Itau Unibanco Holding SA

BOVESPA:ITUB4

Earnings Call Transcript 2018-Q4

[Operator]

Good morning, ladies and gentlemen. Welcome to Itaú Unibanco Holding conference call to discuss 2018 Fourth Quarter results. [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. 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. Milton Maluhy Filho, Executive Vice President, CFO and CRO; and Mr. Alexsandro Broedel, Group Executive Finance Director and Head of Investor Relations.

First, Mr. Candido Bracher will comment on 2018 fourth 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.

[Cândido Bracher, executive]

Hello. Good morning to all, and thanks for participating in our fourth quarter and 2018 full year earnings conference call. Starting the presentation on Slide 2.

Here, we show the main highlights of our performance for the quarter. Recurring net income was BRL 6.5 million, which resulted in an ROE of 22.7% in Brazil and 21.8% in the consolidated figures. The results from commissions, fees and insurance performed particularly well this quarter, growing 6.2% over the preceding period. This performance was mainly driven by our asset management and investment banking units.

Our financial margins with clients or NII also increased over the last quarter, especially as a result of the growth of our individuals and SMEs credit portfolio. Despite this growth, our NPL ratio remained stable in the period. The increasing cost of credit this quarter was caused by higher impairment charges in corporate bonds.

Expenses in the fourth quarter are usually higher than in the third quarter, especially as a result of the full impact of the annual collective agreement with the bank employees' union and seasonally higher expenses related to commercial activities.

In the fourth quarter, this increase was up 1.2%. Lastly, our individuals and SMEs portfolio increased 5.7% and 4.9%, respectively, in the quarter, continuing the same trend seen throughout 2018. On the other hand, the negative ForEx variation on our Latin American portfolio and a decrease in the corporate book led to the stability of the total credit portfolio seen in the quarter.

Talking about the full year 2018. On Page 4, before we proceed with a deeper analysis of our performance during this year, it's worth to mention that the Brazilian economy performed somewhat differently than what we had expected at the beginning of the year.

GDP growth is likely to stay at 1.3% and not 3% as we originally forecasted. The truck drivers' strike was one of the main factors -- one of the many factors that contributed to this weak performance, which naturally results in a lower demand for financial services for others.

Additionally, when we released our 2018 guidance, we expected the exchange rate to be around BRL 3.50 per dollar at the end of 2018 and marked the actual BRL 3.88 year-end rate. Higher ForEx rates contribute negatively to our cost and expenses numbers and positively to LatAm results. With these facts in mind, we can now check how accurate was our guidance for 2018, which I remember, we did not alter throughout the year.

Now on Page 5. We can see that despite the differences between the forecasted and the actual macroeconomic scenarios, out of the 14 ranges provided, we performed the lower expectation only on 2 of them. One was noninterest expenses on the consolidated range and the other was fees in Brazil. Despite these deviations, our recurring net income was well within the implied range of guidance.

Moving now to Page 6. We show that our recurring net income for 2018 was BRL 25.7 billion, with an ROE of 21.9% in the consolidated. This led to a value creation of BRL 9.2 billion, a 12% rose when compared to 2017. On the next few slides, we will comment on the performance of each of the lines we've forecasted for the year.

On Slide 7, we show that our total credit portfolio grew 6.1% in 2018, above the midpoint of the guidance. This performance was a direct result of our individuals and SMEs portfolios as they have grown beyond our expectations amounting to 10.3% and 14.4% in 2018, respectively.

Origination remained over the 20% mark over the year in the individuals and SMEs portfolios. Origination on the corporate book was not strong enough to compensate for amortizations during the period, resulting in a decline of 4.7% of the total book in the sector. This weak demand does not imply a reduced relationship with our large corporate clients as we continue to advise and help them access the capital markets, where we play a leading role in distribution and origination of corporate tax.

On Slide 8, we present our financial margin with clients. The 2.2% increase was mainly caused by the average loan book growth and the change in the mix of our credit portfolio to our higher interest-bearing products. Also of note was the margin in our Latin American operations, which benefited from ForEx and credit growth as well.

These effects were partially compensated by the negative impact of the lower Selic rate in our liabilities margin and our own working capital.

It is worth to highlight that while the average Selic rate declined 335 basis points in 2018, our gross net interest margins remained relatively stable and our risk-adjusted NIMs expanded 50 bps in the same period.

On Slide 9, we show that our financial margin with the market decline 12.7% over the year. This was mainly caused by the reduction of the Selic rate and its impact on the hedging strategy of our investment outside Brazil. Despite that, this has been largely anticipated by ourselves and we even managed to remain a bit above our guidance in this side.

Turning now to Slide 10. The cost of credit reached BRL 14.1 billion in 2018, in line with the lead point of the guidance, and represented a decrease of 21.9% when compared to 2017. The cost of credit ratio for the full year declined 80 basis points.

NPL ratios for individuals and SMEs behaved well during the period. And the increase observed in the corporate book is mainly represented by companies that were already appropriately positioned. This dynamic resulted in the reduction of the coverage ratio as we already indicated that would happen in previous conference calls.

Slide 11 shows our revenues from services and insurance which grew 5.5% in 2018, reaching the bottom end for our guidance for the year. The main positive highlights were our current account and asset management fees as well as our investment banking business. Also important was the performance of our credit card fees where we had a solid performance in the issuing business, growing not only our client base and transaction volumes but also revenues.

On the other hand, there was a reduction in revenues in our acquiring business despite the increase in transaction volumes. The reduction in our acquiring business exceeded our expectations as a direct result from higher competition in this segment and correspondent changes in our commercial strategy.

Now turning to Slide 12. We show our noninterest expenses. During 2018, we intensified our investments, especially in our acquiring and insurance operations. This led to a 3.3% growth in noninterest expenses in Brazil, which was in line with our guidance. Due to a deeper devaluation of asset sale than we originally expected, our consolidated noninterest expenses grew 5% in 2018, which was above our guidance for the year.

On Slide 13, we show our capital ratios and the payout for 2018. We finished the year with a Basel III Tier 1 fully loaded capital ratio of 15.9%. If we account the additional dividend distribution announced yesterday of BRL 16.5 billion -- BRL 16.4 million, our Tier 1 ratio will be 13.5%, in line with our dividend practice. The total dividend payout, including the shares bought back through the year, reached 89.2%. This payout ratio translates into a dividend yield of 7.5% for 2018.

On Slide 14, we present the distribution of added value in 2018. Itaú Unibanco added BRL 73 billion to society that helped to boost the economy and to stimulate the transformation of power of thousands of people. Of that value, 30% was designated to our employees, 32% to taxes, fees and contributions, 33% to our more than 150,000 direct shareholders and approximately BRL 1 million indirect shareholders in Brazil through investment and pension plan, and 3% to investment in our operations.

In 2017, we announced over 6 strategic objectives for the bank, long-term strategic objectives, and broke them down in 2 categories: Continuous improvement and transformation.

On Slide 15, we present what was delivered in 2018 to materialize the 3 transformational objectives. These 3 objectives are strongly intertwined, as our main objective is client centricity, and all initiatives presented here were developed to support this main objective.

One example is that our open investment platform. To open our investment platform, we used new technologies coupled with the complete reorganization of the way we work. We moved from a hierarchical structure to flexible teams, reorganized as communities formed as employees from technology, operations and investment areas. In addition, to attract and retain a more diversified workforce, we are working on including diversity and changing our recruiting process. We also adopted a new dress code creating a more relaxed and informal environment.

Now about 2019. On the following slides, we will talk about our expectations for 2019. And on Slide 17, we show our microeconomic forecast for the year.

We expect a generally more positive year than 2018 with a 2.5% GDP growth in Brazil. We also expect inflation to remain under control at 3.9%, and this should allow the Selic rate to remain flat throughout the year. In this scenario, unemployment rate should continue to decline. And we expect it to end 2019 at 11.6%.

On Slide 18, we present our guidance for 2019. We expect our credit portfolio to grow between 8% and 11%, which should translate in a range of growth between 9.5% and 12.5% for financial margin with clients.

We expect the financial margin with the market to end the year between BRL 4.6 billion and BRL 5.6 billion. Our cost of credit should grow and we expect it to end 2019 between BRL 14.5 billion and BRL 17.5 billion. For commissions, fees and results from insurance operations, our forecast is an increase between 3% and 6%. And for noninterest expenses, we expect our growth between 5% and 8%.

Lastly, we expect our effective tax rate to be between 31% and 33%.

The guidance for our Brazilian operations should follow closely the trends forecasted or consolidated. With this, we conclude this presentation and are now open to any questions you may have. Thank you.

[Operator]

[Operator Instructions] Our first question comes from Jason Mollin, Scotiabank.

[Jason Mollin, analyst]

[Audio Gap]

Forecast for loan growth. Obviously, your forecasting improvement versus what was going on in 2018. But it is pretty impressive because Itaú Unibanco has been able to show very consistent returns on equity in the 20-plus percent range through a very challenging period. Things are getting better. How much better should things get? And are we on that path to seeing things much better and is that part of the guidance expectation is that things are that much better or I just think versus some of your peers, we've seen somewhat more aggressive expectations for 2019? And I just wanted to get your perspective on what's in this outlook that you're forecasting.

[Cândido Bracher, executive]

Jason, I'm not sure I got the whole of your question because you were cut in the beginning. But if I understand well, you're asking me to comment on our guidance and our forecast for 2019. Is that it?

[Jason Mollin, analyst]

Yes. What is the -- what are the assumptions going into this expectation for GDP growth and your expectations for Itaú Unibanco's operations? For instance, in terms of reforms, is pension reform going to get done? Is that part of this expectation for growth this year or is really that's not part of this expectation at all or it'll be a 2020 event? So what's going into this? If you can provide some color to the background that what's going into this outlook.

[Cândido Bracher, executive]

Sure. The approval of the pension reform is definitely included in these expectations. When we expect -- and indeed, [ reforms ] have so much an impact on growth for this year, which -- I mean, our forecast is 2.5%, is under revision by our economic team now, may end between 2% and 2.5%. But the approval of the pension reform will not only guarantee this growth, as will create a whole environment of optimism in the economy which we think will boost demand for credits and investments. So yes, this is a premise of this projection. You've seen that we have grown total credit portfolio this year in 6.1%. And we are expecting to grow between 8% and 11% for next year. One point which is very important is that the average balance of credit, the average portfolio, is expected to grow significantly this year, which was not the case in 2018. In 2018, the average balance of the portfolio was lower than 2017. This is why this year, we expect significant improvement in the financial margin with clients. A good part of this improvement is based on the fact that the average portfolio is going to be significantly higher. Another part of this improvement in the financial margin is due to the mix change and to the fact that this mix is moving from clients with a lower PG to clients with a higher PG, individuals and SMEs. This in turn has an -- it -- on one hand helps to boost financial margin with clients. On the other hand, it also increases cost of credit. And this is the explanation why we are forecasting a bit -- a higher cost of credit this year. It's not only portfolio growth, but it's also the change in mix. With all of these we've had background of a growing economy and optimistic mood in financial markets as a result from a stable fiscal front as a consequence of the approval of the pension reform.

[Jason Mollin, analyst]

So when we look at the guidance for the effective tax rate for Brazil of 32% to 34%. That's not assuming any material changes in the -- I get that, that assumes the change in the social contribution but no additional changes. No change in the tax deductibility of interest on capital or other changes in the corporate tax rate, is that correct?

[Cândido Bracher, executive]

Well, precisely, Jason.

[Operator]

The next question comes from Jorg Friedemann, Citibank.

[Jorg Friedemann, analyst]

I have 2 questions. The first, it came to me as a surprise because of credit guidance understood the brief explanations about the mix change. But in the midpoint of the guidance, the cost of credit implies a growth of almost 14% versus 2018, which is not only more than the loan growth expected for the year, but also the top of the financial margin with clients. We saw that NPL for the large corporate segment continues to be volatile. So could you elaborate a bit further if there is any specific case that should -- has given rise in provisions in 2019? And also if possible it would be interesting to get your sense about the evolution of impairments, discounts and coverage, which is at the very comfortable level at 221%. This is the first question. And the second question, following the mix in terms of noninterest expenses in 2018, you came with this 5% to 8% OpEx growth guidance for '19, which is above inflation even in the bottom of the range. From what this growth should primarily come in 2019? You commented about the merchant acquiring business impacting 2018, should it happen again this year or is there anything else such as investment, et cetera?

[Cândido Bracher, executive]

Thank you, Jorg, on the two very good questions. First again, on the cost of credits. Here, there is no specific case. There's nothing in the horizon that we see which is not already provisioned or accounted for. So there's no surprise here. It seems this is a natural evolution of the provisions due to portfolio growth in one hand and the mix in the balance of the portfolio in the other hand. So the portfolio growth of course demands new provisions. And the fact that we -- our mix is evolving towards credit risks, individuals and SMEs, which have a higher probability of default. I mean, this comment, according to our expected loss model that is what drives always our forecast. This is what drives, I mean, this growth in provisions. As to the outlook for impairments, discount and coverage, I continue to expect that coverage may be lower. Although our forecast did not necessarily indicate that. But as I already said in previous calls and then at these levels of coverage, I think they are formally high. And they're justifiable in view of the many precautionary provisions that we made for corporate credits, which were severely affected in the recession of 2015, 2016. As the situation evolves, these credits should either default, and in this case, the coverage would fall because the provision would be used to cover this credit, or this should improve and the provision should be reversed and also the coverage would drop in this case. The same thing would account for impairments. Meaning, in our case, I mean, impairments they behave just like credit just like in an accounting terms it's different for different credit bonds that we have against discount. We expect recovery rates and discount to stay flat so there's no major change this year. Moving now to noninterest expenses. So this projection from 5% to 8%, the main cause for this is the growth in business in general. I mean, so there are many expenses that are tied to the level of business to the quantity of transactions. These are variable costs. And since we're expecting to grow significantly, costs should fall. Another important effect is the investments we have made throughout 2018, and that will bear the full weight on costs in 2019.

[Operator]

The next question comes from Carlos Macedo, Goldman Sachs.

[Carlos Macedo, analyst]

A couple of questions. First, just following up on Jason's question on loan growth. Last quarter, we -- you talked about potential increase in the risk appetite for the bank. Does the guidance that you -- the 8% to 11% in Brazil that you've reported, that you put out today contemplate higher risk appetite. Is that something that could still happen and if it could still happen and hasn't happened, what could lead that to happen? Second question. IFRS 9 is coming. You put out, thankfully -- thank you, on your spreadsheet in your website, the financial statements under IFRS 9. There is significantly more volatile that what you reported under Brazil GAAP because I don't expect you to say exactly know -- the exact details, but is that something that we should expect once you move to IFRS 9? What's the bank looking to IFRS 9? Is that something that's going to drive a lot more volatility in your costs of risk, is it going to have -- lead to charges, I mean, just a little bit of color on -- for IFRS 9.

[Cândido Bracher, executive]

Okay. As to the growth in total credit portfolio 8% to 11%. I mean, this reflects not as much this as more to shift in mix, towards more individuals and small and medium companies. This reflects that we are open for business in the bank. So all the credit portfolios are opened. And we have appetite to grow the portfolio according to the demand we may have, as the adequate cost -- the adequate price for risk. So this is -- we're really, I mean, here completely open for new transactions.

What reflects IFRS 9, you know that we have already been accounting in IFRS 9 for some time. Our provisions are already adequate, the demands of this accounting method. And I think you were right, I mean, this method is more volatile. But it's the nature of the business. There's no avoiding that. I mean, our figures in IFRS 9 could be a bit more volatile in what concerns provisions.

[Alexsandro Broedel Lopes, executive]

Carlos, can you hear me?

[Carlos Macedo, analyst]

Yes, I can hear you, Alexsandro.

[Alexsandro Broedel Lopes, executive]

Okay. Just to know that we already released our figures in IFRS 9 quarterly. So you can see from the past few quarters that our numbers in IFRS 9 are -- is identical, almost identical those numbers in Brazilian GAAP. So we already incorporated the expected model of IFRS 9 into our Brazilian GAAP numbers. So as Candido mentioned, the main difference is the volatility in the numbers, but we already incorporated that on Brazilian GAAP.

[Carlos Macedo, analyst]

Just going back currently to the question. You said, that you're -- the bank is open for business. And is that -- just from what I understand where you're at today versus where you were before. Do you believe that the posture the bank has today is different than what it was, say, 6 months ago or 12 months ago?

[Cândido Bracher, executive]

I didn't understand your question. Could you repeat it?

[Carlos Macedo, analyst]

Sure. Sorry. You said that the bank is open for business and what I want to understand is if there has been any shift in that posture compared to 6 months ago or maybe 12 months ago, if 12 -- 6 months ago you consider the bank was also open for business.

[Cândido Bracher, executive]

Yes. We are more open for business than we were 12 months ago.

[Operator]

The next question comes from Philip Finch, UBS.

[Philip Finch, analyst]

I have 2 questions as well please. First, your guidance for fee growth is well below that for loan growth. So can you elaborate what challenges you're seeing in the fee business side and what measures you're taking to mitigate them? And the second question is really to ask about your plans to -- whether you're going to issue anymore 81 hybrid instruments this year. And if so, would it be reasonable to assume that additional dividends could also be paid in the year ahead?

[Cândido Bracher, executive]

Thanks for the 2 very good questions. What concerns fees. I mean, yes, as a matter of fact, I mean the guidance 3% to 6% is significantly below the guidance for our financial margin with clients. The reason here is mainly the negative impact we expect from the acquiring business. We expect fees in the acquiring business to be lower in 2019 than they were in 2018. So they extract from the fee loss. And this is the single cost for this lower guidance in fees books. What concerns 81, we do not intend to make new issues of 81 in the short term. We are at a level of around 1.1% of 81. The ceiling as you know is 1.5%. And we like to leave some room for devaluation of the currency, which -- we don't want to have this expensive issuance not serving us in terms of capital needs. Having said that, we have just issued BRL 3 billion in 81 which are not considered in this 13.5%, which we just announced because they have not been recognized this capital yet by the Central Bank, so we do not consider them. Then looking forward, in the next year, when we make the calculations again, to bring the capital back to 13.5%, this capital will be there and will increase the dividend payout.

[Operator]

Our next question comes from Eduardo Rosman, BTG Pactual.

[Eduardo Rosman, analyst]

I have 2 questions which are somewhat linked. And the first one is on value creation, and the second one is on kind of growth expectations and dividends. So starting with the first one. When we go to the Slide 6 of the presentation, we can see that the gap between the ROE and the cost of equity is very similar to 2014 levels. But if we take into account the Brazilian operations, it's probably the best performance you have in quite a while, right? If you look into the gap between the ROE in Brazil and the Selic rate, I think that the gap is between 15% to 20%. So my question is, do you think this is sustainable? What should we expect going forward? And then my second question, which has kind of a link to this first one, I want to understand if it makes sense to grow faster, right, reinvest more of your capital even if at a lower ROE. If you think that the cost of capital will keep moving down, right? So my understanding here is that with the lower cost of equity, you could still generate the same value even with the low ROE, given that the risk will be lower. Actually, I want to understand if you think that makes sense to you. If it -- is that the way you look at the bank? Is that the way you run the bank? And I'm asking that because I'm trying to understand the way a dividend payout can go, right? In 2018, you had like almost 90% payout, which is pretty high. It seems that you are getting closer to your quarter 1 target. So I want to understand as well what should we -- we should take into account when forecasting dividends. These are my questions.

[Cândido Bracher, executive]

Thank you, Eduardo, very good questions. Let me first start by saying that I have no payout target whatsoever. And I have no orientation from the board or from anyone about what the payout should be. The clear orientation is that Level 1 capital should be 13.5% every year. And the dividends in excess of this and capital in excess of this should be paid out as dividends after accounting for potential acquisitions or potential changes in regulatory situation but need to [ bend ] more capital or the normal growth of business. In the face of this, we should distribute the [ dip ]. And you are right when you note that we have been enjoying a return on equity above 20 and the cost of capital has been reduced. When I look at the cost of capital in Brazil, actually the cost of capital in Brazil is maybe 3%, 4% higher than it is for international banks, at least the American banks within that -- at least from what we hear from sell-side analysts and from what our models indicate. So despite the fact that the interest rate is much higher and the cost of capital, it is already not so much higher than the cost of capital in developed markets. How much lower can our cost of capital go lower than -- how much less can this difference be? And then if the cost of capital is 10 in the U.S., can it be 2 -- can it be 12 in Brazil, especially considering that it's a long-term investment? So I think it's -- to say that I think that there is a limit to how low cost of capital can sink in this situation. So the increase in value creation, which is our main loss in how we establish our policies, it's -- will have to be made through the growth in balance sheet and into our growth in nominal return of the bank in nominal profits. So I think that this all points in the direction of increasing the balance sheet of growing our business as long as we can do it above the cost of capital, significantly above cost of capital.

[Operator]

The next question comes from Mario Pierry, Bank of America.

[Mario Pierry, analyst]

Just a quick question on your operations outside of Brazil, Candido. As we look at your profitability, clearly, you're delivering ROEs above 20% in Brazil and lower outside of Brazil. So if you can tell us first how satisfied are you with the results that you're showing outside of Brazil and if you can be specific about the countries. And what do you think, how long will it take for profitability in these other markets to start to improve and hopefully, get to the levels that you should have in Brazil?

[Cândido Bracher, executive]

Thank you for the question, Mario. So just to have this more clear, our biggest operation outside of Brazil is Chile, by far, then we have -- Chile also has Columbia, which is a smaller operation. And we have Paraguay and Uruguay, which are large operations for the size of the country, but not large operations when compared to Brazil, and Argentina, which is a small operation. These are our operations outside of Brazil. Another thing I would draw the -- your attention to is that you'll see this specifically and also in some countries in Latin America, we consider the cost of capital to be below the cost of capital. So we are prepared to have a return on equity there, which is lower than in Brazil. The -- to comment on its capital here, Argentina is very small. We are improving there. It used to be a -- we used to lose money in the [indiscernible] markets there, and now we are making some money, a little money, but it's really very small to count. In Uruguay, we have a mature operation, stable market share, the highest profitability in the country. I see it improving but I don't see anything transformational happening in Uruguay. I see -- well, it's keeping the good position in the market we have there and improving marginally [ with a lot of care ]. Paraguay is a more dynamic economy than Uruguay. I mean, it has grown over 4% a year. And we have in Paraguay, in the last quarter, we feel we have in our ROE of 24%. So it's a profitable operation. I think we can see -- we can really see, move a lot. And then Chile, I'm not sure how satisfied am I. I think that we have made a significant change in Chile in the results. We have just resulted in more profit for the Chilean operation and for the Chilean bank. And it was $220 million compared to $80 million a year before. So I think that the bank has been -- really turned around there, and we are happy with that. But since I have here by my side Milton Maluhy, who used to be the CEO of the Chilean operations a few months ago, I'll ask him to -- not to say how satisfied he is, but give a bit more color in the Chilean situation.

[Milton Filho, executive]

Hi, Mario. Just to go through a little bit about Itaú CorpBanca, the local chain will make this conference call in the next few weeks, so then we can go through the managerial numbers. Something that we can do here is telling you about the increasing profitability we've had locally. I think we did a very good year in Chile moving toward a 13 return -- percent return on equity [ on tangible equity ] of what I think for the Chilean banks, of course, the second block of banks after the 2 major banks that we have there, it's all significantly improved. On the other hand, we still have the challenging Columbia. As we've had anticipated, we were looking for a breakeven for 2018 and we achieved, so it's still not what we expect. We would like to have the profitability, of course, in this operation, and it should impact positively Chile in the coming years. So we are very positive about Chile. I think we consolidated the board in Chile. In Columbia, we still have to consolidate the profitability of the bank but I think we are in the right direction. We have discussed and reorganized our value proposition in both countries. And we are satisfied and positive about the coming years.

[Mario Pierry, analyst]

Okay, that's clear. Let me ask then a follow-up question then related to your appetite for acquisitions outside of Brazil. You had said in the past that the high tax [ is a phase ] in Brazil made it unlikely that you could pursue other acquisitions. However, if we're talking about a tax reform in Brazil and we do see a lower tax rate, would that change your views for future expansion outside of the country?

[Milton Filho, executive]

No doubt, it would, Mario. So this would imply, for instance, in Chile, reducing the tax rate from 40 to 27. So it really makes a difference when you make calculations on the value of businesses.

[Operator]

[Operator Instructions] The next question comes from Jorge Kuri, Morgan Stanley.

[Jorge Kuri, analyst]

I calculated that the midpoint of your guidance range net income growth of 11%, part of it due to the lower taxes at the operating income level, and getting to around 7% earnings growth. So I wanted to ask you, how would you characterize that 7% relative to what you think you could do over the long term. Are we halfway of the recovery? Is it almost there? How do you think on a fully recovered economy your earnings growth should trend over time? And again, how is this compared to that? That's my first question. Second is if you can be a bit more specific about the guidance on the commissions and fees, which you said is low because of the acquiring business. What do you expect [ ex ] acquiring? If you can help us with that, what's happening to the asset management business, investment banking business and all of the rest of your fee products? I -- granted that the level of disruption that we're seeing there, it's not as significant as in the acquiring business but just wanted to see what trends you're seeing there.

[Cândido Bracher, executive]

Thanks for the question, Jorge. Listen, your first question is difficult. And then, well, how do I see earnings growth going forward beyond 2019. But I am seeing things under the assumption that the pension reform be approved, which means saying that we will stabilize the relation net of [ excess over agility ]. If this is the case, then we should be able to remain with a low inflation for a longer period of time. Interest rates could even be lower than they are. And I think that Brazil, which is our main market, would see sustainable growth well above this 2.5 figure, which we forecast for this year. With this in our review, I think that the levels of -- the level of earnings growth that we are seeing this year is pretty sustainable and could even be increased. I think it's a very positive scenario for the country. I mean, I think the idea that you have a stable, low interest in Brazil can make a very significant change in economic behavior -- in the behavior of economic actors in general. Of course, it could also bring more competition. It would bring a reduction in some specific margins. So all the things that happen on a virtuous cycle is in place. But I see this as very positive for our business. Without mentioning the efficiency gains which will come from technology advanced, I mean, we are ready -- I mean, imparted in our guidance for this year, we are already improving our efficiency almost 1% despite the increase above inflation on -- in costs. And I think we could improve it even more with all the investments which we are making in technology. Now coming to your second question. I think that if we don't take into consideration the drop in fees from the acquiring business, we could be at least one point above the range which we have given, from 3% to 6%.

[Operator]

Our next question comes from Marcelo Telles, Crédit Suisse.

[Marcelo Telles, analyst]

I have a couple of questions. The first one, I was wondering if you could give a little more clarity regarding your NII growth assumption for 2019. And when we look at both altogether around the margin targets and the treasury margin, you -- you're growing almost 10%, or you expect to grow in almost 10% your NII at the midpoint of your guidance. And if you look at the fourth quarter, and we look at the carry into 2019, we're talking about roughly 2% growth, right? So compared to some of your peers, you do seem to have a much more optimistic expectation regarding NII growth. So what do you see there? I mean, I -- do you consider any potential pressure on credit spreads? Or you think you really don't see that happening anymore since you have adjusted your portfolio already? And are you seeing any potential gains on your funding side as well? So if you could explore that number, which I think to me, it did surprise on the upside, that would be great. And my other question is with regards to your excess return. I know there are some questions already related to that, right? But currently, your excess return is quite high compared to some of the previous levels. And you -- and despite all the competition and potential pressure and credit spreads, you feel confident that you can maintain that sort of excess return, at least like in the short to medium term? Is that a fair assessment?

[Cândido Bracher, executive]

Thank you for your questions, Marcelo. First, on NII. You mentioned optimism. I -- as I said in our -- all of our guidance here is based upon the approval of the pension reform and a scenario in which the Brazilian economy grows between 2% or 2.5% this year. So this pertains in all the items of our forecast. This is the optimistic part, if you will. The rest, there's more mathematics than optimism. So in financial margin with clients, the main explanation for the growth in financial margin with clients is a technical fact, which is the fact that the balance, the average balance in 2019 will be significantly higher than it was in 2018, which was -- if you compare to the fourth quarter of '18 but this was not the case in the previous year. In the previous year, we have grown the concessions in credits very vigorously, but it took us a long time to replace the credits which [ were faced ]. And so there was no growth in average portfolio in 2018 over 2017. And we expect a significant growth in average portfolio this year. This explains more than 50% -- much more than 50% of the change in margin. And it also applies with volumes. They also refer to the volumes and liabilities not only in assets. Despite that, there is this effect of mix and of moving from credits with a lower probability of default to credits with a higher probability of default but with a higher margin. As I mentioned before, I mean, the -- we are paying the price for the excellent growth in our cost of credit line that grows according to the cost of this change in mix. Both -- and so in the [ figured timing ] for financial margin, it's quite -- it's very much in line with the whole forecast. I don't see this line as more aggressive or more difficult to make than the rest of the other lines of the guidance which you see. Then, you made a question about excess return. So we live in a very competitive environment in Brazil. How do I see the -- you see how our competitors behave and how we are fighting for market in some -- in every market and so on. I've seen that what drives our ability to show this good return is how we're able to actually compete. If there -- the results would be sustainable if we can keep our competitive stance in the market, and we are investing a lot and working hard to be able to make it and even to improve it. So yes, I think this -- these returns are sustainable. Of course, in -- as in a previous question that was made, if the cost of capital is significantly reduced, then there will be a general trend to reduce margins and maybe the nominal returns may suffer. But we are not seeing that yet and we are confident that we are able to see a foreseeable future to maintain this return on equity.

[Operator]

The next question comes from Domingos Falavina, JPMorgan.

[Domingos Falavina, analyst]

Mine is just more regarding the expense side. I noticed when we compare to peers a little bit more of our investment project, I guess, going on in Itaú, and I'm just wondering which lines exactly do you intend like -- or are you assuming branch expansion? Is this more like on which product's line? Is it more IP-driven than cost? Just to understand a little bit more what Itaú has in mind as far as where to deploy the expenses.

[Cândido Bracher, executive]

If I understood your question, you're asking about our costs, right?

[Domingos Falavina, analyst]

Yes.

[Cândido Bracher, executive]

The most important part of the cost increase is tied to volumes. This is -- are variable costs which vary as the volume of transactions increases. There are different types of costs. This is the main thing. So since portfolio is increasing 8% to 11%, since the financial margin is increasing 9.5% to 12.5%. And this all drives an increase in noninterest expenses higher than inflation. Besides that, there were 2 types of investments last year which were made throughout the year and that this year, we will bear the full impact of this course. And these were mainly hiring people. Hiring people to distribute the acquiring profits, and this is what led us to stabilize our market share in the acquiring business last year. And this year, we'll bear the full cost of this new hires. And in our projects in the insurance activity, while we are distributing third-party insurance, so we also hire an insurance specialist who are now sitting in our branches, I mean, in many of our branches. So I'd say these are the 3 main items of the cost increase. Important to mention that despite this cost increase, our efficiency index grew by almost 1% according to our guidance.

[Operator]

The next question comes from Natalia Corfield, JPMorgan.

[Natalia De Melo Corfield, analyst]

I have actually one question on issuance, and I apologize if it had already been asked because I joined the call a little bit later. I'm curious to know about your views on the international capital markets. And this is because you placed a local 81 very recently, I think at the beginning of January, at a very good price. And importantly, it was well below the levels where your 81s are trading internationally. So I'm wondering if this means that you guys are not planning to accept a -- the international capital markets in 2019. If you're going to be focused on the local markets given the liquidity that you have there. It's like if you could give color on that, I would appreciate.

[Cândido Bracher, executive]

Thank you for your question, Natalia. Yes, as a matter of fact, I mean, we are very satisfied with the issue we made earlier, our BRL 3 billion in the local markets. And then we have identified a pocket of demand in the local market and an opportunity to do this since we still have some room to issue 81. This room is now -- it's much smaller. I mean, we have 1.1% of 81 issued. As you know, the ceiling is 1.5%. But we have to account -- to leave some room for currency devaluation. I think that, that is a significant part of our 81 is denominated in dollars. If there is a currency devaluation, it will grow in percent or terms. And we do not want to run the risk of having idle 81 because it's a product too expensive to have it idle. So I'm not foreseeing going to the market in the near future. We are not leaving it and I feel it would be sometime before we tap the markets again. I mean, we are in very comfortable levels of capital [ growth ].

[Natalia De Melo Corfield, analyst]

Right. So in terms of 81, I understand that you already accomplished what you want. And -- but what about other types of issuance, like even a senior, would the international market be a consideration or not at all because you have -- you can have it very cheaply in the local market?

[Cândido Bracher, executive]

No, I wouldn't say that. I would say -- I mean, we are always looking at the markets and if there is a good opportunity of tapping international markets and then if we see demand for paper international and then we see demand for it to add it in Latin American, there's no reason why we wouldn't do it.

[Natalia De Melo Corfield, analyst]

Right. But in terms of like pricing, nowadays, it's -- which one is better for you, internationally or local?

[Cândido Bracher, executive]

Still local markets still look better for us.

[Operator]

The next question comes from Nicolas Riva, Bank of America.

[Nicolas Riva, analyst]

Just one on capital. So we saw an important drop in the level of Common Equity Tier 1 after the additional dividends and interest on capital, now it's 12.5%. I believe that in the past you have said that your target was around 12% for the CET1. If you can confirm if that's still the case and therefore, we could assume that you're basically done in terms of giving back interest capital?

[Cândido Bracher, executive]

I'm not sure I understood your question. But if I think I understood it, then our -- we want to have 13.5% of Level 1 capital. Out of which, as much as possible of 81, so up to 1.5% of 81 and at least 12% in core capital. This is, I mean, what our risk appetite expresses -- expressed by our board indicates. And so yearly, we come back to this level as we are coming back now to the level of 15.5%.

[Operator]

[Operator Instructions] This concludes today's question-and-answer session. Mr. Candido Bracher, at this time, you may proceed with your closing statements.

[Cândido Bracher, executive]

Okay. So thanks, everybody, for participating and for the very good questions. And then we'll look forward to the next call when we expect to materialize the guidance which we provided now. Thank you.

[Operator]

That does conclude our Itaú Unibanco Holding Earnings Conference for today. Thank you very much for your participation. You may now disconnect.