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Credicorp Ltd
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Good morning, everyone. I would like to welcome you all to the Credicorp Ltd Fourth Quarter 2020 Conference Call. We now have all of our speakers in conference. Please be aware that each of your lines is in a listen-only mode. At the conclusion of today's presentation we will open the floor for questions and at that time instructions will be given as to the procedure to follow if you would like to ask a question.
With us today is Mr. Walter Bayly, Chief Executive Officer; Mr. Gianfranco Ferrari, Deputy Chief Executive Officer; Mr. Alvaro Correa, Deputy Chief Executive Officer; Mr. Reynaldo Llosa, Chief Risk Officer; Mr. Cesar Rios, Chief Financial Officer and; Milagros Cigüeñas, Investor Relations Officer.
And now it is my pleasure to turn the conference over to Credicorp's Chief Financial Officer, Mr. Cesar Rios. Mr. Rios, you may now begin.
Thank you. Good morning and welcome to Credicorp's conference call on our revenue results for the fourth quarter of 2020. Since our previous conference call, economic reactivation in Peru has continued at a very unexpected pace. In seasonally adjusted terms, GDP in the last quarter of 2020 is stands around 3% below the pre-pandemic levels.
Our estimates suggest GDP decline around 11.3% in 2020 due to the COVID-19 pandemic, which is better than initially forecast. The job market has also continued to recover as indicated by data on payrolls, managed through the banking sector. The external sector has also provided favorably, as copper prices has reached levels not seen in almost eight years. We expect the GDP to rebound between and 8% and 10% in 2021, underpinned by high copper prices, capital inflows to emerging markets and expansive monetary or fiscal policies in the local front.
Next slide please. Two significant factors are driving uncertainty in the core economics. First, the sanitary situation generated by COVID-19 has deteriorated in developed and emerging countries over the last few weeks. The Peru's data on excess mortality reflects this reality. The government has established restriction measures based on the severity of COVID-19 indicators, which include a high, very high, and extremely risk levels. On January 28, the government ordered a new focalized lockdown from January 31 to February 14 in regions that registered extreme risk levels of COVID-19 indicators, including Metropolitan Lima.
The effect of these restrictions will slow down the recovery in the government and service sectors, but other sectors including mining, fishing, manufacturing and construction will continue to produce. Downside risk to our current GDP growth forecast of 8% to 10% might revise if the sanitary situation deteriorates further and more restrictive lockdown are mandated. However, vaccine doses will arrive in Peru in February and the vaccination process will be begin immediately.
Second, Peru will hold general elections from April 11, 2021. The latest survey shows candidate George Forsyth, leading voters' preferences with 17 of total votes, followed by Keiko Fujimori, Julio Guzman, Verónika Mendoza and Yhony Lescano who are neck and neck for second place as on the date of the poll. It is still early to predict outcomes. The political landscape continues to be marked by the uncertainty that we play out in coming months. It is important to note that according to the latest surveys 25% of voters are undecided, intend to leave their vote blanks or will initiate ballots. The second round of presidential election is said to be held on June 6, 2021.
Other relevant events in countries in which Credicorp operates includes a law passed in Bolivia in January 2021, which leaves eligible borrowers the option of a six-month grace period. This facility is in addition to the loan deferrals implemented in 2020, which led to both interest reversals and zero interest rate impairment charge in December 2020. We are closely monitoring the impact of these measures in our business at BCP Bolivia. In Chile, elections will be held on April 11 to elect the members of the Constitutional Assembly, Regional Governors, Mayors and Councilmen. General elections have set for November 2021.
Next slide please. The Peruvian financial system has evolved favorably hand in hand with economic recovery in the last quarter of 2020. According to that across the Central Bank, loan growth in December stood at 12.3% year-over-year at a constant exchange rate, the highest growth rate since 2013 underpinned by the effects of Reactiva loans. If we include the effects of Reactiva loans, total loans - sorry if we exclude the effects of Reactiva loans total loans declined 4.6% year-over-year. Importantly, there are signals of recovery in loan originations in the retail segment, which includes consumer and mortgage loans.
In this context, Peru boasted one of the highest loan growth rates in the region in 2020. For 2021, we expect total financial system loans in Peru to grow around 3% as the effect of Reactiva loans starts to receive and is short of loans we cover. Lastly, we would like to comment for recent events on the economic policy and regulatory fronts in Peru. The Central Bank recently announced monetary measures to expand long-term credit. This [Technical Difficulty] I'm not sure if you see. At the end December 2020 - at December 2020, Congress passed a law for interest rate ceiling. These ceilings will be set by the Central Bank, which will also set limits on charges for certain fees in the financial system.
On February 2, the executive branch of certain law announced its intention to take the matter to the constitutional court if Congress insists on passing the measures to the systems. Additionally, the Minister of Finance has approved a decree that enables SUNAT the National Superintendency of Tax Administration to gain access to client deposits information if balances exceed PEN30,800. Lastly on January 28, 2021, the government announced the COVID-19 government guarantees program, directed to individual SMEs, which will be extended until March 21, 2021. As explained in our last call, under this initiative banks can also reduce interest rate on reprogramming facilities in exchange for additional government loans progress for very specific segments of clients. We will continue to close monitor these developments to evaluate the impact on Credicorp's operations.
Next Slide please. Economic reactivation described early is evident at Credicorp's end market by a significant uptick in the use of digital channels, demand for financial goals in individual segments continue to reactivate. Some problems such as Mortgages and Bancassurance registered a significant recovery in the fourth quarter of 2020. Digital sales in particular accelerated this quarter and on a full year basis grew 72% in 2020. This expansion took place in the context of growth in the adoption of digital channels due to immobilization measures and social distances. Bancassurance and advance of wages are the products that reported the highest growth in sales this quarter costing expansion above 400% with respect to general estimates.
Analyzing the full year transactional trends we found, first, average monthly number of transactions grew 51.5% led by VISA transactions, we grew 91.5%. Second, digital transactions have contributed to 77.7% of total transaction this quarter, the largest increase in shares of transaction was registered by Yape, which represents 19% of total transaction this quarter compared to 5% in the first quarter this year. This expansion was driven by our new product Yapecard, which allows BCP and non-BCP clients to execute transactions. This new product generated more than 1 million new Yape accounts in 2020 and banked almost 400,000 people during the same period.
Next slide please. Now I will comment on the highlights of Credicorp's performance in the fourth quarter and the full year 2020. Results show a quarterly recovery in line with economic reactivation. A summary of results shows in a year-over-year analysis, the loan portfolio grew more than 19% in quarter-end balances, driven mainly by loans on the government relief programs. After isolating the effect of these programs, Credicorp's structured loan portfolio trailed 2.2% in quarter-end balances.
On a quarterly basis, net interest income registered a contraction of 4.3% due to the impact of non-recurring events and zero-interest rate loan impairment charge in Bolivia in particular. If we isolate non-recurring events, adjusted net income fell minus 0.8%. On a full year basis, adjusted net interest income contracted 1%. This evolution was fueled by lower interest rate and a less profitable asset mix, which was partially offset by the reduction in interest expenses generated by a lower cost funding structure.
In this context, full-year of structural NIM situated at 4.78%. Non-financial income was boosted this quarter by fee income, which increased 20.7% quarter-over-quarter, in line with more transactional activity and expiration of fee waivers. In full-year results, non-financial income dropped 10% due to a decrease in transactional activity throughout the year. Full year insurance underwriting results were impacted by COVID-19 related and incurred, but not reported claims in the life business, which was partially offset by a decrease in property and casualty claims.
Provision expenses fell considerably this quarter, better economic expectations and improvements in client behavior led to a structural cost of risk of 2.44% this quarter. In full-year terms the structural cost of risk was 5.07% in 2020. In this context, Credicorp reported PEN653 million in net income this quarter, which represents a return on equity of 10.8%. On a full year basis, Credicorp generated PEN347 million. If we isolate non-recurring events, adjusted net income for 2020 situates at PEN725 million and adjusted ROE of 3.5%. I'll now explain the results of our main operating units.
Next slide please. I will begin by explaining BCP's stand-alone evolution. In 2020, the total loans portfolio in year end balances grew 18.8% driven by the Reactiva loans, while the structural loan portfolio decreased 4.1%. Now let me explain in further detail the evolution of average daily balances which are major drivers of margins. On a quarter-over-quarter basis, loans in average daily balances grew 1.4% driven by Reactiva loans, while the structural portfolio dropped 2.5% due to a contraction in the wholesale and SME segments.
On a full year basis, total loan growth in average daily balances of 17.1% was mainly driven by the Reactiva program, which provided loans primarily to the middle market, SME-Business, and SME-Pyme segments. If we exclude the Reactiva program, BCP's structural loan portfolio in average daily balances grew 4.1% in 2020, mainly driven by corporate banking, mortgages, and consumer loans, which expanded 7.5%, 7.2% and 13.1%, respectively. BCP's funding structure has improved to active liability management and by the increase of savings and demand deposits.
On a full year basis, total deposits grew 30% led by low-cost deposits. In 2020, BCP materially reduced its funding cost. It has been able to repay more expensive sources of funding such as due to bank, Repos and Senior bonds and has seized opportunities in the context of low interest rates to implement and timely liability management strategy.
Next slide please. Regarding payment behavior under the reprogram portfolio in retail banking at BCP, in the fourth quarter, retail clients registered an improvement in the payment behavior, hand in hand with economic reactivation. On-time payments on the structure retail loans reached 96% at the end of December, improving from 94% in September. By the end of the year only 20% of the retail portfolio has cure in the programming facilities compared to 23% in September.
Finally, our high uncertainty portfolio, which is comprised of loans that are within grace period or those that have overdue installment currently represent 9% of the structural loan compared to 18% last quarter. In this portfolio, at the end of the fourth quarter of 2020 only 3% of the structural loans were still within grace period and 6% were overdue.
Next slide please. Now let me explain the evolution of cost of risk and asset quality indicators. On a quarter-over-quarter basis, the decrease in provision expenses is attributable to an improvement in macroeconomic expectations and updates in the probability of default of the specific segments based on latest assessments of transactional and payment behavior. On a full-year basis, provision expenses growth was mainly concentrated in the individual segments, specifically consumer. In addition, higher wholesale banking provision expenses were driven by the evolution of specific clients in the Airline, Tourism, Transportation and Energy sector, which have been highly impacted in the COVID-19 context.
In this scenario, the structural cost of risk situated at 2.73% for the quarter and 4.74% for the full year. As anticipated in our last call, figures for asset quality show deterioration quarter-over-quarter, particularly in structural loans in the individual segment given that credit card and consumer grace periods have expired. This was partially offset by a rebooting of write-offs, which initiated in September after LDS mandated to freeze the counting of days of delinquency expired. We expect further deterioration to the first half of 2020, particularly in the SME segment as grace periods in this segment will expire. In the aforementioned context, the NPL coverage ratio situated at 145.1%. Finally, this accumulated provisions represent 7.92% of the total structural portfolio.
Next slide please. Going on to BCP results, net interest income continues to follow an upward trend and rose 5.9% quarter-over-quarter. In full year figures, net interest income declined 2.4%, impacted by non-recurring events through the year. If we exclude non-recurring events, the full year adjusted net income analysis shows, first, a decreasing adjusted interest income of 4.2% due to a drop in market rates and a charge in the asset mix, which was partially offset by active investment portfolio management. Second, adjusted interest expenses fell to 18.2% due to a drop-in interest rate, and funding structural improvement. In this context, adjusted net interest income rose 0.8% in 2020.
In terms of NIM, the full year contraction of 87 basis points was attributable to the aforementioned variations and to the dilution effects of Reactiva loans, which generate negligible NIM. Risk adjusted NIM situated at 2.28% this quarter, and 1.03% in 2020. Regarding non-financial income, in terms of the quarterly evolution, core items grew 13.2% unencumbered economic reactivation. This was the first full quarter, free of the exceptions and as a result, fee income expanded 12%. Additionally, alongside an uptick in transactions gained, and NIM based transactions grew 18.1%. On a full year basis, non-financial income fell 11%, mainly driven by fee income and gains on FX transactions, which constructed 12.1% and 11%, respectively, due to a decrease in transactional activity over the year.
Next slide please. BCP's efficiency ratio improved year-over-year, after cost control measures were implemented in 2020, including reduced non-essential expenses on variable compensation. In full year terms, although operating income contracted 5.4%, BCP's adjusted efficiency ratio remained stable of 14.9%. This evolution was a result of our efforts to speed up the process to implement BCP's transformation strategy, which focused on improving the client experience and efficiency levels.
The table in this slide shows our progress and the rising efficiency drivers to move forward on our journey to optimize our cost to income ratio. First, we accelerated our IT investments to append digitalization, the share of digital transaction grew 16 percentage points, also sold 55% of our clients at digital, and we are able to close - and we were able to close 20 branches this year.
Next slide please. With regard to microfinance, let me explain the dynamics of Mibanco's loan portfolio on funding base. In 2020, the total loan portfolio and year-end balances grew 20.5%, while the structural loan portfolio decreased 6%. The structural portfolio construction is explained by the severe impact of the pandemic in the micro businesses segment, and the fact that liquidity thus provided by clients to the government programs.
Now let me explain through the details the evolution of average daily balances, which are major drivers of margins. On a quarter-over-quarter basis, loans and average daily balances grew 9.4%, driven by government programs launch, while this the portfolio grew 1.4%. On a full year basis, total loan portfolio grew 13.4% in average daily balances, driven by government programs, while structural loan portfolio grew 1%.
With the onset of economic reactivation during the second semester of 2020 origination level for Mibanco's structural portfolio is starting to recovering segments that are still within our risk appetite. Regarding the evolution of funding at Mibanco, demand and saving deposits grew 37% year-over-year, which allowed us to reduce the share of more expensive funding sources in total funding. All these factors led to a structural funding cost to fall from 4.2% in 2019 to 3.3% in 2020.
Next slide please. Client payments at Mibanco's continue to follow our upward trend, and the high uncertainty portfolio has shrunk considerably. Mibanco's client payment performance produced a substantial improvement and there was a drop in request for new reprogramming facilities as grace periods expired in a context of economic reactivation. Moreover overdue payments remained stable this quarter. Analyzing the structural portfolio reprogramming figures we note, first, non-recurring up-to-date loans increased this quarter to represent 49% of the structural loans at the end of December.
Second, the overdue portfolio has slightly increased this quarter as planning facilities start and reached 6% for the structural loans. Finally, the high uncertainty portfolio, which is comprised of loans that are within grace period or those that have overdues are currently represent 24% of the structural loans compared to 43% last quarter in this portfolio. At the end of the fourth quarter of 2020, 18% of the structure loans were still within grace period. The majority of these periods will end by June 2021 and the remainder by the end in 2021.
Next slide please. Regarding asset quality indicators, provision expenses decreased quarter-over-quarter due to adjustments in our credit risk model after better-than-expected trends in client behavior were registered in a context of economic reactivation. This improvement was partially offset by an increase in delinquency as grace periods expire. This evolution coupled with expansion of the structural loan portfolio led the structural cost of risk situate at 4.7% this quarter.
In full year terms, this structural cost of risk situated at 10.6% in 2020. In terms of portfolio quality, the structural NPL ratio rose to 10.2% in 2020. Delinquency showed an uptick as grace periods expire and some clients were unable to make payments. The increase in NPL's was partially attenuated by a reboot of charge-offs. In this context, Mibanco's NPL coverage ratio increased to 117% in 2020.
Next slide please. Now let's look at Mibanco's results. Net interest income fell 6.4% quarter-over-quarter after being hit by accrual interest reversal and grace period expiring as some clients registered delinquency. In full year figures, net interest income declined 18.4% impacted by, first, a contraction in the structural portfolio and the influence of the government program loans. The context of lower interest rate and the interest rate figures are due to increase in delinquency situations.
In terms of NIM, the full year contraction of 400 basis points was attributable to the aforementioned variations of what partially offset by an improvement in the funding structure. In this context, we suggested a NIM situated at 3.2% in 2020. Regarding efficiency, full-year operating expenses decreased 6.3% due to cost control initiatives including a reduction in headcount, non-core expenses, variable compensation among others. Although, non-financial income reflected an uptick in bank assurance fees for quality assurance to our current portfolio, operating income drop at a faster pace than operating expenses, leading efficiency to deteriorate.
Next slide please. Now I will comment on the results of the Insurance business. On full year basis, net income decreased due to growth in provisions related to excess mortality for COVID-19. This was partially offset by lower claims in the P&C business. The decrease in claims in the P&C business was attributable to a drop in cases, mainly in the cost line and personal line, after movement were restricted to stay contagion. Life net premiums increased through the alliance channel, and due to an increase in sales in the Bancassurance channel.
An analysis of the evolution of provisions this quarter indicates that there was a decrease in, but not reported provisions in the life insurance business after fewer COVID-19 related cases were reported. On a year-over-year basis, however claims increased 59.8% mainly due to the impact of COVID-19. In a quarterly basis, corporate health insurance and medical services, registered an increase in net income. This evolution is explained by lower claims at the corporate health insurance business and higher demand for medical services. On a full year basis, net income increased due to a drop in net claims in the corporate health insurance, which was attenuated by a decrease in the medical services income due to lower demand.
Next slide please. Regarding the pension fund business, assets under management and the fiscal level drop year-over-year due to higher withdrawals under the government mandated facilities. In the case of Prima, total funds withdrawals amounted to PEN7.5 billion, which represent 70% of the fund that we're available for withdrawal. The law [indiscernible] by the executive in November could lead to traditional withdrawals in the first quarter of 2021 for approximately PEN3.4 billion.
Net income increased quarter-over-quarter due to a recovery in the profitability of the reserve funds in line with market performance. Nonetheless, it was partially offset by a decrease in income due to a decrease in affiliate contributions. On a full year basis, total fees decreased due to first, higher unemployment, which reduced the level of contribution. Second, contribution exceptions granted by the government in April, and finally a decrease in assets under management level after funds were withdraw to government mandated facilities.
Next slide please. Regarding our investment banking and wealth management businesses, total assets under management posted an increase of 34.5% over a year impacted by the exchange rate and driven by the asset management businesses in general and the subscription of the third-party funds from institutional buyers in particular. On a quarterly basis, recurring income grew 4.1%, mainly driven by asset management and corporate finance businesses.
In full year terms the decrease in the earnings contribution was mainly associated to growth in recurring expenses which was internally driven by transformation in the operating model and by one-off expenses from new subsidiaries. This was partially offset by growth in recurring income mainly due to capital markets and asset management businesses. Non-recurring results also contributed in gains of 24 million in a context in which non-recurring income out weighted non-procuring expenses.
Next slide please. Now, I will summarize Credicorp's consolidated performance. An analysis of the balance sheet structure shows that Credicorp's interest earning assets increased 29% in 2020. Driven by both the loan and the investment portfolio, we increased the size and duration of investment portfolio while maintaining interest rate risk and maintaining a solid short-term liquidity. In 2020, Credicorp's loan portfolio in year-end balances grew 19.1% driven by government program while the structural loan portfolio decreased 2.2%.
On average daily balances on a full-year basis, the loan portfolio grew 15.8% while the structural loan portfolio grew 4%. As explained through our lines of businesses these assets has been financed mainly to low-cost funding sources. Additionally, we executed our inaugural international bond issuance, of holding company level this year to increase our liquidity portfolio.
Next slide, please. Now, to summarize the evolution of the main risk indicator, there was a significant quarter-over-quarter drop in provision expenses, which was attributable to an improvement in expectation for 2021 and to an improvement in client statement this April. On a full year basis, work in provision expenses reflected the impact of COVID-19 which led to a structural cost of risk particularly of 5.07%.
Regarding asset quality NPL increased quarter-over-quarter as grace periods expire. Our coverage ratio increased year-over-year situated at 156.1%. It is important to note that NIM this quarter was impacted by a zero interest rate loan impairment charge of PEN148 million in a context of regulatory changes in Bolivia. On a full-year basis, NIM contracted and situated at 4.3% due to new construction structurally, the impact of government programs and zero interest rate impairments.
Next page, please. In terms of full year efficiency, the cost-to-income ratio situated at 46.3%, deterioration was driven by lower income and non-recurring events and most of our lines of businesses. The deterioration attributed to microfinance was driven by a decrease in income from Mibanco Peru under the consolidation of Mibanco Columbia. Common equity Tier 1 level for both BCP and Mibanco remain above our internal target situating at 11.4% and 18.1% respectively. It is important to mention that the capital ratio of Mibanco increased due to capital contribution of PEN400 millions executed in December. As mentioned previously, our core equity Tier 1 ratios are calculated at the Peruvian GAAP accounting as a charge, use local net income figures.
Next slide please. Credicorp generated PEN653 million in net income this quarter, which represent a 10.8% of ROE. If we isolate non-recurring events registered this quarter adjusted net income is PEN725 million, while the adjusted ROE situated at 12%. It is important to mention that this year non-recurring events refer to impacts to income and expenses that were registered in our P&L, but are not part of our recurring business as channel. We are not expected to recur on a consistent basis going forward.
It is important to note that some variable costs such as variable compensation payments and that's withholding provisions this year due to the crisis and to a drop in income, we expect that going forward, what these variable costs will reactivate in a context of ongoing. To review our expectations, let's go on to guidance.
Next page, please. In a context with uncertainties remain our expectations for 2021 assume that the lockdown will be lesser and shorter than those imposed not last year. As one of the economies that was the hardest hit by the pandemic in 2020, we expect Peru's GDP recover in 2021 and drove between 8% and 10%. In terms of loan origination, we expect our commercial transactions to continue on our trend to 2021. As such, we project growth between 4% and 8% in our balances. For the total portfolio, this will be driven mainly by the retained statement that BCP and alone and by new bank.
Regarding NIM we expect the interest rate to remain low in 2021 and our loan portfolio will continue to be impacted by the presence of low interest rate government loans. Accordingly, we expect NIM to situate between 3.9% and 4.4%. As macroeconomic expectations continue to improve, provision for loan losses are expected to continue following a downward trend, bringing the cost of risk levels between 1.8% and 2.3%.
We expect to recover our capacity to generate income this year and believe that 2021 will be a year of transition in terms of efficiency in this context, we expect some variable costs such as variable compensation and we call to reactivate alongside higher income. Additionally in 2021, we will continue investing in digital channels and in transforming our operating volume to boost efficiency in coming years. In this scenario, the efficiency ratio is expected to situate between 44% and 46% this year. Finally, we expect our other ROE to reduce at lower double digit level this year, first time between 10% and 14%.
With these comments, I would like to open the Q&A, please.
Thank you, sir. [Operator Instructions] Thank you. Our first question comes from Ernesto Gabilondo with Bank of America.
Hi, good morning, Walter, Alvaro, Gianfranco, Reynaldo and Cesar. Franco, my first question is from the regulatory outlook. So the observation of President, I ask you the government is a potential deal of interest rate cuts and also any observations containing too much on alliance private pension funds. However, we have seen that Congress is expected to continue and pressure on both deals in the next couple of days. So what is the probability that you're seeing on the back and can you share with us which percentage of your loan portfolio if your interest rates above 80%? Thank you.
Ernesto, thank you for your questions, I'll try to tackle some of the questions that you posted. I think certainly we have some recent horizon. The law that put comps on commissions and interest rates is still going to be - to I would say probably a lengthy period of discussion. It's probably too early to have an exact assessment. But if this law rolls and passes all the process and debate probably is going to impact probably more severely institutions that operate in the very high interest rate segments that are the specialized institutions, and probably are going to be less severe impact in the universal banking institutions in the country. Nevertheless, it's going to damage the access to credit and reduce the access to credit for a significant number of Peruvians.
So you can share with us what percentage of your loan portfolio is going to reap above 50% if you haven't -
Excuse me I couldn't understand the question very well.
Yes. Can you share what is your percentage of your loan portfolio with interest rates above 50%?
I don't have the figures on hand. We can come back with some general guidance further on.
Ernesto, this is Reynaldo. Good morning. What is the question? How come - how did you come up with a 50% threshold?
Yeah, I believe that. Yeah. So I believe that it is a percentage of the loan portfolio. So if you have interest rate above 50%.
So yeah, I understand the question. But my question is why 50%, not 40 or 75.
I was thinking that high interest rates we've seen in other countries just gives you that number.
But I'm trying to make a point because unfortunately, if this law is passed, what is going to happen is it will have a huge impact on financial inclusion and we will actually generate a lot of financial exclusion. And if you understand the dynamics of how the financial inclusion on the asset side works in Peru, it is basically very, very, very tiny loans of less than $100 and at high rates that are mostly driven by [indiscernible], obviously, Mibanco and institutions like that, and those guys move forward and we're going for the rate - the amount of loans are larger and very smaller 20 million. I'm afraid you made a point of 50%. That is if there is a 50% gap, the whole microfinance industry maybe something that microfinance industry is very healthy.
Okay, thank you. Thank you for addressing this. Then just my second question is from the political front. We have seen that Verónika Mendoza appears in the second position in recent polls. Also, we saw that unfortunately, the potential successor of the President of the Central Bank passed away, so this is creating uncertainty on who will be his successor. So I wanted to read all your thoughts from these events.
Yeah, go ahead Cesar if you want.
I think, Ferrari, my first reaction is that we are in Peru and it's very early to tell. We have several surveys, several polls, some of them - actually Verónika Mendoza are in the top of position cycle five, depending on the polls, but I will say that is very early to tell at this point. Probably we need to have to clear the proposals, to go down the road and see how the proposals and the mash of the candidates consolidate in the next month.
Just to add on that the temperature on the election is very cold. The focus on the population, I would say was more on the pandemic rather than on elections. And statistically they're like seven number two [indiscernible], all of them are seeing the margin of error. So as Cesar mentioned, it's really too soon to tell and I do believe that we'll have to wait at least one more month to have more clarity on possible outcomes of the election.
Right. Thank you very much for your thoughts.
Thank you. [Operator Instructions] Our next question comes from James Mollin with Scotiabank.
Hi, this is Jason Mollin. On the question of medium- and longer-term asset and earnings growth versus capital optimization and dividend, Walter, you had provided some thoughts at the end of the third quarter call where you spoke about the potential that shareholder returns going forward could shift more to dividends with slower earnings growth versus what - in the future versus what we've seen in the past. Have recent trends given you more conviction that this is what will drive future shareholder returns?
Yes, good morning, Jason. This is Walter. Yes, we have to take out of the equation this year. This year is somewhat an unusual year. We are rebuilding our profitability. And we do not expect - we haven't made a final decision of the board. But this is not a year in which I would have people waiting for a lot of dividends. We want to rebuild a little bit our capital base. But going forward, yes, the dynamic - the long-term dynamic is that the country will grow less, whilst Credicorp continues to generate around 17% return on equity, which will be a low - a higher rate than what our risk assets will grow. But we will be spinning off excess capital regularly to our shareholders. That is the dynamic that I think should come back next year, not this year.
Thank you very much.
You're welcome.
Thank you. Our next question comes from Tito Labarta with Goldman Sachs.
Hi, good morning, everyone. Thank you for the call and taking my question. My question also I guess on the longer term, yeah, just looking at your credit guidance for this year and eventually getting back to 16%, 17% as you mentioned Walter, I think we saw a nice improvement in the cost of risk, but net interest margin continues to be under pressure. I mean, I guess partly due to Reactiva loans. I think previously, you've guided for maybe second half of 2022. Is that how long you think it will take and is it mostly a function of getting your margin back to where it was before? And for the margins to get back to where it was before is it just the Reactiva loans coming off the loan book? Do you need interest rates to go up back to normalized levels to get to that 17% ROE? Just to try to get a sense of the drivers to be able to get back to that long-term ROE. Thank you.
Probably if we consider that the asset base growth at high single digits we can obtain as mentioned before ROEs of high double digit. This growth is going to be driven by a country that is going to grow, let's say three plus percent. And the financial sector usually grows 1.5 times the nominal figure. In terms of margins, what we should expect is that we are going to have at least a couple of years of very low interest rate that affects our overall profitability. And at the same time, we are going to come down with a relative rate of Reactiva loans that are scheduled to have 2.5 years more standing if there is not any additional changes. So we are going to have I will say a couple of years in which we are going to have still very low interest rates and the presence of the Reactiva loans on the book.
At the same time we expect during this period to have a higher proportion of retail loans in our book that carries higher margins with some more risk also. The risk should come down at segment level to pre-pandemic levels, adjusted by the change in compensation because more retail loans than wholesale loans down the road. And the fee income probably is going to grow less BSP than the assets due to the digitalization that is going to put some pressures in fees. At the same time, we are going to start gaining efficiency within the benefits of the vehicle transformation that we have embarked in all the companies of the group, the combination of these factors to lay down a sustainable ROE in the high double digit as mentioned, Walter mentioned previously, this is the basic dynamic. I don't know if you want some clarification on this specific topic.
Yeah, thank you Cesar, that's helpful. I guess, maybe just a follow up on the margin side, given just the impact of Reactiva, do you know, if you guide - with the guidance you've provided 3.9 to 4.4. Do you know what that will look like if you exclude the Reactiva loans, just trying to get a sense of I guess the normalized margin excluding that? And then - and it sounds like you would need for interest rates to get back to maybe more normalized levels to get that margin up higher, and to get that ROE up higher, is that correct?
Yes, but I would say Reactiva post probably 80 basis points of the margin that is - the slowdown is going to be progressive. And the interest rates also impact because we have a very low funding base that is less valuable in relative terms now. This process I mentioned is going to last at least two or three years, when every - when all these - these two factors dissipate what we are going to have probably is higher margins driven by these factors, but no more competition. We wouldn't expect to reap the full benefits of these two factors due to the competition, but we are going to still remain profitable and with stronger NIMs than now.
But let me add something, this is Walter, just to be very concrete. We do not need interest rates to go up to achieve the return on equity that we have been accustomed to. We can achieve without an increase, a general increase in interest rates. This is the year in which we will be rebuilding our profitability. And we should see the results quarter after quarter until reaching this last quarter, which will give us good results still below, but close to sustainable levels.
Okay, that's very helpful. Thank you, Walker and Cesar. And just one final question just to confirm, the 17% I think you had previously mentioned you could probably get there second half of 2022. Is that the correct timing? How do we think about just the timing to get back in?
Definitely not this year, as I said last quarter this year, we'll be close to those levels, but still below.
Okay, so sometime next year, fair. Thank you, Walter.
Yeah.
Thank you. Our next question comes from Jorg Friedemann with the Citibank.
Thank you very much for the opportunity to make questions. Good morning, everyone. My question is regarding asset quality. If you could give us some thoughts about when you think that NPLs will peak, we have started seeing the deterioration due to the expiration of grace periods. But I was even more interested in reconciling this with your cost of risk guidance, which is still above 2019 levels. So just wondering if you think this is a new normal or just the cumulative effects of the pandemic and we should have some normalization in 2022 afterwards. Thank you.
Yes, there are two questions. In terms of the expectations on the increase on the NPL loans we expect them to peak as Cesar mentioned by the end of the first semester - by the end of the second quarter, basically because we'll see a low performance on the SME and consumer markets where all the grace periods expire. In terms of the projections, I mean, there's still some uncertainty in the market. The health issues not over in Peru. We have elections. So we provide, I would say - truly forecasted what we feel the range would be. That's why you have a range in between 1.8 and 2.3 because there are still some clouds in the sky. And we are not sure what will happen during the next year - during this year, especially during the first two quarters.
Perfect. And if allow me just to follow up there, because now you have more than 10% of your portfolio in government programs that have lower risk and those according to what I understood in the call are still expected to last for 2.5 years. So would it be reasonable to expect the cost of risk evolve in 2020 to levels below those observed in 2019? Thank you.
I wouldn't expect them to go below what we had in 2019. Probably - remember there is that changing mix, and more important growth in the retail market, I mean, the wholesale market. So we'll probably see numbers somewhere below what our guidance for 2021 has been.
Okay, thank you.
Thank you. [Operator Instructions] Our next question comes from Geoffrey Elliott with Autonomous.
Hello, good morning. Thank you for taking the question. Can you help us a little bit on the net interest income? I guess you've given the guide on net interest margin, but the balance sheet size has clearly been pretty volatile during 2020 due to the pandemic and due to Reactiva Peru. So can you help us either on the net interest income or on the size of interest earning assets how that's going to evolve, so we can get a clearer idea of what you're expecting on NII?
We have been explaining the basic dynamic. Could you clarify your question, please?
Yeah, so you've given us an outlook on net interest margin. But the balance sheet size, the interest earning asset base that you're calculating that on, has been very volatile because of the pandemic because of Reactive Peru. So I'm trying to get a clearer idea of how you're expecting that to evolve, so we can get a better picture of what you're expecting on net interest income from here? I mean, maybe a better way of putting it is, how do you expect net interest income to evolve off the 4Q '20 base once we've adjusted for the one off that you had in Bolivia this quarter?
The NIM this year has been affected. I am going to summarize by the reduce in interest rate that impacts our liquidity and investment income. We have managed the portfolio to increase the long-term income. There was also a reduce in the mix due to Reactiva. As I mentioned previously, these factors are going to wind down. And the other factor is going to be the change in the composition of the portfolio towards retail. In terms of the cost of funds, we have already made a significant liability management and the costs are not going to be reduced significantly. So the improvement is going to come from the relative less weight of Reactiva and the higher proportion of retail loans in our book and after some time the increase in general interest rate in the market. But this is going to take a while.
Okay, thank you.
The size of the book has increased - the size of the book has grown significantly this year due to I will say three factors. Reactive loans, a significant influence of deposit that we have invested in liquidity and in medium and long-term bonds, but these stunning increase is not going to repeat in 2021.
Understood just a follow up on that, in 2020, you had really huge growth in deposits, up 27% year-on-year. How do you think deposit balances are going to evolve in '21?
They are going to come down to more historical level close to the growth of the loans. The significant increase in deposit this year - in the year 2020 was due to the liquidity provided by Reactiva and the withdrawals from the pension funds. This is one or a couple of one-off events. In 2021, the trend is going to be similar to the growth of loans with probably an upward lease due to additional liquidity measures provided by the Central Bank, but probably not the same magnitude than 2020.
Okay, that's great. That really helps. Thanks very much.
Thank you. Our next question comes from Andres Soto with Santander Bank.
Good morning. Thank you for the presentation. Maybe a follow up on interest of earnings, I would like to - based on your guidance, I understand that you are expecting NIM for 2021 to be at the same level as your structural or total NIM before adjustments in the fourth quarter of 2020. So I would like to understand in terms of the new originations that you are seeing, especially in the SME portfolio. What are the trends that you are seeing? It is being difficult to get rates a bit close to historical levels given the potential anchoring effect of the Reactiva loans.
My initial response is that no. The clients understand the difference and the volumes was driven more by capacity to pay and need. Probably Gianfranco will give better color, but was not an anchoring effect of Reactiva. The clients understand that this is a different program.
Yes, thank you, Cesar. Exactly and we already have a lot of clients where clients ask for [indiscernible] and gone. Reactiva loans during May to September of last year have already driven new loans with normal conditions. They completely understand the difference between normal rates and market competitive rate and the subsidized rates given by Reactiva. So that's not an issue for us today. Going forward, what happens and we have a lot of conversations right now. There are some specific sectors of the economy that have been hit very hard. An example is tourism. So the Reactiva program, may - got extended for some specific segments. There's nothing concrete right now. But something like that may come in the next couple of months.
Perfect. Thank you, Gianfranco. And previously you guys mentioned competition as another source of pressure to your margins. Which specific segments are you seeing the strongest competitive environment in revenue base?
Well, there's a lot of competition. So let me go a step back. There are some sectors in which - some parts in which we are back on track to pre-COVID level and those are the sectors where there's very harsh competition. Strategically, mortgages is very competitive now and the other sectors the whole corporate, I mean, the midsize companies or the large midsize companies, there's not much - not too much activity and/or investments where the usual suspects providing or offering financing facilities to the same clients. And there's also a very strong competition from the top corporate and the large market companies and [indiscernible] specifically. Then the only business competition across all of the segments or the entire culture is among those two segments.
Perfect. Thank you, Gianfranco and Cesar.
Thank you. Our next question comes from Alonso Garcia with Credit Suisse.
Good morning, everyone. And thank you for taking my question. So let's touch base again, on the regulatory front. I mean, you already provided some color on the internet caps bill, but could you please share your thoughts on the pension systems reform? I mean, what probably do you see of it being approved in Congress? The current government supports this bill or not? The timing and also AFPs as we know them right now would play a role under this new model or not at all? Any color would be appreciated. Thank you.
Okay. Hi, this is Alvaro Correa. The question is difficult to answer. There's a lot of uncertainty to date. There is a new law that is being drafted as we speak and there is a proposal from a specific commission, a special commission that was created last year. That specific new regulation is a real transformation of the pension system. However, it is difficult to say that it has a strong support from all parties. There's still discussions in Congress about that and the time - the timeframe for that is also uncertain. Some people say it's going to come with a final decision in the next, let's say 30 to 60 days; other people talk about leaving this to the next government and the next Congress. That means that should be discussed in about six to eight months from now. So a lot of uncertainty and it goes through. It's definitely - it has an impact on Prima AFP for sure because the model changes. The funds will be auctioned to - in an international auction and we can participate. But it's not for sure that everything will stay as it is today. I mean, it's surely not going to stay as it is today, so a lot of uncertainty. We should have more color on that in the next call for sure. Thank you.
Thank you. And lastly on the expense side, could you please discuss regarding the allocation of OpEx, CapEx this year related to your transformation strategy, I mean, by subsidiary or which specific initiatives you are currently working on? Thank you.
All the companies in Credicorp are undergoing a transformation process in relative terms or the BCP share is bigger due to the relative size and the evolution of the company. I would say in terms of transformation probably a two thirds are OpEx. A little bit more of that one third is CapEx and the increase from 2020 to 2021 is going to be significant, probably more than 20%, 30%. And out of this total BCP is going to be more than 50% of the total of the entire corporation. But I would like to emphasize that all the companies, subject to the reality of each one are undergoing a significant process of investment and digital transformation suited to the specific needs of the specific segment that they choose - they serve.
Understood. Thank you very much.
Thank you. Our next question comes from Piedad Alessandri with Credicorp Capital.
Hi, thank you very much for allowing questions. I had a question regarding the other expenses. In the MD&A you mentioned all the salaries, the administrative expenses, but other expenses that it's a significant point of the increase in total expenses year-over-year, it's not detailed. If you could give us a bit more view regarding the other expenses within 2020 and its development for 2021. I would be really grateful.
Yes, usually in other expenses, we record special taxes that are not income taxes that can be contributions to several institutions operational with related expenses. In the year 2020 we have significant operating expenses relating to two items. One was donations, BCP made a PEN100 million donation at the beginning of the crisis. Mibanco also made a significant donation. Credicorp Capital [indiscernible, this is a significant expense this year that is not recurrent and is of course. And we are also recorded in this item, the expenses related to the management of direct expenses to the COVID-19. We are talking about a specific equation two premises, health measures, protective equipment. The sink of these two items has been significant this year. And we also have some relative uptick in a fraud at the end of the year, but not in the magnitude that first two accounts that I mentioned.
Okay, so we could expect other expenses to -
Of these tow expenses - sorry, I would like to clarify something. Down the road for 2021, we still expect to include in COVID-19 related expenses, probably for the first half year - part of the year due to the lockdowns and all the security measures that is mandate to take to protect our team.
Thank you. Hearing no follow up, we'll move to our next question from Carlos Gomez with HSBC.
Hello, good morning. Hello, good morning. My question refers to the lessons that you have learned from the last year. Obviously, that is a big shock. For most companies, they say that this has been an acceleration of the change. But have you seen anything that makes you think about a structural change at the company? In the future would you like perhaps to be more in the insurance - or less in insurance more abroad or less abroad? Has the strategy changed in any way as a result of the pandemic in the year 2020? And I shouldn't ask this, but can you also tell us why your tax rate was so low this quarter? Thank you.
Cesar can you tackle the tax rate and I'll answer the strategy.
Okay.
Okay, go ahead.
Relating to the tax rate, we calculate the tax rate based on local accounting figures. And in local accounting figures, we have I'd say two significant factors. One is that we have increased for the year the size of the investment portfolio and we have been tax exempt securities and particularly in the last quarter we have also recorded significant provisions in local accounting. So the combining effect of these two factors has led to a drop in income tax.
That's clear, thank you.
Carlos. Yeah. To answer the second part of your question, actually, that was my last closing comment. In my remarks at the end, we have not modified our strategies. But undoubtedly, we have accelerated several initiatives as you all mention because of the accelerated use of digital channels. So what this means is that we will probably deteriorate our short-term efficiency ratios. But we think this is a smart thing to do for long-term results and competitiveness. We have had very extensive reviews of all our strategies in all our business units and nothing has dramatically changed. The plans that have been laid off have in essence just accelerated. And I think that the lesson is that - that I personally take from this is that why do you feel that you're on the right path? Maybe do faster, but that's my own personal thoughts Carlos.
Thank you very much.
Thank you. Our next question comes from Jason Mollin with Scotiabank.
Hi, as the second question and maybe a follow up what Carlos was asking. On the earnings mix at Credicorp, considering its banking, insurance, pension and investment banking and wealth management businesses, in general terms, do you see a change in the earnings growth rate from the different segments that would alter your view of the composition of Credicorp's earnings going forward?
Okay, let me take this from Jason. This is Walter. We have several dynamics. I think that within Credicorp, BCP will obviously continue to be by far the largest contributor and we still have a lot of room to grow in Peru through BCP and through Mibanco. Of course, this is a year to rebuild the profitability that will grow a lot. But we think that due to the continued still low levels of penetration of the Peruvian population in the banking system, there continues to be a lot of opportunities there. So where would we grow more than vehicle-by-vehicle? I would say that the segment in which we will grow will be in the SMEs and at the low end of the consumer side. There continues to be opportunities both on the transactional side on setting up platforms, as well as on the lending side. And that will continue to be the segments in which we will grow more in Peru, for obvious reasons, because the upper end of the consumer and in all this talks we're seeing corporates and middle market companies are fully banked. To complement that we have wealth management, we've continued to have nice opportunities, both in Peru, in Chile and in Colombia. And we have this initiative that we have for microfinance in Columbia, which we'll slowly try to see if we can capture the growth. But in summary, where will Credicorp grow? In the unbanked segments of the population, which are consumers and SMEs, particularly in Peru.
And how does insurance fit into that outlook Walter?
It fits quite nicely. We are developing every day and we get better at it at insurance product precisely for those segments of the population. We've been very successful with our oncological insurance. And we think that there are more [Technical Difficulty] the oncological insurance that we can take to those segments of the population. Of course, recognizing that at insurance, there's still a lot more room to grow, but it's much more difficult than in banking. The penetration of insurance in Peru continues to be very low even at some of the higher end levels of the consumer population, so insurance complements quite nicely there.
And this pension - is the outlook for pension growth with the changes, I mean with potential changes or reforms. Is that something you think could grow slower in the new context or faster than you've been seeing a growth?
I think that one of the potential - I mean, the potential outcome from the industry will change dramatically. So I would expect pensions to become a very, very small contributor to Credicorp going forward.
I really appreciate your views. Thank you all very much.
You're welcome.
Thank you. I would now like to turn the conference back to Mr. Walter Bailey, Chief Executive Officer for closing remarks.
Thank you. We are very pleased to have left 2020 behind. It undoubtedly was a very remarkable year with Peru having been impacted by the most severe recession in our modern history. We were always very confident with the strength of our balance sheet, which we felt was more than enough to take us through this severe downturn. This position of strength led us to try to the extent possible and with the assistance of our risk group, to fully acknowledge and recognize in our results, the expected credit losses in the most vulnerable portions of our portfolio.
This was the idea to leave the loss of mainframe behind and focus management's attention with the task of rebuilding our profitability, while accelerating our delivery of our products via digital channels. Due to a conservative nature or conservative nature, we took the precaution of issuing $500 million in five-year bonds at the holding company level cash, which is still sitting on our books. We believe that this low rate environment allowed us at a minimal negative carry to have a certain level of insurance, which has not been utilized.
Looking forward, there continues to be two elements of uncertainty. As it was mentioned the second wave of contagion, which is currently taking place. We believe that as a country, we have learned lessons from the first wave and that given that the vaccines are already arriving we expect the second wave to be less severe. But definitely we will know for certain in the next 30 to 60 days. The second element of uncertainty is related to the political situation and elections. The political scenarios continue to be a source of uncertainty, but we will try to navigate those waters as we have had in the past.
On the business front, this is the year as I mentioned, to rebuild our profitability. This resilience should happen throughout this year. And we should start to see the results quarter-after-quarter until reaching as I mentioned before the last quarter to results and returns still below, but close to sustainable levels. We have not modified our strategies. But undoubtedly, we have accelerated several initiatives, which probably will deteriorate somewhat our short-term efficiency risks. But we are confident that these decisions are the smart ones, the best for long-term results and competitiveness.
Before we finish this call, I would like to announce that we will be publishing our annual sustainability report prior to the end of the first quarter. During the first half of last year to further strengthen our long-term performance and competitiveness in the markets we operate in, we launched the project to develop a strategy aimed at integrating sustainability more deeply and consistently into our business strategies, as well as in our day-to-day activities. We worked for five months, with a dedicated commitment of more than 30 leaders across six of our largest operating companies to identify sustainability related risks and opportunities that could create strategic or financial value growth, while generating a positive impact in society for each of our businesses.
As a result, we redefined our vision, purpose and values, which are now better, aligned with our current role in society and businesses and established our 2020 and 2025 commitment to sustainability products. We introduced this plan to - we will introduce this plan to you in our upcoming 2020 sustainability report. We look forward to hearing your comments and further expanding on our program in the future. Thank you everyone for your attention on today's call. As always, the team is available to meet and talk with you more about our performance, operating environments and strategy. Thank you all very much.
Thank you, ladies and gentlemen. This concludes today's presentation. You may now disconnect.