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Itau Unibanco Holding SA
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Good morning ladies and gentlemen and welcome to Itaú Unibanco Holding Conference Call to Discuss 2018 Second Quarter Results. At this time, all participants are in a listen-only mode. Later, we'll conduct a question-and-answer session and instructions will be given at that time. [Operator Instructions]
As a reminder, this conference is being recorded and broadcasted live on the Investor Relations website at www.itau.com.br/investor-relations. The audio webcast works with Internet Explorer 9 or above, and Chrome, Firefox, and mobile devices, iOS 8 or above and Android 3.0 or above. A slide presentation is also available on this site.
Before proceeding, let me mention that forward-looking statements are being made under the Safe Harbor of the Securities Litigation Reform Act of 1996. Actual performance could differ materially from that anticipated in any forward-looking comments as a result of macroeconomic conditions, market risks, and other factors.
With us today in this conference call in São Paulo are Mr. Candido Bracher, President and CEO; Mr. Caio Ibrahim David, Executive Vice President, CFO, and CRO; Mr. Alexsandro Broedel, Group Finance Director and Head of Investor Relations; Marcos Magalhães, Merchant Acquirer Executive Director.
First, Mr. Candido Bracher will comment on 2018 second quarter results. Afterwards, management will be available for a question-and-answer session.
It is now my pleasure to turn the call over to Mr. Candido Bracher.
Morning and welcome to our second quarter of 2018 earnings conference call. Before I talk about our figures, I'd like to briefly speak about the macroeconomics in there. Since the beginning of the year, we have revised down our expectations of GDP growth in 2018 from 3% to 1.3%. This revision is mainly related to three factors; the impact coming from the troika [ph] strike, an event which directly affected the economy and also the entrepreneurs and investors level of confidence.
Second, the greater uncertainty regarding the approval of additional reforms, especially the pension [ph] reform. And finally, the relative disappointment with the pace of job creation in the former labor market. Although it's important to say we are still seeing positive far more job creation.
Despite this negative revision in GDP growth, inflation remains under control and will continue to enable interest rates to be at low levels, reducing pressure on disposable income. And although the economy is not growing at the pace we expected in the beginning of the year, we still see some improvement in the macroeconomic fundamentals.
In fact talking about I also want to share with you two commercial initiatives that we have just announced. The first one is related to our insurance operations where we replicated the open platform solution we have already adopted in the investment. This means that we started to offer products from other insurers in our platform, focused on meeting our customers.
The second commercial initiative is related to our acquiring business. We launched the Pop Credicard trend [Indiscernible] segment, it appeared in our machine family that can be purchased through its website. The first machines launched are the POP Credicard and the Mega POP Credicard.
Besides selling PoS machines, the strategy is to have a simpler commercial proposal based on shorter payment terms to retailers and competitive rates for debit and credit card transactions. With this operation, we aim at reaching self-employed [Indiscernible], microenterprise personnel and small companies. This initiative compliments our product offering in the acquiring market. Today, I have invited Marcos Magalhães, the Head of our acquiring business to address in the Q& session any questions you may have about this new product.
With these initiatives, we reinforced our intention to better serve our customers and our confidence in the Brazilian market.
So, moving now to slide three, this highlights our financial performance in the quarter, the key figures for the period. We see that our retail in net income remained almost stable in the quarter in the level of R$6.4 billion. This result was supported by higher financial margin with clients, higher commission and fees, and lower cost of credit. These positive effects were compensated by a decrease in our financial markets -- financial margin with the market and higher non-interest expense. Concerning non-interest expenses, it's important to stress that excluding the exchange rate variation in our Latin American operations, the growth was 4.5% in the quarter.
We also continue to see improvements in the quality of our credit portfolio. With our non-performing loans 90 day [ph] -- reaching 2.8%. Lastly, our credit portfolio increased 3.7% this quarter, led by individuals and SME loans and also by our Latin America portfolio.
On slide four, we present our income statement. I would like to highlight our first semester 2018 results in which the income before tax and minority interest grew 10.5%. This performance is the result of lower cost of credit and higher fees and commissions.
This performance was partially compensated by a temporary higher effective tax rate as a result of accounting of deferred tax assets at a 40% tax rate, while stooping up 45% tax rate.
On slide five, we present the evolution of the profitability and cost of equity of our operation. Our recurring ROE reached 21.6% in the second quarter, in line with the average return of the previous six quarters.
On slide six, I present our business model chart in which we break down the consolidated income statement of the first half of this year. As we see the insurance and services business lines continue to be the main driver behind our profitability and represent almost 60% of our net income.
Although the insurance and services business continue to be responsible for almost all our value creation, I would like to point out that since the fourth quarter of 2017, our credit business creates value. As we see on the second column, we see a value creation R$0.5 billion for credit with returning ROE in credit of 14.5%. This compared to a cost of credit during the first semester of 13.5%. After the first semester, we have lifted our cost of credit to the level of 14.5%.
Now on page seven. We see that our credit portfolio was up 3.7% in the quarter. All portfolios for individuals had positive evolutions in the quarter as we continue to see healthy demand from our clients.
I want to highlight the increase of 3.5% in personal loans and a 2.4% in car finance. In the SME portfolio, we had another positive quarter with 4.1% growth led by the stronger demand in the period.
Looking at the past 12 months, the total portfolio grew 6.1% even excluding the impact of the acquisition of [Indiscernible] retail portfolio Brazil, the individuals and the SMEs delivered a good performance.
On large corporates, we continue to see a subdued demand for loans. The reasons for that are related to selective customer markets for the issuance of corporate debt as I mentioned in the first quarter earnings call.
Excluding the effect the foreign exchange valuation, the corporate portfolio would have decreased by 3.1% in the quarter and 10.5% in the year. The Latin American portfolio would have increased 2% in the quarter and 3.1% in the year. And finally, our total portfolio would have increased, result to the foreign exchange variation 0.4% in the quarter and 0.9% in the year.
On slide eight, we see that our credit origination continues to show positive evolution. The origination of consolidated credit portfolio grew 14% when compared to the same period last year. This increase was led by the stronger demand from our clients both individuals and SMEs. It's important to mention that the credit originations in the period is already higher than in 2014.
I'd like to stress that this growth was exclusively driven by a better demand from our clients as we have not changed the risk appetite for the bank. As I mentioned in the previous slide, when it comes to our corporate, the demand is still moderate. But we continue to advice and help this company to fund themselves in the capital markets as shown by the securities chart on the bottom right where we see that private security issuance is 60% of both what was the level in 2014.
Now on slide nine, we show a net interest margin and the changes in the financial margin with clients. This quarter, as you see, we delivered a 4.5% growth in the financial margin with clients. This result, as you see in the bottom of the page, was mainly due to the change in credit mix followed higher yielding products and due to higher number of calendar days.
We also saw a positive evolution in the Latin American financial margin driven by foreign exchange rate variation. So, what we can see here as the individuals and SMEs portfolio grow, while the large corporate portfolio doesn't grow, this is positive for the credit mix and generates an increase in the financial margin with clients.
In the same period, our consolidated NIM remains stable, while the NIM from our Brazilian operations increased 20 basis points.
But the net interest margin is increasing 20 basis points in the local market. More importantly, we saw an increase of 20 basis points in the consolidated and 50 basis points in the Brazilian risk adjusted net interest margin due to lower cost of price.
On slide 10, I present the evolution of the financial margin with the market. The decline observed this quarter is mainly a result of lower gains in the trading book and is in line with the guidance we have supplied in the beginning of the year, in line with our expectations.
Moving now to slide 11, credit quality. We see that our delinquency ratios continue to show healthy trends. The 90-day NPL ratio improved 30 basis points compared to the previous quarter and reached 2.8%. I highlight the important decrease of 60 basis points in SME and of 10 basis points in the individual portfolio in Brazil.
We also had a decrease in the non-performing loan ratio for corporate related to a renegotiation of a specific case, which amounted in the previous quarter. This exposure was made sold [ph] to third-party.
In the 15 to 90-day non-performing ratio, we saw an increase of 90 basis points in the corporate segment. I highlight that this deterioration was not concentrated in any client or specific sector and is composed of companies that already have adequate level of provisioning for their respective risks. This increase was compensated by an improvement of 60 basis points in the Latin American portfolio, leading for stability in our early delinquency ratios.
On slide 12, we present the evolution of our NPL creation. Our total NPL creation reached R$3.8 billion, significant decrease compared to the previous quarter, mainly due to a specific exposure from the wholesale portfolio that negatively impacted this indicator in the first quarter.
As I mentioned in the previous slide, this specific exposure was renegotiated and later sold in the second quarter. The increase in NPL creation of retail segment is a result of the credit origination gross. Even though, we are still seeing some improvement in the credit quality of some individual portfolios, it's important to highlight that as our loan book has resumed growing, the NPL creation for this portfolio will continue to present nominal increase.
Slide 13 represent evolution of provisions for loan losses and cost of credit. The increase in our provision for loan losses this quarter is related to the growth in retail portfolio. With a revision of preapproved limits, mainly of credit cards and also due to the impact of foreign exchange rate variation. Despite the increase in provision expenses, our cost of credit decreased in the quarter due to lower impairment charges and better results.
Now turning to slide 14, we present our coverage ratio that reached 248% this quarter. And as I have mentioned in previous conference calls, we may experience some volatility in our coverage ratio, mainly because of the wholesale portfolio.
In this quarter, the increase of our coverage ratio was a result of a specific exposure of the wholesale portfolio that was renegotiated and sold afterwards. In the long-term, we expect the coverage ratio to go down due to improvements in credit ratings of coverage but until then, we may see some volatility.
Page 15, in commissions fees and result from insurance operations presented, we had an increase of 2.4% in the quarter. This performance was mainly driven by the 9.1% growth in asset management fees associated with higher asset under management and performance fees and two more working days in the period. We also had an increase of almost 30% in advisory and brokerage fees related to our investment bank.
Now, turning to our non-interest expenses on slide 16, we had an increase of 5% in the quarter. This growth was mainly due to the advertising expenses related to the Soccer World Cup and to foreign exchange variation in our Latin American operation.
I want to highlight that compared to the first half of 2017, expenses from Brazil excluding the impact of Citibank, increased 5%, much below the inflation for the last 12 months.
In the quarter, we saw a reduction of 56 brick and mortar branches in Brazil, associated with synergies coming from the acquisition of Citi's Retail operation in Brazil.
On slide 17, I comment on our capital ratio. Our Tier 1 capital ratio reached 14.2%. The 70 basis points increase in 2018 was mainly due to earnings accumulation in the period and also by the approval from the Brazilian Central Bank of our additional Tier 1 issued on March 2018.
I also want to mention that we are going to pay R$4.7 billion, a complementary dividend and interest in capital on August 30, 2018.
Now, a new slide on slide 18. I want to share with you some figures related to our digital transformation journey. In the first half of 2018, as we see in the top left of the chart, we reached a milestone with more than 10 million clients using our Internet, mobile or SMS channels. It's important to say that mobile is already our most assessed digital channel with more than 8 million users.
Also for the first time, we break down our financial transactions in the digital trends. In this context, in the retail bank, 18% of all credit origination, 38% of all the investments, and almost 80% of the payment were made using digital channels.
Through our app, we opened more than 120,000 new current accounts in the second quarter, which is close to 12% of the total accounts opened in this year. And as you see the chart, I mean this figure is increasing rapidly and we expect it to continue to increase.
Now, in the middle-bottom, about our digital branches. You see that they already represent 30% of the operating revenues in the retail business with an efficiency ratio, that is more than 4,000 basis points than a brick and mortar branch. You see the brick and mortar branches have an efficiency index of 69.8% and digital branches of 26.2%.
Although, we have seen a positive revolution in our digital efforts, we still have a long road ahead of us to better educate our clients in the benefits of using our digital channels
On slide 19, I present the distribution of added value in the second quarter. Itaú Unibanco added R$18.3 billion to society that helped to boost the economy and to stimulate the transformational power of thousands of people. Of that value, 18% was designated to our more than 130,000 direct shareholders and approximately 1 million indirect shareholders in Brazil through investment and pension fund, 33% to taxes, fees and contributions, 29% to our employees, and 18% to reinvestment in our operations.
Now, on slide 20, I would like to reiterate the forecast for 2018 that we originally disclosed in the beginning of the year. We are comfortable that the ranges represented herein do represent our best estimates for the year, even taking into account the revision in GDP growth for the year.
Last, on slide 21, I want to invite you for the Annual APIMEC Meeting on September 12th. The event will be hosted in São Paulo, but will also be webcasted with simultaneous English translation.
With that, I finish this presentation. And now, I would like to open for the questions you may have. Thank you.
Ladies and gentlemen, we'll now begin the question-and-answer session. [Operator Instructions]
Our first question comes from Philip Finch, UBS.
Good morning Mr. Bracher. Thank you for your presentation. Two questions from me, please. My first one is regarding your effective tax rate, which was at 33.4% in the second quarter, a bit higher than what we were expecting. Now can you discuss with us what you think would be a recurring level of taxes, bear in mind, potential changes in the level of financial contribution?
And my second question is regarding the FX impact on your second quarter results. Obviously, the real weakened not insignificantly in the second quarter. So, how did that impact your numbers, not just loan growth, but NII as well as cost for even taxes? Thank you.
Thanks for your question, Philip. I will hand the phone here to Caio Ibrahim to answer your questions.
Hi, Philip. Thanks for your questions. Considering that the social contribution for next year would be around 15%, which is pretty much what we expect. Effective tax rate would be around 30%, that's the forecast that we are using for next year.
And in the scenario that the social contribution doesn’t come down, what should we see there?
That, of course, would be a little bit higher than this around 32% more or less. Regarding your FX -- yes, go ahead.
Sorry, I was just going to ask about the FX question as well. Please go ahead.
In terms of FX, FX in our balance sheet as you know, we have our investment abroad fully hedged. So that contributes to -- do not have that wagering impacts on our P&L. Of course, when you have the evaluation of the real, you have some impacts in the deferred tax assets, which is pretty much related to an impact in the shareholders' equity. But well, we manage that part well in that financially part of the risk management of the bank regarding market risk.
And were your costs in any way inflated because of FX?
Inflated? Yes, Philip, our costs were inflated because of FX because of the costs in our Latin American operations. So, the cost -- the real devaluated in real terms against the currencies of the countries where we have operations. So, this provokes us -- expressed in real terms, I mean to think we adjust the level of FX.
Although, relating to the level of expenses, it's important to express that we have seen this second quarter increase in expenses every year for the past three or four years. And then despite the fact -- on top of the FX effect, you have the effect of the first quarter, it has seasonably a lower cost. So, in the second quarter, we see increases. This year, besides this seasonal effects, we also have the FX rate and some other minor effects of the Soccer World Cup. All that's taken into account--
Thank you very much.
Just expressing, all that taken into account, I mean we're comfortable with the guidance we have supplied for expenses for the year.
Okay. Thanks again.
The next question comes from Carlos Macedo, Goldman Sachs.
Hi, thanks. good morning. Candido, Caio. A couple of questions on loan growth here. First question, you kept your guidance for loan growth, you're already growing ahead of it, of course, the FX helped this quarter. But when we look at origination rebounding, and you look at the levels of where you're already growing, and in Brazil and in your consumer book and in SMEs. Shouldn't we think that it's possible -- you're, at least, you're going to get to the top of the guidance if not surpass it?
Second question, you mentioned that you're not -- you haven't increased the risk appetite yet. The bank is still running at the same risk appetite, it's more of a demand function for that acceleration and growth. What would it take for the bank's risk appetite to increase? What are you looking at? Is it unemployment? Is it GDP growth? Is it the result of the elections in Brazil? I mean, the operations outside of Brazil are doing really well. [Indiscernible] as a peer stepped turn a corner; Paraguay, Uruguay, for small as they are, they are doing really well. What would it take for you to really say, okay, now we can do it, now we're going to lower the ratings on the corporate book, we're going to grow a little bit more now there? Take a look and increase our limits. What would it take?
Thanks for the questions. Excellent questions Carlos. So, on your first question, you're right, I mean we are seeing good momentum in FX growth, we are also seeing good momentum in services, fees and income growth. This is what makes us comfortable with the guidance we have supplied.
In which part of the guidance we're going to stay. We have chosen now not to indicate anymore -- within the guidance in which part we are staying. And we're only saying that we are comfortable with the interval we have supplied. But I agree with you that there is positive momentum in this asset part of the book.
As to risk appetite, let me make one comment first. There are profitable segments of the market that we are not catering, that we have decided not to enter. And this is a structural decision taken already some time ago when we have -- because of our perception that the higher risk segments of the market bring more volatility to results. And we have made an option to have growing results with low volatility.
So, whenever the change in risk appetite, what it would take for us to change the risk appetite is basically, I mean, to have the impression that another level of clients of higher risk has become less riskier because of GDP growth, because of sustainable economic growth perspective I had and we don't have it yet. So, we don't see yet that sustainability and economic growth, which can give us the comfort that companies will emerge from a more risky part of the spectrum to become safer credit.
So, just to follow-up. The strategy, therefore, is to remain relatively conservative, though. Attacking the parts of the market where you see less volatility. So, the consumer book or the parts of the consumer book that you have recently accelerated origination fall into that category, like some parts of auto, period loans, or mortgages, that will be accurate to say, right?
Yes, I mean that's accurate to say. I mean that doesn't mean that we're not intensifying our commercial efforts. So, risk appetite is not the only driver of asset growth. Assets also can grow because you make better efforts and the segments which you have already decided to serve and this is what we're doing. That's right.
Okay, perfect. Thank you. Thank you, Candido.
Thank you, Carlos.
The next question comes from Mario Pierry, Bank of America Merrill Lynch.
Good morning everybody. Congratulations on the results. Let me ask you two questions as well. The first one is related to your net interest margin with clients in Brazil. You showed that your margin expanded 20 basis points quarter-on-quarter. Is it fair to say that you say that we have seen the bottom on margins from Brazil win. If you can also give us a little bit more details on this improvement this quarter, clearly a part of this improvement is related to the mix effect. But I wanted to understand from your perspective if you can give us some color on spreads, credit spreads. If you can talk on the product-by-product basis, if you're still seeing spreads coming down or do you think they have normalized?
Second question is related to your asset quality, you showed very clearly the NPLs and provision charges are near historical lows. But at the same time, when we look at your coverage ratios, they are historical highs, 250% coverage of NPLs. When I look at your corporate book or your wholesale book, your coverage ratios are around 950%. So, what I'm trying to understand here looking forward, is there room for provision charges to still continue to come down? These are my questions. Thank you.
Thank you, Pierry, very good questions. First, concerning our net interest margin and our financial margin with clients. We are happy to see how resilient this margin is proving to be and that we are able to grow.
If you remember just one year ago or so, there were significant doubts in the market, I mean how this margin would react to the drop in the credit rates. And I believe this is what we are showing is that this margin is quite resilient to the drop in the credit rate. Then as we show in the bottom, the reason is not because spreads are not falling, this is why we break down in the bottom of the page the different effect and you see that we lose R$12 million in gross margin because of assets spreads.
And I still see a trend for spreads to reduce in the local market. I think that partially they will reduce because we will have better credit conditions, we will have the capacity to achieve the risk of positive information about the company. I mean the government is also working in some tax effects of each.
I think the general trend is that credit is going to become cheaper. But we expect to grow this margin because frankly, I expect to see more vivid growth in assets, especially depending on the results of the elections and because I think that this move in the mix toward [Indiscernible] of higher spread, this is a trend that we'll still continue for quite some time. I mean I think the possibility of increased lines so far as spreads in individuals and SMEs is a tendency that will stay for quite some time.
Now, on asset risk quality and corporate ratios. I must confess that I'm also bit puzzled that this coverage margin doesn’t drop. I mean almost one year ago I said that the long-term trend will be to drop, although we could have some short-term volatility. And this is still the scenario.
The dynamics here is very simple. We have today about R$36 billion -- R$36.5 billion of provisions, a significant part of it, almost R$10 billion is provincial provisions. Provisions which we have made for credits -- for companies that we see are still not out of the woods after the recession. Some of them are improving, some of them are being renegotiated, and some of them will default -- are defaulting and will default.
So, if these companies default, of course, the NPL 90-days will increase, the coverage ratio will decrease. If these companies improve, we will be able to revert the provisions and also in the space the coverage ratio will the proof.
Meanwhile, we may see this -- and some affects our already happened. When I refer to credit that we sold in this quarter, we sold this credit for a higher price than the amount we had less provisions. So, this provoked a positive effect, but when we -- so positive effect in this case decreased the coverage ratio. But at the same time, the NPL 90 drops and then the coverage ratio increases again.
So, we will see some volatility in this coverage ratio. But yes, I think the answer to your question is yes, there is a potential in the medium run for this coverage ratio to decrease significantly and for us to have lower provisions, especially in the corporate book.
Perfectly. Thank you, Candido.
The next question comes from Jorge Kuri, Morgan Stanley.
Hi, good morning. Jorge Kuri from Morgan Stanley. Could you please give us some details on your Credicard POP initiative? Can you describe what the offering is going to be? Is it going to be a payment solution only? Is it going to be a full ecosystem of products and services in helping micro-merchants from your business better. Or is it going to have a prepaid cards just as their competitors that are in that micro-merchants space? Is required to have a bank accounts?
With credit Credicard POP, I believe, your competitors don't require one? How are you going to distribute the product? Are you going to have salespeople? Are you going to leverage the branches? Are you going to advertise? You know what do you think the cost of acquisition is going to be? And what targets do you have of active merchants or TPV by the end of this year and next year? Thank you.
Thank you very much for your question, Jorge. I will pass the floor to Marcos Magalhães, the Executive Director for Acquiring business.
Jorge, Marcos here. Thanks for the questions. First let me comment on the -- on why we decided to launch these products. And the main reason is that because for our traditional acquiring operation, this segment is pretty much new. We don't -- our current offering traditionally didn't tap into that sort of segment, self-employed and micro-merchant segment. So, in the commercializing that we planned for our business, we advised this opportunity a while ago, and we finally launch this introducing the initial POP as were announced as of last week.
The idea is to have a very simple product offering. We believe that this market is yet sub-penetrated. Currently, we estimate that the penetration is around 20%, 20%-ish. So, there is still a lot of room to grow.
When we started the market, we also understood that there is a price elasticity in terms of the other -- the remaining 80% that you didn't answer the payment industry, if you will. And so we decided to also to simplify the pricing, to create only one with a very aggressive price, if you will. And we did that, again, by simplifying the product and plus all the operational efficiencies that we gained through the consumer benefit or the micro-merchant benefit.
We lost initially with the sentiment being offered through our bank account or a saving account, not only current account, also saving account as well. And so it's very flexible in that respect.
Going forward, it is also the plan to allow the settlement to be done in the prepaid card as you mentioned, but again always at the discretion of the client. So, if the clients want to have our prepaid card settled, he will have it, otherwise he can use whatever -- credit account or saving account that he might wish to.
And as far the points regarding this will result into ecosystems, yes, of course, depends on the traction that we expect from the project, but naturally, other products might be distributed through these into our cross-sell agenda.
Thanks for that. That was very useful. Just let me -- in the last two parts of my question on how do you plan to distribute the product? Is it through a line? Is it through branches? Is it through salespeople? What do you think cost of acquisition is? And what are the targets that you've set for the business, are they active merchants by year end 2019, or 2018 or TPV as well? Thank you.
Okay, the main channel that we believe are self-serving so its digital channel. We don't expect to distribute these model channels. And the main thing for that is that we believe that this kind of targets that we are aiming can be found at a very low cost of acquisition through these domains.
As of the branches, we -- in our case, we don't see much overlap in our branches with this target group. So, it is not our priority to introduce in our branch at this point. As of volumes, what we disclosed is the initial goal of having around 100,000 to 150,000 credit customers by this year end, and that's what we have disclosed so far.
All right. Thanks a lot.
[Operator Instructions]
The next question comes from Jason Mollin, Scotiabank.
Hi. My question is about the sensitivity of your guidance to economic growth and FX volatility. I understand that the comments that you're not changing the guidance despite the lower economic growth. Itaú Unibanco has lots of earning drivers and lots of businesses, and I also recognize how resilient they have been, but how should we think about the sensitivity of your business to the times of it -- I mean, the real moved 17% in the quarter. Interest rates, on the long side, moved up and have come back a little bit. We're seeing more growth expectations slow? I mean how should we think about it. I mean it seems like the origination has not -- you haven't seen a negative impact of this volatility as of yet in the second quarter. Should we expect that? And if you could just provide some color? Thank you.
Thanks for your questions Jason. So, I would not say that we did not see a negative impact in the origination from this worse sentiment in the market. I think origination would have been better had the -- if it was for the further strike, if the perspectives for the elections were clear. And so, if you have a more -- especially, the corporate sector. When you look at the corporate sector, you see that in the last corporate, there's no growth at all. But also, in the confidence sentiment in general, in the project sentiment, in general, I think we can expect a more dense growth in demand for credit, specifically, but also for services if we have better economics.
Having said that and we try to be -- to have lower volatility in our results by design. So, because we concentrate ourselves in the less riskier parts of the markets, maybe this is why we are not so much affected by the short-term by the economic growth.
As to FX volatility, we try to operate hedged in FX and in interest rates as much as we can. So, when we see this movement -- and we had moments this quarter, significant movements this quarter. Our hedging instruments, I mean protect our balance sheet.
But expenses will be impacted by more developed currency because of all the expenses, which are made in the offshore banks and these are not hedged. They are hedged by their own results.
But if results won't be affected, necessarily the results in Chile, the results in Argentina, [Indiscernible] will not be affected by the level of FX rate in Brazil. But the costs and the line of expenses in our balance sheet will be affected by this way.
Another important effect of the exchange rate is not on results, is on capital. And you will notice if you go through our MD&A that we have actively managed our foreign investments in order to avoid the capital consumption, which is normally created by ForEx devaluation.
That's very helpful. Maybe just a follow-up question on your slide on digital transformation as well. You're showing, it's an interesting move from 22% digital operations representing 22% of your operating revenues, moving up to 30% in the second quarter of 2018. Can you talk about what -- like how you're measuring that? Is that -- how should we think about your measuring this kind of retail operating revenues? Is there a deposit spread in there? Is there I think thing clearly it's fee income, loan spreads, et cetera, any color would be helpful. Thanks.
Okay. To details on the account, I will pass it on to ask to Alexsandro. Go ahead.
Hi Jason, Alexsandro here. Yes, basically the same criteria that you use to measure on the other parts of our financial spreads. For example, take about mean for example, we take into account the mean of the transactions originated on the digital branches. So, you can see that the spread continue the cost is allocated. The full cost allocated system and with cash allocated and everything else. So, it's pretty allocation of our normal criteria to the digital banks and the brick and mortar rate. Not sure if I answered it completely.
Thank you.
[Operator Instructions]
The next question comes from Eduardo [Indiscernible].
Hi. Thank you. Thank you for taking my question and for the presentation. I have two questions as well. First one is on revelation. If you can share your thoughts on recent CPE [Indiscernible] commission inquiry, recommendation to Central Bank. I know that Mr. [Indiscernible] was very supportive with the end of the cross subsidies in the sector. If you can give any color on what might happen, will be very helpful?
And my second question, if you could give us an update on the shift in XP deal, I will also appreciate it. Thank you.
Thank you for your questions, [Indiscernible]. So, relatively to the CPE in the Congress and its conclusions, I believe that the conclusions of the CPE were positive to the market. That is real problems in the economy. One of those real problems is the very high nominal level of interest rates in credit cards. And as we know, one of the main reasons for this very high-level number of levels as interest rates in credit cards is cross-subsidies.
In our case, for instance of Itaú, our total credit card credit portfolio is R$60 billion, out of which R$5 billion bear interest and R$55 billion don't bear interest. So, -- and out of the spread of this R$5 billion, we must pay all the delinquency of all the R$60 billion portfolio. So, this is what causes rates to be so high.
One idea that came out of the CPE is to incentivate a new market, an additional alternative to the installments results without interest, which will be refinancing in the credit card and in this case, you would probably reduce the payment to the merchants from 30 days to 15 days or even to a five until two days.
So, I think we made -- I imagine that this is a more logical evolution. It's a gradual process. So the project has to be created, has to be adopted by many banks as this bank will later gain some market share over the installment resulting just creating a better balance in the economy. So, we will have a higher portion of our credit card portfolio, banks will have higher portion of their credit card portfolio bearing interest.
On the XP transition, I think there's no comment to be made. I mean we still await a decision by the Central Bank as to the approval of the transaction. Thank you.
Thank you. Just a follow-up question. So, there'll be probably a shift on economics of the industry, right? So we have -- probably you bear the float from 30 to two days, let's say. And then on the other hand, you have the increase on the payment with bearing interest credit cards, right. Is that correct?
So, when you go to a merchant to buy a shoe, the merchant will offer you two alternatives or three. One alternative is to pay at site. One alternative is we have today, installment result interest. So, you can -- your shoe will cost R$100 and you can pay it in five installments without interest, of R$20 each installment.
And another alternative, a new alternative will be well, you can buy your shoe financed in the credit card with the interest of the credit card. But in this case, the shoe won't cost a R$100, but it will cost R$92. And the merchant, if he sells R$100 in installments, he will receive the money also in installments 30 days after each installment. And if he sells it into the new modality, he will receive the funds two days after the sale.
Got it. Thank you. Thank you so much.
You're welcome.
The next question comes from Mario Pierry, Bank of America Merrill Lynch.
Yes. Let me ask one more question. Looking on page 15 of your presentation and you show that your headcount, especially in Brazil, continues to go up, right. I think your headcount is up 6% year-on-year. You did have the integration of Citibank. But also, you show on page 17 the significant investments in technology, the digital transformation that you're making. So, I was just wondering, given the benefits or the potential synergies with Citibank, all the investments in technology, why should your headcount continue to grow up? Or do you think that the trend in the future is to see much lower expenses going forward? Thank you.
Thank you, Mario. We're still growing our headcount, mainly because the investment in people we are making in our new insurance platform and in the acquiring business. We outnumber the economies of people we are having due to technology improvements. I think we're very much in investing phase in the bank and it's fair to say on the medium run that I expect the efficiency in the bank to improve significantly.
So, is it fair to assume that expenses for you are unlikely that they should be growing in line with inflation going forward?
I think they should be growing below inflation going forward.
Okay. Thank you.
Thank you.
[Operator Instructions]
The next question comes from Carlos Gomez, HSBC.
Hi, good morning. hello. My question is from the cost of credit and you have credit [Indiscernible] reduction. How much lower do you think it can get? And what do you expect the bottom in terms cost of credit? Meaning the maximum amount of your recoveries, the green point in this credit cycle? Thank you.
I'm not sure I understood your question, Carlos. It was concerning the provisions; how much lower it can get? How much lower the delinquency rates can get?
Correct. How much lower can they get? How much lower can the cost of credit get? And where do you think we will reach that point?
I think, they can go lower. You still see I mean this improving trend. Of course, the provisions, they will increase as the portfolio increases; proportionate to it. But the cost of credit can still go lower because we are seeing still an improvement in the quality of credit. I think I estimate that we can see until the end of the year an improvement in this indexes. And we're going to see the new vintages coming with the better figures, or better delinquency rates than the older vintages.
So, you think the delinquencies can -- again, continue to improve, let's say, next year or the year after? So, we are not at the bottom yet?
Well, I can't see that far forward. We still have the elections in the middle of the year. So, I think it's prudent to say that we can see them still improving until the end of this year.
Thank you very much.
Thank you.
This concludes today's question-and-answer session. Mr. Candido Bracher, at this time, you may proceed with your closing statements.
Thank you. So, I'd like to thank you all for your attention and for your questions. I think our results this quarter, they came with topline, which was not to our liking, because it was blow the previous quarter. But when we look inside the figures, we see very healthy trends. We see growing credit portfolio, we see growing fees and incomes, we see growing financial margin with clients and the effects to the other side were costs, which were normally higher this second quarter because of trends which we verify every year, and because of our lower financial margin with the market which is perfectly in accordance with the guidance we have provided and with our forecast.
So, I mean looking forward to see a continuation of this positive trends in the balance sheet of growing. Thank you very much.
That does conclude our Itaú Unibanco Holding earnings conference for today. Thank you very much for your participation. You may now disconnect.