Foreign Trade Bank of Latin America Inc (BLX) 2010 Q2 法說會逐字稿

Hello and welcome to the Bladex Conference Call. As a reminder, today's call is being recorded. At this time, I will turn the call over to Ms. Melanie Carpenter. Ma'am, you may begin.

Thank you. Hello, everyone and thank you for joining us for the Bladex Second Quarter 2010 Conference Call on this, the 22nd of July of 2010. This call is for investors and analysts only. If you're a member of the media, you're invited to listen only. But if you have any questions, please follow up with i-advize after this call.

Joining us today are Mr. Jaime Rivera, the Chief Executive Officer of Bladex, and Mr. Christopher Schech, the Chief Financial Officer of Bladex. Their comments will be based on the earnings release issued yesterday. A copy of the long version is available right now on their website at bladex.com.

Any comments that management makes today may include forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. The comments are based on information and data that is currently available. However, the actual performance may differ due to various factors and these recited in the Safe Harbor statement in the press release. So, please refer to it for guidance.

And with that, I will turn it over to Mr. Jaime Rivera for his opening remarks. Please go ahead, Jaime.

Thank you, Melanie. Good morning, ladies and gentlemen. As always, we appreciate your presence with us today. Before asking Christopher to discuss the specifics of the quarter and then taking up your questions, please allow me to share with you some of my thoughts on our performance during the second quarter within a strategic context.

Now, we've known each other for some time, so I'm going to be open and frank with you. Like many of you I'm sure, I thought this was a tough quarter, especially for a company that places great store on stability of earnings and on no surprises and particularly, particularly during a quarter where, absent the unexpected movements in the capital markets, our results would have been very, very good.

So, here in a nutshell are some of my conclusions regarding the way the second quarter went. First, as to the trading losses themselves, well, I believe that we have once again proven that we can and have made sure to protect the bank's financial strength, even in the face of cataclysmic market movements. This was the case in 2008, as you might remember, when our balance sheet made it through largely unscathed through the whole Lehman mess. And it was the case again this quarter when the trading losses left our balance sheet largely unaffected as well.

But we're not yet at the point where we can completely isolate our quarterly P&L from the impact of such extremes of volatility. This was the case in the fourth quarter of 2008 and this was the case again this quarter as the Greek crisis contaminated the temporary valuations of Latin American positions that we believe are good.

So, here's what we're doing about the problem. First, and this should be no surprise to you, we are continuing to diversify the business. Already in 2009, for example, and as you might remember, while our commercial division regained scale and resolved its credit problems stemming from the lemon crisis, it was the asset management division that carried some of the weight for us. This quarter, it was the other way around. The solid performance and results in our commercial division allowed us to avoid what would otherwise have been a loss for the quarter.

As discussed before, the crisis of 2008 opened a great opportunity for us to expand our commercial activity as many banks retrenched while many companies grew. So as Christopher will explain, we are therefore dedicating more resources than ever to expanding our client base and gaining both scale and market share in the commercial division.

We're hiring excellent people and doubling our representative office network to gain more effective access to clients and to improve the quality of our credit calls even further. At the same time, of course, we're fine-tuning the risk metrics in the asset management division to account for the increased correlation in the capital markets, which we believe is a reality that's going to be with us for awhile.

The basic idea remains to grow all of our business lines to the point where, absent a catastrophic event, the ups and downs in any of those businesses will not have much of an impact on our overall bottom line results. In going about this work, we have both market circumstances and ample financial resources to back us up, and let me give you some concrete examples of what I mean.

Most of Latin America is doing well. Trade flows are expanding. Competition is less than it has been in years. Margins, while off their record levels of a year ago maybe, remain relatively steady at levels above historical standards. And credit demand, while not buoyant, has allowed our portfolio in the last year to grow organically by nearly 25%. And that's been critically important for doing all of this while improving credit quality, keeping a strong capitalization, and preparing a solid ample liquidity position. So, as our portfolio grows and asset management fees gain scale, the size and natural volatility in our asset management division will become much less of an issue.

Looking at a couple of quarters down the road, we continue making progress towards acquiring a factoring company, as we had announced some time ago. Factoring is a trade finance-driven business that we are convinced will grow rapidly and that will contribute an added element of scale and diversification to our business model.

So to summarize, we believe that as we leverage the bank, diversify its revenues, improve efficiency, and keep credit quality under control, profit and returns will naturally and almost inevitably grow. As Christopher will explain next, beyond all the noise created by the trading losses this quarter, our fundamental indicators are all moving steadily in the right direction. And that's why we believe Bladex represents a great investment opportunity.

Now, I would be the first to admit that keeping a steady hand in markets such as the one that we have all lived under in the last year and a half is not always easy. It's not. But we are an experienced team. So, we have learned to manage the unexpected and to make strategic decisions based on an objective assessment of underlying fundamentals and that's the principle we're sticking to. The fundamentals of our business are in our favor.

So with this and at this point, I will hand things over to Christopher for him to throw some light on the particular of the quarter or the particulars of the quarter, sorry. And then, we will be very glad to take all of your questions. Christopher, please?

Thank you, Jaime. Hello and good morning, everyone. Thank you for joining us on the call today. As usual, my comments will focus on the main aspects that have impacted our results in the second quarter of 2010, and I will put them in a context with the previous quarter and the same quarter of a year ago as well.

So as mentioned by Jaime, the bank was impacted by extraordinarily volatile capital markets to put a significant dent in the performance of our asset management division. What continued undiminished, however, was our progress in the core intermediation activities. Our commercial portfolio growth and the revenues we generate off it are accelerating at a faster pace than the growth rate of our expenses, which is indicative of our focus on increasingly efficient origination and prudent cost management, even as we are still in the very early stages of investing in our growth plans.

The same can be said of our portfolio quality, which continued to strengthen with the reduction of non-performing loans. All the while, market interest rates remained at historically low levels, emphasizing the need to continue to be very vigilant in terms of managing our spreads, which is exactly what we're doing.

The second quarter 2010 closed with net income of $1.7 million compared to $10.1 million in the previous quarter and $10.5 million in the second quarter of 2009. Comparisons with our performance a year ago have to be made carefully because our performance at the time benefited heavily from a very strong rebound in the capital markets, which compensated the impact of a retrenched commercial portfolio, as Jaime already explained. The discussion becomes then more relevant I think in the context of a comparison of our results with the first quarter of this year.

As you know, we look at our business in three distinct segments, the commercial division, the treasury division, and the Bladex asset management division. And the bank's results this quarter clearly show two things, that, number one, our efforts to strengthen and grow our commercial division are gaining traction and fast but also that, number two, we are still a few quarters away from getting sufficient scale in our portfolio to more easily digest an extraordinary reversal, such as the one we experienced in our asset management division this quarter.

So, let's go into more details regarding the performance and results of each business segment. Let's start with the commercial division, where net income was $13.9 million in the second quarter of this year compared to $14.3 million the previous quarter and $3.6 million a year ago. The net result this quarter was mainly impacted by higher revenues from a growing commercial portfolio base.

Net operating income -- and by that I mean net income before provisions for loan losses -- showed a healthy quarter-to-quarter increase of 23%, mainly from net interest income, which grew 12% as average loan portfolio balances showed solid growth in the quarter, while our average margins above LIBOR remained stable, even as the shift in the portfolio composition towards higher-quality clients continued.

The volume gains, therefore, did not come at the expense of lower rates. Lower funding cost benefited the commercial portfolio. But the market-base rates, which underlie our margins, continue to persist at historically low levels and therefore continue to slow the improvement of net interest spreads for the bank. But meanwhile, we continue the process of gradually relevering our balance sheet. Commission income showed an increase of 17% this quarter, mainly from growth in our letters of credit business.

So, we talked about the portfolio growth. Our average commission -- commercial portfolio balances, including acceptances and contingencies, accelerated their growth rate significantly this quarter. The same is true for period-end portfolio balances, which now stand at $3.5 billion, a 9% increase on the previous quarter and a 24% above the levels at the end of the second quarter of 2009.

Credit disbursements grew equally strong, reaching $1.6 billion in the second quarter, a solid increase of 25% over the previous quarter. The commercial portfolio remains short term and trade related in nature. 77% of the portfolio will mature within one year and 60% of the portfolio is trade financed, while the remainder represents lending to banks and exporters.

In terms of geographic diversification, we do business, as you know, in almost any country in the region. But we have six countries in the group that have a portfolio share of 5% or more. 57% of the loan portfolio is corporations and sovereigns and 43% is lending to banks. Regarding our exposure to specific industry sectors, not more than 12% of the corporate portfolio is concentrated in a single industry.

The sustainable quality of earnings in the commercial division was bolstered by the fact that one-time effects, such as a boost from reserve releases, did not have a significant bottom line impact this quarter. The portfolio risk profile continued to improve with non-performing loans scaling back, both in absolute and relative terms.

The amount of loans in non-accrual status amounted to $45 million this quarter, representing 1.5% of our loan portfolio, and that is a level that is 12% below the level in the previous quarter. At the end of the second quarter, only $4.1 million or 9% of the loans in non-accrual status were actually past due 90 days, while the rest showed payment behavior which was in line with the work-out terms.

Now, let me move onto the treasury division, which contributed a loss of $2.8 million to the bank's bottom line in the second quarter, same as the previous quarter. And as was the case in the last quarter, the main drivers continued to be the transitory impact of market interest rates driving lower valuations of interest rate and cross-currency swaps that we have in place to hedge our interest exposures in both our $51 million trading securities portfolio and our foreign exchange exposures in our small portfolio in local currency loans.

The securities portfolio balances remained essentially unchanged in the quarter and they continue to consist of high-quality and liquid Latin American securities. 80% of the exposures represent sovereign or state-owned risks. And as regards to liquidity levels, the treasury division ramped up its liquidity position towards the end of the quarter in preparation for substantial credit disbursement and the retirement of borrowings, which are scheduled early in the third quarter.

On the funding side, the division broke through the $1.5 billion in deposits mark, a level that was last seen nearly two years ago. Increased use of cost-effective repos was made to support the short-term increase in liquidity levels. Both deposits and repos together with the careful management of our diversified borrowing space helped the division to further reduce weighted-average funding cost by 12% this quarter.

Now, let's talk about our asset management division, which suffered a significant setback in performance, delivering a net loss of $9.4 million in what was an exceedingly volatile quarter. As Jaime already mentioned, this result came as close to worst-case scenario as seen since inception of the division four years ago. While the second quarter results managed to put a big dent in the bank's quarterly earnings, they were still far from having an impact on the bank's financial strength.

In the four years that we have operated the asset management division, we have made money in 12 quarters and shown losses in four quarters. The average quarter gain was $5.5 million, while until last quarter, the average loss had been $1.1 million each quarter and we had never exceeded losses of $1.8 million in any quarter. Those averages were well within the range of our original performance sensitivities, and overall net performance leading up to the second quarter of 2010 has been above our base case assumptions.

In regards to exposure, when we started the asset management division, our quarter holding in the fund was $100 million or 2.8% of the bank's asset base. The holding grew to a high of $163 million in the fourth quarter of 2009, and that represented 4.2% of the bank's assets, thanks to very good performance in the fund. At the current level of $153 million, our exposure represents 3.5% of total assets of the bank.

Now, to just briefly recap the general aspects of the bank's performance, let's just highlight some points of interest. We achieved 167 basis points of net interest margin and 138 basis points of net interest spread in the second quarter of 2010. And therefore, we managed to maintain an overall stable portfolio profitability while being in full growth mode.

The share of fees and commissions as a percentage of total revenues continued to increase. Operating expenses in the second quarter were basically unchanged versus the previous quarter. However, year-on-year, expenses were higher, mainly due to the expense growth in salaries and employee-related expenses, which were driven by our much larger sales force.

The efficiency ratio jumped to a hard-to-swallow 82% this quarter, as net operating revenues came down significantly, driven by the performance of the asset management division. However, if you strip the asset management division out of the calculation of the efficiency ratio, it effectively shows a quarter-on-quarter improvement of the efficiency ratio for the core of the bank of nearly 8 percentage points. Based on the results to date, we believe that our investment in people and new markets is already starting to show a tangible payback.

So, before I hand it back to Jaime, just a few comments on the bank's book value, which decreased $0.24 from the previous quarter to $18.35 per share after payment of dividends. Leverage inched up upwards to now 6.6 times. Tier 1 capital stands now at 23.4%. We are now in the third quarter of solid business expansion, maintaining control of credit quality and investing prudently in growth. Beyond the mark-to-market valuation setbacks this quarter, things are going in the right direction regarding our core business in terms of almost any relevant metric.

And with that, I hand it back to Jaime. Thank you very much.

Thank you, Christopher. Ladies and gentlemen, we'll now be happy to take up your questions. So please, go ahead.

Thank you. Now we will open the floor for questions. (Operator Instructions).

Our first question is from Tito Labarta from Deutsche Bank.

Hi. Good morning, Jaime and Chris. Thanks for the call. Just a couple questions. Just first on the trading gains, maybe just get a little more color in terms of -- I don't know if you can mention like what type of securities you kind of lost money in and also the potential to recoup some of these gains in future quarters and as well as how you may limit losses in the future.

And then, the second question just in terms of you mentioned you're interested in acquiring a factoring company. Just maybe give a little color in terms of how that would complement your business, how that pertains to outlook in terms of profitability and growth going forward. Thanks.

Sure, Tito. Good morning and no, thank you for attending our call. The first question regarding what types of securities and what types of positions are involved with the fund, I think it goes without saying, it all involves Latin American risk. And what the fund does is take positions based on expectations regarding movements in the prices of securities, movements in the prices of currencies, and movements in the spreads regarding the ability of companies to pay.

All of these positions or just about all of them deteriorated during March and April. Needless to say, we believe that in time those positions will prove to be good because we are confident that we know the fundamentals backing them up and that eventually, either at maturity or as markets stabilize, the valuation of those positions will turn around, and we will recover some if not all of the money that was lost. What I cannot tell you, of course, is how quickly that will happen. But again, we remain confident that we made the right calls. We've gone through it all and are satisfied with the way they are set up.

How do we make limits? Actually, it's a fairly complicated and involved system involving doing all sorts of statistical analysis, back testing, running simulations, et cetera. An event such as the ones that took place in April and May, however, was deemed to be at the very tail end of the probability curve that we used. And that has been the case with so many things in the last year and a half. The probability curve that we used, the real probability curve that apparently drives the market these days has very fat tails. In view of those fat tails, we're reviewing the metrics and adjusting it accordingly.

Does that answer your question regarding the trade results before I take up the factoring issue?

Yes, the answer was very helpful.

Okay, thanks. Factoring, we have spoken about this about three quarters ago. This is not a new idea. We have determined that just as has been the case in Asia and in the United States, factoring is becoming more and more of an effective instrument to finance trades. Factoring amounts to in essence discounting of trade receivables. It's not something that has been developed to a large extent in Latin America. Some countries accept it, Chile for instance. But by and large, it remains an unexploited market opportunity.

And our thought is that by entering the factoring business, which is very closely related to what we do on a day-to-day basis, is run very simple short-term credit analysis, making calls, and buying instruments at a discount, we could probably be first in the market. There are very few banks involved in factoring again. And our general idea is, look, let's buy a factoring company, probably in Brazil to start up with, and go from there to establish a regional factoring company to discount receivables that relate to interregional trade that is going very quickly.

The business is simple. It's profitable and very closely related to what we do. It would be a relatively inexpensive way for us to enter the local market, and it would add a new set of clients and a new source of diversification for our platform. We have taken our time because the fact that the market is not developed means that it's not easy to find a company set up in the way we would like to see, complete with corporate governance in place, established systems, transparency, up-to-par accounting, et cetera.

We have, however, found such a -- a couple of such companies and are now in the process of hiring investment bank help to help us negotiate and hopefully close a deal. It should be quite good for us, for Bladex, and for Latin America as well.

Great, thanks. That's helpful. And just to follow up, do you have a timeframe in terms of like when you think there could be an acquisition, or --?

Actually, we have been asked by the Board to accelerate the process. What I'd like to see is I would love to see this thing closed in 90 days. If it happens by the end of the year, that'll be fine.

Great. Thank you.

Thank you.

Thank you. Our next question is from Jeremy Hellman with Divine Capital Markets.

Hi. Good morning, everybody.

Jeremy, good morning.

Hi. Just following up on the factoring discussion, I'm kind of curious why you chose the path of acquisition versus building it yourself.

Actually, we actually discussed that long and hard, both at management level and at the Board level. It seemed to us that it would probably be quicker and less risky to acquire a company, as long as we were able to find one that, again, was set up in the way that we wanted it to be set up. Finding people experienced in the business is particularly difficult, precisely because the business is not yet well established in all countries.

All things considered, we thought, listen, if we can acquire and if it's a good company, it's probably a quicker and from an execution perspective, less risky way of going about it. And as things have turned out, I think that was the right decision.

Okay. And then, one for Chris -- I don't think you gave out a number. But do you have a number on the average spread on disbursements in the quarter in the commercial portfolio?

Yes, I do and this is a number that changes quite significantly from quarter to quarter, depending on what transactions are being closed and what size of the transaction it is. So this quarter, we have an average spread of 206 basis points, which indicates that we have closed a lot of deals with banks and with large, very large corporations, representing better quality of credit. And so, that compares to -- just for comparison purposes -- to a spread of 253 basis points that we had the previous quarter.

Right. And where -- obviously, it's early in Q3. Do you have any kind of early sense on the directionality of that this quarter?

We believe that in general, there's going to be a migration, a gradual migration towards a more prominent presence in the corporate sector if you look at the overall portfolio split. And that's going to evolve over the next few years we believe. So, it's hard to say what the split will look like next quarter. But I would guess that we will start seeing a little bit more activity on the corporate side than on the bank side.

Okay, thanks. And then, last one from me is kind of going back to the asset management division. If I understood Jaime's comments correctly, it sounds like the preponderance of the loss is unrealized losses. Am I correct in that?

Yes, that's correct.

Okay. Can you put any kind of percentages on that, 90% unrealized, 80%, 95%?

100%.

100%, okay. That's very helpful. And then, one last kind of corollary to that, can you provide any perspective on the results in the quarter and their effect on your efforts to raise outside-party investments into the fund?

Yes, it'll definitely be a setback. We don't know how large of a setback. We saw some investors leave the fund. But at the same time, we saw some other investors continuing to do diligence and continue expressing interest in coming into the fund. It'll be probably a quarter or two before we have a clear idea of how large of a setback it was and whether that setback was permanent or not. Clearly, it doesn't help. But we don't have -- we don't yet have a clear idea of what the magnitude of the impact will be. Some are leaving. Some other large names we expect are going to be coming in. I'll be able to give you a better answer three months from now.

Right. Yes, I'm sure if you were able to recoup those losses when it comes time to actually realize the P&L, if you're able to recoup them, that will certainly help your case. Okay. Thanks a lot.

Yes, no, and one last comment on that. Ironically, some of the people that are thinking of coming in are thinking of coming in because they believe that the potential for appreciation after the experience of last quarter is larger than it was before. We'll see.

Sure.

Thank you. Our next question is from [Barry Linhoff] with Ironworks Capital.

Thank you. Jaime, I appreciate your comments and agree with you on the prospects for the commercial business. I guess my question is from a philosophical standpoint, why do you feel you need to be in the asset management business?

I think we ought to go back to the thought process that we went through four years ago when we established the business. We believe that we have a special type of insight into Latin American risk, which allows us to make market-related risk calls to the advantage of the Company and our shareholders. If we were not to make use of that insight and market intelligence and knowledge of Latin America, we would actually be leaving money on the table.

As Christopher just explained, we've done quite well over time. So, we -- our thought process has been proven out. It helps the bottom line, it helps our investors and it simply puts to use intelligence and experience that we have gained over 25 years. We do believe in very real terms. And I think it has been proven out by experience that we know the market better than many of our competitors or better than many of the people in the same type of business. That -- recently that brought us into asset management business. That remains the reasoning and again, we love the trading gains.

But long term, what we aim to do is build a steady stream of asset management fees that will contribute to the bottom line in a stable way. It's going to take some time. It has taken some time. But because we believe this is the right thing to do, we're sticking to it, and we'll stick to it until we see it through.

Okay. And can you -- how do you value or how do you measure the value of that business to the overall enterprise? How do you measure its contribution? And more importantly, how do you measure its -- the level of risk that it imposes upon what is a typical leveraged bank structure already? You talked a little bit about fatter tails in the probability analysis that you run. But clearly, the environment that we're in and have been in for the last several years, volatility has been enhanced and those models have proved to be of limited use.

I guess my questions is -- as a shareholder who could -- who wants exposure to the commercial business that you have because you have such a tremendous competitive position but feels like maybe he could find this -- the asset management capability somewhere else without having to invest in Bladex, how should we be looking at the measure, the contribution that you expect it to make to the enterprise over the long run relative to the risk that it may impose?

From a very strategic perspective, one of the great benefits that we see to the asset management business is diversification. It has proven to be somewhat counter-cyclical to the rest of our activity. And again, during times when our intermediation activities have had problems or have had to be retrenched because of problems in the credit risk area, the asset management division has proven a very effective way of sustaining the corporation's profitability.

Your second question as to the risk involved, clearly, up to the quarter that we just closed, our models and our estimations of worst-case scenarios had worked very well. Christopher just mentioned the average magnitude of losses that we had taken on the four quarters that we had taken losses, which were relatively limited. Gains had always over time exceeded losses, and that's the way the model was supposed to work and we had done a fairly good return until last quarter.

Last quarter was a game changer clearly, and the way we think we ought to adjust to a change in the rules of the game is by adjusting the way we run or the risk we run in the asset management business and the day-to-day trading. And that's what we're doing. We expect that a new model based on the realization of much fatter tails will result in once again a more stable contribution of the division over time, although by its nature, it will always be somewhat volatile. We will have some good quarters and we will again have quarters where we'll lose some money.

What we are going to try to avoid is to again find ourselves in a situation where we place a whole quarter's profit in peril, this again through the use of limits and by making sure that our commercial business that you mentioned grows. If the growth of the commercial business continues exceeding the growth of the asset management business as it has over the last two years, there will come a point where volatility in the asset management business will not be an issue. A good quarter will help. A bad quarter will damage us, but not to an extent that it might -- it will merit much of a discussion. That's in general terms what my thoughts are.

I appreciate that, Jaime. But from an investor's standpoint, at least from my standpoint, I don't seek the diversification that you seem to think is -- that you feel is good for Bladex. I want the unadulterated exposure to your commercial capabilities because your franchise there is so strong. And if I wanted the other type of exposure that you're adding through the asset management group, I could find that presumably in other ways.

And instead, as you suggested, we've just sacrificed an entire quarter of profitability in the commercial division in a very good environment for that business in trying to achieve the diversification and potentially the future growth that you hope to see in the asset management business. I guess I just -- I wonder if you've thought about bringing in a partner there or otherwise limiting your exposure in ways other than trying to use conventional risk-management tools, which clearly didn't help us in the second quarter.

Oh, we clearly thought about reducing our exposure. That was one of the alternatives that we considered. And yet, when we looked at things strategically, beyond the jolt in the second quarter, and we looked at the fast history of the activity and we looked at what we believed is going to be the future performance, we thought no, wait a second. This is the time to adjust the weighted-run risk that we run risk in the division rather than the time to literally fold our tent and either reduce or get out of the business.

We remain -- as time goes by, we will of course review it. If our call turns out to be the wrong call, we will review it again. But from my perspective, I know that the intermediation business, the commercial business will, as it always have, eventually face some problems at some point in the future. It always does, the nature of the business cycle. And at that point, I'm sure we will be very glad to have the asset management division help us bolster our results as it has already done in the past.

We need to -- what we need to do is rather than reducing the size in our asset management exposure, what we're working on and our principle is, look, the way to resolve this problem is to make sure to grow the commercial activity as quickly and safely as possible. That's what we're doing. It'll take us a couple of quarters. But again, if we have this conversation two, three, four quarters from now, the volatility in the asset management division will no longer be an issue. That's the principle on which we're going forward.

Okay, great. Thank you so much.

Thank you.

Thank you. Our next question is from [Howard Laxton] with National Bank.

Hello.

Howard, how are you?

Oh, I'm fine. I think my questions have been covered. I might want a little bit more elaboration on the reason the trading positions had to be marked down. I won't press you on the matter. I can certainly get that privately. From what I understand of your explanations, it was a matter of spreads and hedges that had a reduced market valuation because of European issues, trading issues.

That is correct. As best as we can figure it out, the problems and questions and doubts that arose as a result of the increased perception of sovereign risk in Europe actually made people think that the same problem would apply to other parts of the world, including Latin America.

I understand.

And that's what happened. We don't think that was justified. But that's reality. And when it happened, the mark-to-market impact brought about trading losses. We think those positions are good and we'll recover because the underlying fundamentals of Latin American countries, as you know or at least as we think, are much stronger than those in some of -- in those European countries that got into trouble.

I understand. Well, this makes sense. That's fine. Good.

Okay. Thank you very much.

Thank you.

Thank you. (Operator Instructions).

Our next question is from [Patrick Brennan] with [REO & Company].

Hello. I just want to phrase the question slightly differently on the asset management division. I understand your points about the diversification benefits for the division. And I also understand that I believe that the rating agencies -- over time, the idea was if you had the income coming in, they might look more favorably on your business and potentially allow you to take the leverage of the bank higher, given the sort of wholesale funding, and you want to check first if that's still the plan.

And I guess the second question would just be -- you said it's going to take a couple of quarters -- or maybe it wasn't a full couple quarters. But it's going to take some time to sort of see how investors, outside investors, are going to react to the losses here. And I guess I'd just sort of like to pin down a little bit. If one year from now on the call, the asset management division, maybe it's stabilized, but you've been unsuccessful in selling part of the fund to outside investors, if at that point you would consider potentially changing the strategy.

Or are we going to -- if it's 18 months and still there hasn't been a material ability to sell part of the fund, would you reconsider the strategy at that point? I mean, or is it just sort of indefinitely we're just going to go forward with the ups and downs, even if the amount of fee income doesn't really change that much? And maybe just if one year from now if your stock valuation is sort of similar to where it is now, would you begin to consider that your efforts at diversification are sort of hurting the overall value of the stock? Thanks a lot.

I think I can answer your questions in a fairly definite manner. When we announced the formation of the asset management division four years ago, we clearly stated that the main drive to the effort was to create an asset management business driven by a stable flow of fees. If that doesn't happen over time, we will definitely review the strategy regarding the division. I can state that openly and firmly. What I cannot tell you is how much time will have to go by before we question those assumptions moving forward. It will depend on market conditions and mostly market conditions.

If we're facing a very good market and we are not successful in attracting investors, we'll probably ask that question to ourselves fairly soon. If on the other hand, the market remains unstable so that the whole industry is having trouble attracting investors, we'll probably give the effort a bit more time, as we should. But again, clearly, the underlying assumption and the intention is to create more than a hedge fund or a trading desk. We want an asset management business and that continues to be our objective.

Okay. And just sort of -- I mean, did you -- from whenever you talked to the rating agencies about this, did they ever give you sort of the target of how much sell down of the fund they sort of wanted to see? And is it still the case that you believe that they'll have a more favorable view of the Bladex credit overall if the asset management division keeps growing?

I don't want to talk for the rating agencies. The rating agencies are primarily concerned with providing the market with an opinion about Bladex's ability to service its obligations. And from that perspective, we -- our ability to service our obligations, our financial strength remains as strong as ever. So, I don't think that is going to be an issue at all. It would, of course, if losses of this nature continue to increase and remain permanent in time, that is not going to be the case. I don't expect we'll have an issue with the rating agencies at all.

Again, I don't want to talk about them or I don't want to speak for them. But Bladex's financial strength and ability to service its obligations remains as strong as it ever was, probably stronger than it ever has been.

Okay. Yes, no, I was going at it from the point of view if, say, over the near term you're unsuccessful in selling the fund to outside investors, where do you think you could reasonably take the leverage ratio over time or over the near term or reduce your Tier 1 capital over the near term, however you want to look at it, to fund the commercial portfolio, assuming that you don't have the other pillar in the asset management business? How limited do you -- how -- where could you take the leverage ratio over the next 18 months, assuming no improvement in the asset management division?

Again, our Tier 1 capital is now 24% or 25%. Credit quality is improving. We have a lot of room to grow before rating becomes an issue. Actually, what I think is going to happen is just the opposite. As we leverage the bank and keep credit quality well under control, we are going to start making more and more money and that will actually help our rating.

So again, even assuming that we will have to -- we will continue seeing the type of volatility that we saw in the asset management division up until the second quarter of this year, our rating -- and now I'm just interpreting or rather restating what I've read in the reports of the rating agencies. The fundamental thing that we need to do to improve our rating even further is to improve our intermediation income, and that is one of the things that we're working on very hard and successfully.

Okay. Thank you for your answers.

No, no, thank you.

Thank you. Our next question is from Nate Weisshaar with The Motley Fool.

Good morning.

Nate, how are you?

Good. How are you? I just had a few questions about the fee and commission income. You guys saw some healthy growth in that this quarter. Do you have a feel for what type of momentum you have as far as continued growth in that area? And I guess that connects to your expectations for loan activity going forward as well as your mention of leveraging up. Do you have a target for a leverage range you're looking to achieve within the next couple of years?

Hello, Nate. If you don't mind, I would take your question. In regards to the fee income, we still believe it's a fairly low percentage of what we earn every month, and it should be higher. And so again, we talked extensively about how BAM should be helping us in that regard. But the current composition of our fee income is really derived from our contingency business, our letters of credit business. And our growth expectations are similar if not exactly the same as our loan book. But they should be behaving in a fairly consistent way with our loan growth.

And you have to know, though, that our letters of credit business is concentrated in few, not all the countries, because as an instrument, it is not as relevant in every single country. And so, it is a matter of diversification, our geographic presence in the region, and that will help drive additional revenue streams from that book of business.

Then, we -- the fees that we charge in regards to our lending activities, sad to say, they're fairly a low percentage of fee income that is generated by our credit decisioning. And I don't really expect this to be changing significantly over time. But we do intend, of course, to maximize any opportunity we can in order to get fees associated with our lending decisions as well. So in general, I think it's -- the growth of that income line or revenue stream is going to be dependent on how well we can grow our contingency business more so than anything else.

All right. Thank you. And just as far as the leverage --?

The leverage ratio -- sorry. If you look back in the history of the bank, we've been at leveraged levels of more than 7.5, 7.7 times. Our growth plans don't really envision going much beyond that level. So, what we're trying to do is to go back to where we used to be not too long ago. And so, we shouldn't expect to be levering as much beyond that historic level. But we are still quite a ways from that. So, there's plenty of work for us to do there.

All right. Thank you very much.

Thank you. Our next question is from Jeremy Hellman with Divine Capital Markets.

Hi. Just kind of following up, a few questions ago on the topic of the day, the asset management business -- and this is more conceptual. But if you kind of go back to the genesis, where you feel like you've got this intellectual property that you want to find a way to monetize, at any point, did you guys consider heavily trying to deploy that into a kind of a third-party advisory business? And kind of contextualize that a little bit, where you have a fund that you're running that it's essentially you're in a single-strategy kind of environment.

Perhaps the fund would be better served and better marketed as part of a family of funds where, just like you have your commercial portfolio that will provide an offset, if it's part of a broader -- under a fund-to-funds umbrella or something like that by maybe a more dedicated fund manager, it might be better marketed.

And at the same time, if you're brought in as an advisory capacity, then it might generate a more steady fee income without the volatility of the returns. And also, by not having it in a hedge fund structure, then you're not subject to the arcane regulations that basically create this lack of transparency that also seems to plague things. Sorry for that kind of longwinded question. But your thoughts on that?

Jeremy, the question has been posed. It has been discussed by management of the subsidiary. It has been discussed at the Board of Directors of the subsidiary. While we are not going as far as you suggest regarding the changing of the business model, one thing that is under serious consideration is the diversifications of the basic fund into a number of other funds, each dedicated to different markets. This is actively being considered and something will probably be done in that respect.

Okay. So if I understand that, that -- something you'd be done internally, essentially taking the fund and breaking it into multiple strategies or adding multiple strategies around the existing fund then?

Actually, taking -- the idea being because rather than having a single fund, having several funds, each dedicated to different markets in Latin America with different strategies, the idea being to attract different type of investors with different type of risk appetites and to diversify the results of the fund when it comes to trading.

There will be -- and because this is being actively considered -- beyond actively considered. Actually, some decisions have already been made. I think you will see the fund become more diversified or the funds becoming more diversified over the next couple of quarters.

Okay. Thanks a lot.

Sure.

Thank you. (Operator Instructions).

Our next question is from [Onarong Dionwantry] with Porter Orlin.

Good afternoon, guys.

Onarong, how are you?

Good, good, good. A couple of questions on the factoring business -- can you give us a sense of how profitable that business is? Maybe you can talk about that in terms of what sort of ROAs you would expect from that business. And can you also talk about what are the size of assets you're looking to acquire?

The good news, Onarong, is that the ROE on factoring businesses as they exist in -- the ones we're looking at, at least, are quite high. They run in the order of 20% to 25% and even higher. The bad news is that they are all relatively small companies. So, the -- on the one hand, we're looking at a business that is very profitable. On the other hand, we're looking at a business that has an acquired scale yet. And that is precisely where we think we see great opportunity as a bank and more than that as a regional bank.

We think we're perfectly positioned to add a scale to the business fairly rapidly by expanding the factoring activity beyond doing local transactions to actually discounting cross-border deals or cross-border exports or imports. And if we can have our cake and eat it, too, that is a very profitable business that can also grow rapidly in scale, it could make a very attractive proposition to the bank. That's what we're looking at. As soon as we have more details, again, what I can confirm is that we're in negotiations. As far -- as soon as we have details to announce, we will do so and provide you with more.

Okay. Thank you. That's very helpful.

No, thank you.

Thank you. At this time, we have no further questions. Mr. Rivera, do you have any closing remarks?

Yes, thank you very much. Ladies and gentlemen, I appreciate the time spent in the conference. It's been awhile since we had one go over one hour. I understand the many questions that were posed about the asset management division. It was to be expected. However, I ask you to please keep in mind that, as we said before, beyond the noise created by what was an extraordinary quarter, not only in our bank but also throughout the capital markets in the world, beyond that, we had or we just had one of our better quarters in our commercial business.

And again, all trends are pointing in the right direction that the commercial business is going to continue growing. That will provide us with much larger scale. That will provide us with larger profitability. That will provide us with higher returns. We're keeping expenses under control. We are expanding the number of clients. Everything that should be doing -- should be going right is going right.

This was from the point of view of trading results a major hiccup, an extraordinary hiccup. We're taking measures to make sure to reduce the risk and sticking to our plan -- diversify revenues, leverage the bank, improve efficiency, and thus bring about improved profitability. It's going well and we see no reason why that should not continue. We live in a market that is volatile, of course. I don't expect this process will be linear or easy. But we're confident that we have all the tools and resources in hand to go about in doing the job well.

So with that, again, I want to thank you for your attention and I wish you all the best of luck during the coming quarter and we'll talk in three months. Thank you very much.

Thank you, ladies and gentlemen. This concludes today's conference. You may now disconnect. Have a great day.