, please. Credicorp generated PEN 653 million in net income this quarter, which represents an 10.8% of ROE. If we isolate nonrecurring events registered this quarter, adjusted net income is PEN 725 million, while the adjusted ROE situated at 12%.

It is important to mention that this year, nonrecurring events refer to impacts to income and expenses that were registered in our P&L but are not part of our recurring business as channel. We are not expected to recur on a consistent basis going forward. It is important to note that some variable costs, such as variable compensation payments and tax withholding provisions, fell this year due to the crisis and to a drop in income. We expect that going forward, these variable costs will reactivate in the context of ongoing recovery.

To review our expectations, let's go on to guidance. Next page, please. In a context where uncertainties remain, our expectations for 2021 assume that the lockdown will be less strict and shorter than those imposed last year. As one of the economies that was the hardest hit by the pandemic in 2020, we expect Peru's GDP to recover in 2021 and grow between 8% and 10%.

In terms of loan origination, we expect our commercial transactions to continue an upward trend through 2021. As such, we project grow between 4% and 8% in average daily balances.

On the total portfolio, this will be driven mainly by the retail banking segment at BCP stand-alone and by Mibanco.

Regarding NIM, we expect the interest rate to remain low in 2021. And our loan portfolio will continue to be impacted by the presence of low-interest-rate government loans. Accordingly, we expect NIM to situate between 3.9% and 4.4%.

As macroeconomic expectations continue to improve, provisions for loan losses are expected to continue following a downward trend, bringing the cost of risk levels between 1.8% and 2.3%.

We expect to recover our capacity to generate income this year and believe that 2021 will be a year of transition in terms of efficiency in this context. We expect some variable costs such as variable compensation and withholding taxes to reactivate alongside higher income. Additionally, in 2021, we will continue investing in digital channels and in transforming our operating model to boost efficiency in coming years. In this scenario, the efficiency ratio is expected to situate between 44% and 46% this year.

Finally, we expect our average ROE to register low double-digit level this year to stand between 10% and 14%.

With these comments, I would like to open the Q&A, please.

(Operator Instructions) Our first question comes from Ernesto Gabilondo with Bank of America.

My first question is on the regulatory outlook. We saw a negative observation of President Sagasti. And the government has a potential deal on interest rate cap. And also negative observations on the deal pertaining to nationalize private pension funds. However, we have seen that Congress is expected to continue adding pressure on both deals in the next couple of days.

So what is the probability that you are seeing in this to pass? And can you share with us which percentage of your loan book portfolio is with interest rates above 50%?

Ernesto, thank you for your questions. Trying to tackle some of the questions that you posted. I think certainly we have some risks on the horizon. The law that could cap on commissions and interest rate is still going to be to, I will say, a probably lengthy period of discussion. It's probably too early to have an exact assessment. But if this rule passes to all the process and debates, probably is going to impact probably more severely the institutions that operate in the very high interest rate segment that are the specialized institutions; and probably are going to be a less severe impact in the universal banking institutions in the country. Nevertheless, it's going to damage the access to credit and reduce the access to credit for a significant number of Peruvians. Regarding to...

Now can you share with us what...

Sorry?

Now if you can share with us what percentage of your loan book portfolio is the interest rates above 50%, just to have a...

Excuse me. I couldn't understand the question very well.

Yes. So can you share what is the percentage of your loan book portfolio with interest rates above 50%? (inaudible)

I don't have this figure at hand. We can come back with some general guidance further on.

(inaudible) small portion [one]?

This is Gianfranco. In line with the 50% question, how come -- how did we come up with the 50% threshold?

Yes. I believe that -- yes. So I believe that it's a small percentage of the loan book portfolio that you have in interest rate above 50%. So let me ask you...

I understand, but my question is why 50%, not 40% or 35%? Why did...

I'm just thinking that the high interest rate you have seen in other countries that give you that number, but...

But I'm trying to make the point because unfortunately, if this law is passed, what is going to happen is it's going to have a huge impact on financial inclusion. And it will actually will generate a lot of financial exclusion. And if you understand the dynamics of how the financial inclusion on the asset side was in Peru, is basically very, very, very, I would say, tiny loans of less than $100 and at high rate that are mostly driven by (inaudible), obviously Mibanco and institutions like that.

And those guys move forward as we -- again, sorry, rates, the amount of loans are larger and rates are smaller. And I was trying to make a point of 50% because if there is a 50% cap, the whole microfinance industry or 90-something percent of the microfinance industry will get -- be very healthy.

Okay. Then my second question is on the political front. We have seen that Verónika Mendoza are placing the second position in recent polls. Also, we see that unfortunately, the potential successor of the president of the Central Bank, Velarde, passed away. So this is creating uncertainty on who will be his successor. So what are your view or your thoughts on these events?

I think probably my first reaction is that we are in Peru, and it's very early to tell. We have several surveys, several polls. In some of them actually Verónika Mendoza are in the top of position, second 5, depending on the polls. But I will say that is very early to tell at this point. Probably, we need to have to hear the proposals to go down the road and see how the proposals and the image of the candidates consolidates in the next months.

Just to add on what Cesar just said, the temperature on the election, it's very cold. The focus on the population, I would say, is more on the pandemic rather than on elections. And statistically, there are like 7 #2s now, so we've seen all of them within the margin of error. So as Cesar mentioned, it's really too soon to tell. And I do believe that we will have to wait at least one more month to have more clarity on also the outcomes of the election.

(Operator Instructions) Our next question comes from James (sic) [Jason] Mollin with Scotiabank.

This is Jason Mollin. On the question of medium and longer-term asset and earnings growth versus capital optimization and dividends, Walter, you had provided some thoughts at the end of the third quarter call where you spoke about the potential that shareholder returns going forward could shift more to dividends with slower earnings growth, versus what -- in the future versus what we've seen in the past. Have recent trends given you more conviction that this is what will drive future shareholder returns?

Yes. Jason, this is Walter. Yes, we have to take out of the equation this year. This year is somewhat an unusual year. We are rebuilding our profitability. And we do not expect -- we haven't made a final decision of the Board, but this is not a year in which I would have people waiting for a lot of dividends. We want to rebuild a little bit our capital base.

But going forward, yes, the dynamic -- the long-term dynamic is that the country will grow less, whilst Credicorp continues to generate around 17% return on equity, which we will be a low -- a higher rate than what our risk assets will grow. Thus we will be spinning out excess capital regularly to our shareholders. That is the dynamic that I think should come back next year, not this year.

Our next question comes from Tito Labarta with Goldman Sachs.

My question also I guess on the longer term, just looking at your guidance for this year and eventually getting back to 16%, 17% ROE, as you mentioned, Walter. I think we saw a nice improvement in the cost of risk, but net interest margins continue to be under pressure, I mean I guess partly due to Reactiva loans.

I think previously, you've guided for maybe second half of 2022. Is that how long you think it will take? And is it mostly a function of getting your margins back to where it was before, and for the margins to get back to where it was before? Is it just the Reactiva loans coming off the loan book? Do you need interest rates to go up back to normalized levels to get to that 17% ROE? Just to try to get a sense of the drivers to be able to get back to that long-term ROE.

Probably, if we consider that the asset base growth at high single digits, we can obtain, as mentioned before, ROEs of high double digits. This growth is going to be driven by a country that is going to grow, let's say, 3-plus percent. And the financial sector usually grows 1.5x the nominal figure.

In terms of margins, what we should expect is that we are going to have at least a couple of years of very low interest rates that affects our overall profitability. And at the same time, we are going to come down with the relative weight of Reactiva loans that are scheduled to have 2.5 years more standing if there is not any additional changes. So we are going to have, I will say, a couple of years in which we are going to have still very low interest rates and the presence of the Reactiva loans on the book.

At the same time, we expect during this period to have a higher proportion of retail loans in our book that carries higher margins, some more risk also. The risk will come down at segment level to pre-pandemic levels, adjusted by the change in composition because more retail loans than wholesale loans down the road.

And the fee income probably is going to grow less furiously than the assets due to the digitalization that is going to put some pressures in fees. At the same time, we are going to start gaining efficiency within the benefits of the digital transformation that we have embarked in all the companies of the group.

The combination of these factors should lay down a sustainable ROE in the high double digits as mentioned -- Walter mentioned previously. This is the basic dynamic. I don't know if you want some clarification on a specific topic.

Yes. Cesar, that's helpful. I guess maybe just a couple -- a follow-up on the margin side. Given just the impact of Reactiva, do you know if you -- with the guidance you provided, 3.9% to 4.4%, do you know what that would look like if you exclude the Reactiva loans? Just trying to get a sense of, I guess, the normalized margin excluding that.

And then -- and it sounds like you would need for interest rates to get back to maybe more normalized levels to get that margin up higher and to get that ROE up higher. Is that correct?

Yes. But I would say Reactiva posts probably 80 basis points of the margin. But if the slowdown is going to be progressive and the interest rate also impact, because we have a very low funding base, that is less valuable in relative terms now. This process, I mentioned, is going to last at least 2 years. When every -- when all these 2 factors dissipate, what we are going to have probably is higher margins driven by these factors, but no more competition. We wouldn't expect to reap the full benefits of these 2 factors that -- due to the competition, but we are going to still remain profitable and with a stronger NIMs than now.

But let me add something. This is Walter. Just to very -- to be very concrete, we do not need interest rates to go up to achieve the returns on equity that we have been accustomed to. We can achieve without an increase, a general increase in interest rates. This is a year in which we will be rebuilding our profitability. And we should see the results quarter after quarter until reaching this last quarter, which will give us good results still below but close to sustainable levels.

Okay. That's very helpful, Walter and Cesar. And just one final question, just to confirm, the 17%, I think you have previously mentioned you could probably get there second half of 2022. Is that the correct timing? How do we think about just the timing to get back there?

Definitely not this year. As I said, last quarter this year will be close to those levels, but still below.

Okay. So sometime next year.

Our next question comes from Jorg Friedemann with the Citibank.

My question is regarding asset quality. If you could give us some thoughts about when you think that NPLs will peak? We have started seeing the deterioration due to the expiration of grace periods. But I was even more interested in reconciling this with your cost of risk guidance, which is still above 2019 levels. So just wondering if you think this is a new normal, or just the cumulative effects of the pandemic and we should have some normalization in 2022 afterwards.

Yes. There are 2 questions. In terms of the expectations on the increase on the NPL loans, we expect them to peak, as Cesar mentioned, by the end of the first semester, by the end of the second quarter. Basically because we will see all the performance on the SME and consumer markets where all the grace periods expire.

In terms of the projections, I mean there is still some uncertainty in the market. The health issues not over in Peru. We have elections. So we have provided, I would say, quite truthfully forecast of what we feel the range could be. That's why you have a range in between 1.8% and 2.3%. Because there are still some clouds in the sky, and we are not sure what will happen during next year -- during this year, especially during the first 2 quarters.

Perfect, and if you allow me just a follow-up there. Because now you have more than 10% of your portfolio in government programs that have lower risk. And those, according to what I understood in the call, are still expected to last for 2.5 years. So would it be reasonable to expect the cost of risk evolving in 2022 to levels below those observed in 2019?

I would expect them to go below what we had in 2019. Probably -- remember, there is a changing mix and, more important, growth in the retail market -- I mean the wholesale market. So we'll probably see numbers somewhere below what our guidance for 2021 has been.

(Operator Instructions) Our next question comes from Geoffrey Elliott with Autonomous.

Can you help us a little bit on the net interest income? I guess you've given the guide on net interest margin, but the balance sheet size has clearly been pretty volatile during 2020 due to the pandemic and due to Reactiva Peru. So can you help us, either on the net interest income or on the size of interest-earning assets, how that's going to evolve? So we can get a clearer idea of what you're expecting on NII.

We have been explaining the basic dynamic. Could you clarify your question, please?

Yes, it's all -- So you've given us an outlook on net interest margin. But the balance sheet size, the interest-earning asset base that you're calculating that on, has been very volatile because of the pandemic, because of Reactiva Peru. So I'm trying to get a clearer idea of how you're expecting that to evolve so we can get a better picture of what you're expecting on net interest income from here. I mean maybe a better way of putting it is how do you expect net interest income to evolve off the 4Q '20 base, once we've adjusted for the one-off that you had in Bolivia this quarter.

The NIM this year has been affected. I'm going to summarize by the reducing interest rates that impacts our liquidity and investment income. We have managed the portfolio to increase the long term income. There was also a reduce in the mix due to Reactiva. As I mentioned previously, these factors are going to wind down. And the other factor is going to be the change in the composition of the portfolio towards retail.

In terms of the cost of funds, we have already made a significant liability management, and the costs are not going to be reduced significantly. So the improvement is going to come from the relative less weight of Reactiva and the higher proportion of retail loans in our book, and after some time, the increase in general interest rate in the markets. But this is going to take a while.

And the size of the book has grown significantly this year due to, I will say, 3 factors. Reactiva loans, a significant influx of deposits that we have invested in liquidity and in medium and long term bonds. But this sudden increase is not going to repeat into 2021 -- in 2021.

Understood. Just to follow up on that, in 2020, you had really huge growth in deposits, up 27% year-on-year. How do you think deposit balances are going to evolve in '21?

They are going to come down to more historical levels, close to the growth of the loans. The significant increase in deposits this year in the year 2020 was due to the liquidity provided by Reactiva and the withdrawals from the pension funds. This is one of a couple of one-off events. In 2021, the trend is going to be similar to the growth of loans, with probably an upward risk due to additional liquidity measures provided by the Central Bank, but probably not the same magnitude than in 2020.

Our next question comes from Andres Soto with Santander Bank.

Maybe a follow-up in terms of NIMs. I would like to -- based on your guidance, I understand that you are expecting NIM for 2021 to say to be at the same level as your structural or total NIM before adjustments in the fourth quarter of 2020. So I would like to understand, in terms of the new origination that you are seeing, especially in the SME portfolio, what are the trends that you are seeing? Is this being difficult to get rates at the close to historical level, given the potential anchoring effect of the Reactiva loans?

My initial response is that, no, the clients has understand the difference. And the volumes was driven more by capacity to pay a need. Probably Gianfranco can give better color. But was not an anchoring effect of Reactiva. Reactiva's clients understand that this is a different program.

Yes. Thank you, Cesar. Exactly, and we already have a lot of evidence. The clients have asked for that, asked and got. There are fewer loans during May period until August-September of last year, have already getting new loans, let's say, normal conditions. They completely understand the difference between normal rates in the market completely with rate and the subsidized rates given by Reactiva. So that's not an issue for us today.

Going forward what could happen, and there's a lot of conversations right now, we have some specific sectors of the economy that have really hit very hardly. An example is tourism, so that the Reactiva program may got extended for some specific segments. There's nothing concrete, not right now, but something like that may come in the next couple of months.

Perfect, Gianfranco. And previously, you guys mentioned competition as another source of pressure to your margins. Which specific segments are you seeing the strongest competitive environment in [previous] days?

Yes. There's a lot of competition. So let me go a step back. There are some sectors in which some part in which we're back on track to pre-COVID levels. And those are the sectors where there's very harsh competition. Strategically, mortgages is very competitive now. And the (inaudible) the [large] corporate and the midsize companies, and the large-midsized company, since they see much activity and/or investments with the same usual suspects providing or offering financial -- financing facilities to the same clients. And there is also a very strong contribution on the top corporates and the large mid-market companies. And for those 2 segments significantly. Again, the only [serious] competition across all of the segments, but the [culture] is about -- among those 2 segments.

Next question comes from Alonso Garcia with Credit Suisse.

I would like to touch base again on the regulatory front. I mean you already provided some color on the interest rate caps bill. But could you please share your thoughts on the pension systems reform? I mean what probability do you see of it being approved in Congress? Does the current government support this bill or not? The timing and also if ASPs, as we know them right now, would play a role under this new model or not at all? Any color would be appreciated.

Okay. This is Alvaro Correa. There, the question is difficult to answer. There's a lot of uncertainty today. There is a new law that is being drafted as we speak, and there's a proposal from a specific commission, a special commission that was created last year. That specific new regulation is a real transformation of the pension system. However, it is difficult to say that it has a strong support from all parties. There is still discussions in Congress about that. And the time frame for that is also uncertain. Some people say it's going to come with a final decision in the next, let's say, 30 to 60 days. Other people talk about leaving this to the next government and the next congress. That means that should be discussed in about 6 to 8 months from now.

So a lot of uncertainty. And if it goes through, is definitely -- it has an impact on Prima AFP for sure, because the model changes. The funds will be auctioned to -- in an international auction, and we can participate, but it's not for sure that everything will stay as it is today. I mean sure, it's not going to stay as it is today. So a lot of uncertainty. We should have more color on that in the next -- in your next call for sure.

And lastly, on the expense side, could you please discuss regarding the allocation of OpEx, CapEx this year related to your transformation strategy? I mean by subsidiary or which specific initiatives you are currently working on?

All the companies in Credicorp are undergoing a transformation process. In relative terms, for the BCP share is bigger due to the relative size and the evolution of the company.

I will say in terms of transformation, probably 2/3 are OpEx and a little bit more than 1/3 is Capex. And the increase from 2020 to 2021 is going to be significant, probably more than 20 -- 30%. And out of this total, BCP is going to be more than 50% of the total of the entire operation.

But I would like to emphasize that all the companies subject to the reality of each one are undergoing a significant process of investment and digital transformation suited to the specific needs of the specific segment that they choose -- they serve.

Our next question comes from Piedad Alessandri with Credicorp Capital.

I had a question regarding the other expenses. In the MD&A, you mentioned all the salaries, the administrative expenses. But other expenses that it's a significant point of the increase in total expenses year-over-year, it's not detailed. If you could give us a bit more view regarding the other expenses within 2020 and its development for 2021, that would be really great.

Yes. Usually, in other expenses, we record special taxes that are not income taxes. That can be contributions to several institutions, operational fee-related expenses. In the year 2020, we have significant operating expenses relating to 2 items. One was donations. BCP made a PEN 100 million donation at the beginning of the crisis. Mibanco also made a significant donation, Credicorp Capital, Pacifico. So this is a significant expense this year that is not recurring expense, of course.

And we are also recorded in this item the expenses related to the management of direct expenses to the matter, the COVID-19. We are talking about a specific equation to premises, health measures, protective equipment. The sum of these 2 items has been significant this year. And we also have a relative uptick in fraud at the end of the year, but not in the magnitude to the first 2 accounts that I mentioned.

Okay. So we could expect other expenses to...

These 2 expenses are -- sorry, I would like to clarify something. Down the road for 2021, we still expect to incur in COVID-19-related expenses, probably for the first half year, part of the year due to the lockdowns, all the security measures that we have to take to protect our teams.

Hearing no follow up, we'll move to our next question from Carlos Gomez with HSBC.

My question refers to the lessons that you have learned from the last year. Obviously, it's a big shock. For most companies, they say that this has been an acceleration of the change. But have you seen anything that makes you think about a structural change at the company? In the future, would you like -- I don't know, perhaps to be more in insurance or less in insurance, more abroad or less abroad? Has the strategy changed in any way as a result of the pandemic in the year 2020? And I shouldn't say this, but can you also tell us why your tax rate was so low this quarter?

Cesar, could you tackle the tax rate and I'll answer the strategy.

Okay.

Okay, perfect.

Relating to the tax rate, we calculate the tax rate based on local accounting figures. And in local accounting figures, we have, I would say, 2 significant factors. One is that we have increased this year the size of the investment portfolio, and we have them tax expense securities. And particularly in the last quarter, we have also recorded significant provisions in local accounting. So the combining effect of these 2 factors has led to a drop in income tax.

Yes. Carlos, yes, to answer the second part of your question, actually, that was my last closing comment in my remarks at the end. We have not modified our strategies. But undoubtedly, we have accelerated several initiatives, as you well mentioned, because of the accelerated use of digital channels. So what this means is that we will probably deteriorate our short-term efficiency ratios. But we think this is the smart thing to do for our long-term results and competitiveness. We have had very extensive reviews of all our strategies with all our business units. And nothing has dramatically changed. The plans that have been laid off have, in essence, just accelerated. And I think that the lesson is -- that I personally take from this is that while you feel that you're on the right path, maybe go faster. But that's my own personal thoughts, Carlos.

Our next question comes from Jason Mollin with Scotiabank.

As a second question and maybe a follow-up to what Carlos was asking, on the earnings mix at Credicorp, considering its banking, insurance, pension and investment banking and wealth management businesses, in general terms, do you see a change in the earnings growth rate from the different segments that would alter your view of the composition of Credicorp's earnings going forward?

Okay. Let me take this one, Jason. This is Walter. We have several dynamics. I think that within Credicorp, BCP will obviously continue to be by far the largest contributor. And we still have a lot of room to grow in Peru through BCP and through Mibanco. Of course, this is a year to rebuild the profitability. Not to grow a lot, but we think due to the continued still low levels of penetration of the Peruvian population in the banking system, there continues to be a lot of opportunities there. So where will we grow? More than vehicle by vehicle, I would say that the segments in which we will grow will be in the SMEs and at the low end of the consumer side. There continue to be opportunities, both on the transactional side concerning our platforms as well as on the lending side. That will continue to be the segments in which we will grow more in Peru, for obvious reasons, because the upper end of the consumer and all the corporates and middle market companies are fully banked.

To complement that, we have wealth management. We continue to have nice opportunities both in Peru, in Chile and in Colombia. And we have this initiative that we have for microfinance in Colombia, which we will slowly try to see if we can capture the growth. But in summary, where will Credicorp grow? In the unbanked segments of the population, which are consumers and SMES, particularly in Peru.

And how does insurance fit into that outlook, Walter?

That, it fits quite nicely. We are developing every day, and we get better at it, at insurance products precisely for those segments of the population. We've been very successful with our oncological insurance. And we think that there are more (technical difficulty) the oncological insurance that we can take to those segments of the population. Of course, recognizing that in insurance, there's still a lot more room to grow, but it's much more difficult than in banking. The penetration of insurance in Peru continues to be very low even at some of the higher end levels of the consumer population. So insurance complements quite nicely there.

And does pension -- is the outlook for pension growth with the changes, I mean with potential changes or reforms, is that something you think could grow slower in the new context or faster than we've been seeing the growth?

I think that one of the potential -- I mean the potential outcome from the industry will be the real change dramatically. So I would expect pensions to become a very, very small contributor to Credicorp going forward.

I would now like to turn the conference back to Mr. Walter Bayly, Chief Executive Officer, for closing remarks.

Thank you. We are very pleased to have left 2020 behind. It undoubtedly was a very remarkable year, with Peru having been impacted by the most severe recession in our modern history. We were always very confident with the strength of our balance sheet, which we felt was more than enough to take us through this severe downturn. This position of strength led us to thrive to the extent possible and with the assistance of our risk group to fully acknowledge and recognize in our results, the expected credit losses in the most vulnerable portions of our portfolio. This, with the idea to leave the losses mainframe behind and focus management's attention with the task of rebuilding our profitability while accelerating our delivery of our products via digital channels. Due to the conservative nature, our conservative nature, we took the precaution of issuing $500 million in 5-year bonds at the holding company level, cash which is still sitting on our books. We believe that this low rate environment allowed us, at a minimal negative carry, to have a second level of insurance, which has not been utilized.

Looking forward, there continues to be 2 elements of our uncertainty. As it was mentioned, the second wave of contagion, which is currently taking place. We believe that as a country, we have learned lessons from the first wave. And that given that the vaccines are already arriving, we expect the second wave to be less severe, but definitely we will know for certain in the next 30 to 60 days.

The second element of uncertainty is related to the political situation and elections. The political scenarios continues to be a source of uncertainty, but we will try to navigate those waters as we have had in the past.

On the business front, this is the year, as I mentioned, to rebuild our profitability. This rebuilding should happen throughout this year. And we should start to see the results quarter after quarter until reaching, as I mentioned before, the last quarter to results and returns, still below but close to sustainable levels. We have not modified our strategies, but undoubtedly we have accelerated several initiatives, which probably will deteriorate somewhat our short-term efficiency ratios. But we are confident that these decisions are the smart ones and the best for long-term results and competitiveness.

Before we finish this call, I would like to announce that we will be publishing our annual sustainability report prior to the end of the first quarter. During the first half of last year, to further strengthen our long-term performance and competitiveness in the markets we operate in, we launched the project to develop a strategy aimed at integrating sustainability more deeply and consistently into our business strategies as well as in our day-to-day activities. We worked for 5 months with a dedicated commitment of more than 30 leaders across 6 of our largest operating companies to identify sustainability-related risks and opportunities that could create strategic or financial value and growth, while generating a positive impact in society for each of our businesses. As a result, we redefined our vision, purpose and values, which are now better aligned with our current role in society and businesses, and established our 2020 and 2025 [competent] to sustainability product. We introduce this plan to you in our -- we will introduce this plan to in our upcoming 2020 sustainability report. We look forward to seeing your comments and further expanding on our program in the future.

Thank you, everyone, for your attention on today's call. As always, the team is available to meet and talk with you more about our performance, operating environments and strategy. Thank you all very much.

Thank you, ladies and gentlemen. This concludes today's presentation. You may now disconnect.