Banco de Chile

SGO:CHILE

Earnings Call Transcript 2021-Q1

[Operator]

Good afternoon, and welcome to Banco de Chile's First Quarter 2021 Results Conference Call. If you need a copy of the press release issued yesterday, it's available on the company's website.

Today with us, we have Mr. Rodrigo Aravena, Chief Economist and Senior VP of Institutional Relations; Mr. Pablo Mejia, Head of Investor Relations; and Mr. Daniel Galarce, Head of Financial Control.

Before we begin, I'd like to remind you that this call is being recorded and that information discussed today may include forward-looking statements regarding the company's financial and operating performance. All projections are subject to risks and uncertainties, and actual results may differ materially. Please refer to the detailed notes in the company's press release regarding forward-looking statements.

I will now turn the call over to Mr. Rodrigo Aravena. Please go ahead.

[Rodrigo Aravena, executive]

Good afternoon, everyone. Thank you for joining this conference call today, where we will present an analysis of the financial earnings posted by our bank during the quarter. We have divided this presentation into 3 main sections. First, an analysis of the business environment and our macroeconomic forecast. Then, we will present our advances in strategic projects with a particular focus on digital transformation. In the final section, we will share our financial analysis of the results achieved during this quarter.

Let me start with an overview of the economy. Please move to Slide #3. Overall, there's been a strong recovery in Chile as the chart on the top left shows. After the strong drop in the economic growth observed in the last year, mainly in the second quarter, the activity has had a steady rise since the end of 2020. Specifically, on a sequential basis, the economy posted an annualized rate of 16% in the first quarter after increasing by 31% and 23% in the previous periods.

As a result of these trends, the country reached its pre-pandemic level in February 2021 as the chart on the top right clearly shows. Consequently, Chile has been the first Latin American country able to recover all the lost production as a consequence of the pandemic. The greater dynamism is highly attributable to the joint contribution of 3 main factors.

First, the positive impact of the strong fiscal and monetary policy responses implemented since last year. On the fiscal side, the government has announced different measures equivalent to nearly 15% of GDP, which is well above the average posted by most countries in the world. The reduction in the interest rate applied by the Central Bank as well as the quantitative easing policies has also driven the activity this year. Second, the global economy is also supporting a bigger growth for Chile, which is extremely relevant due to the high integration that Chile has into the global economy. The increase in copper prices, which have reached historical values, is driving total export and fiscal revenues. In the same vein, the growth in China is also positive for Chile. Finally, pension fund withdrawals have injected, although temporarily, more dynamism to the private consumption.

Despite this recovery, the labor market remains subdued. In March, the unemployment rate was 10.4%, in line with the December figures. Nevertheless, it remains well above the pre-pandemic rate, which was near 7%, as can be seen in the chart on the bottom left. This is attributable to the slight growth in total employment, which is 9% below the level of just 1 year ago, which has been a consequence of the light activity in social intensive sectors like services. Additionally, the labor force is also lower relative to the last year due to the mobility restrictions that have reduced the possibility of finding a job. All in all, total participation rate in Chile fell to 57% from 62% 1 year ago, confirming the weakening in this side of the economy. Probably, the recovery in the labor market will take a longer period of time.

In this environment, total inflation has remained stable, hovering around the target set by the Central Bank. In fact, as can be seen in the chart on the bottom right, the annual inflation rate was 2.9% in March, in line with the 3% posted at the end of the last year. The core index, which is a measure that excludes energy and food prices, has also remained stable, although slightly below the headline inflation. On a sequential basis, the CPI went up by 1.1% in the third quarter, while the core CPI increased by 0.9%. Broadly speaking, a stable inflation has resulted from 2 opposite forces, a positive contribution from non-tradable goods due to the pension fund withdrawal, which partially offsets the lower tradable inflation resulting from the stability of the Chilean peso against the dollar. Moving forward, we expect this positive trend to continue in the future. Please move to Slide #4 to analyze our reasons behind this scenario.

We continue having a positive view of the economy, especially compared with other countries in the region. Let me talk about the 3 main factors supporting this view. The most likely reason behind increasing optimism for Chile is impressive advance in the vaccination process. More than 35% of the population has received the 2 doses of the vaccine, almost half of the amount needed to reach the herd immunity. The process in Chile positively compares with other countries in the region as the left upper chart shows. This comparison is also positive relative to most countries in the world as seen again in terms of share of people vaccinated, only behind Israel and the United Kingdom. This successful process allow us to expect greater mobility soon, probably in the second half of the year.

Another factor is the capacity of Chilean companies to adapt their activities according to the new sanitary restriction. The bottom left chart shows a certain comparison released by the Central Bank in the last monetary policy report. Specifically, it compares the evolution of activity relative to the phase announced by the government in the plan called Paso a Paso or step-by-step in English, where each phase reflects the degree of sanitary restrictions where 5 means no restrictions, I mean, before the pandemic, for instance, while the Phase 1 means a total lockdown. You can see how the GDP has improved, reaching the pre-pandemic level despite having similar confinement to the last year.

Undoubtedly, this confirms a strong pickup in the overall productivity. Finally, it's also worth mentioning that a larger proportion of pension fund withdrawals have been maintained in current account, savings and investments. Actually, according to Central Bank estimates, only 15% of these resources have been spent on consumption as the graph on the right show, suggesting the existence of room for further growth in consumption this year. As a consequence of all these factors as well as the positive trend that I described in the previous slide, we will be expecting favorable macro condition.

Please move to Slide #5. We have raised our GDP forecast for this and the next year. These changes were in line with the adjustments made by the Central Bank in the latest monetary policy report as well as by the IMF in its April macroeconomic update. Specifically, we now expect the economy to grow by 6.2% in 2021 and an expansion of nearly 3.5% in the next year. As the breakdown of the table shows, we foresee the GDP will be fostered by credit expansion with a large investment.

In this environment, Chile will probably be the only country in Latin America with a positive average growth between 2020 and 2021. We expect the CPI to remain within the policy range in the future. Specifically, we forecast inflation will post 3.4% and 3% year-on-year rate at the end of this and the following year, respectively. Since the economy has a significant help here, there's still room for leaving the monetary rate unchanged until the next year. Before moving to the banking sector, I'd like to emphasize the risk, which is an important factor, especially this year.

Particularly, we're seeing risk expansion to pay attention to the trend of 2 of these risks. One, if we will lose jobs to the pandemic. Even though the significant advances in the vaccination process in the world, especially in Chile, several doubts relative to the efficacy of a vaccine remains, mainly in terms of the response against new variants. On the local side, there will be several key events this year, such as the election for members of the constituent assembly, the Chilean congressional elections and the discussions for a new constitution. An unexpected development in these factors could generate impact in the business environment.

Now I'd like to review the main trends of the banking industry. Please flip to Slide #6. As we've mentioned several times, the banking industry is a reflection of the economy. Therefore, the improvements in the business environment that I described in previous slides has translated into a gradual recovery, continued low levels of delinquency rate and higher profitability. Particularly, total loans went up by 1.3% quarter-on-quarter or 5.1% at an annualized rate, although it decreased by 0.4% year-on-year. This recovery was driven by the robust activity in mortgage loans that increased by 3% quarter-on-quarter, while commercial loans expanded by 0.8% quarter-on-quarter, led by the positive impact of FOGAPE loans. On the other hand, consumer loans remain subdued, decreasing by 1.1% quarter-on-quarter, which is attributable to several factors, including the still high unemployment rate and the 10% pension fund withdrawal.

Asset quality continues posting healthy figures. NPLs, for instance, remain flat, maintaining the good levels of the previous quarter, while the loan loss provision decreased by 52%, equivalent to a cost of risk of only 0.7%. Although this level are extraordinarily low and to some extent decoupled from the economic outlook, especially considering the weak activity and the sluggish employment, we're aware of some temporary factors affecting these figures such as the monetary transfers made by the government and the pension fund withdrawals, which have enabled customers to settle overdue loans while retaining good payment behavior.

Consequently, we can't rule out the gradual normalization of these indicators in the following quarters to average midterm level. The stronger dynamism, lower provisions and the positive impact from the higher inflation during the quarter led to a peak on profitability in the period. In fact, the average ROE of the industry improved to 16.6% in the first quarter, above the low levels posted in the 3 previous quarters.

Despite this good quarterly result, we face a very challenging environment marked by still ongoing recovery, new sources of uncertainty and increasing competition from banking and nonbanking players as well as a wide array of regulation, going from capital management to how to manage the banking business, among other factors. Given this scenario, Banco de Chile has been implementing several strategic projects to address these challenges. We will refer to these topics in the rest of this presentation.

Please move to Slide #8 to share our main advances in strategic projects. A huge differentiating factor of Banco de Chile has been our consistent and long-term strategy, which has allowed us to post a strong profitability to our shareholders. Since we aspire to continue being the leader bank in Chile, we have reinforced 3 key areas in our strategy: digital transformation, efficiency and productivity and sustainability.

Pablo Mejia, our Head of Investor Relations, will now share with you our many recent accomplishment in this field.

[Pablo Ricci, executive]

Thanks, Rodrigo.

Please go to Slide #9. We will highlight some of our initiatives and advances in digital banking. The last 12 months have been challenging in many aspects for the banking business. Thankfully, through the use and fast adoption of technology, the hardship of COVID-19 has been more bearable than would have been in the past. At Banco de Chile, we were in the process of widening and improving our digital value offering by enhancing our operations with a front-to-back perspective. This has permitted us to continue growing during the pandemic by being the first to market for many services that our customers needed to better face the pandemic.

During the last year, we have further enhanced our digital solutions through a team of over 440 employees that are completely dedicated to finding innovative solutions to heighten the customer journey, outperforming the experience that customers receive from our competitors. Based on these advances, this quarter, as you can see on the left, we were the first bank to offer our business customers the new FOGAPE reactivate program with a solution that is mostly offered and executed online. This program is a continuation of the government's loan guarantee initiative that was launched last year, but with a new focus on reactivating commercial and investment activities of companies.

We are proud that we are the leader in the industry in the FOGAPE loan volumes with more than 75% of originations being done through our online channels. It is also important to mention that we successfully launched this quarter our new mobile banking app for businesses that provide important features such as quickly making online transfers using our digital token, examine account movements and balances, among others. We also made other improvements for companies such as tracking international SWIFT payments and new functionalities for multi-company accounts so that they can reduce subsidiary balances and movements all within the parent account. We also enhanced our self-service machines in branches with more functions for personal banking that give customers a better overall experience for their everyday banking transaction. We launched a new feature with smartwatches and phones where customers can pay a POS terminal without needing to use their debit or credit card. And we have rolled out an important enhancement to our mobile banking app that will permit QR payments in over 6,000 establishments in Chile.

With these enhancements, our customers will no longer need to use their physical credit card to make purchases. And for the new digital account Cuenta FAN, we have steadily grown strongly. Today, we have more than 300,000 new accounts with an important usage level and account balance that already makes this product profitable.

Based on internal studies, our accounts have substantially higher balances than our peers and greater usage level. We are also currently working on creating new customer journeys across all these customers with other Banco de Chile products and services. We firmly believe that cross-selling these customers is the only approach to make this product highly profitable. We expect to have more news regarding this development later on in the year. Before moving on to the next slide, I'd like to say that we're exceptionally pleased with all the advances we have made for our business and personal banking customers. We confidently expect that these changes will reinforce our strong relationships with clients and promote our customers to continue choosing our bank to be their primary account.

Please turn to Slide 10. Our customer-centric strategy is the key pillar of our success. During this challenging period, as mentioned in the prior slide, we have further innovated and improved our customer experience. These enhancements can clearly be seen in diverse indicators that are shown on this slide. For instance, we continue to lead the industry in top of mind with a wide gap to our closest competitors. Also, when banking customers were asked if they were to switch to another bank, which bank would they choose, we remain as the top pick with a large difference to all of our peers, as you can see on the chart to the right.

And more importantly, we ranked once again as the bank with the highest Net Promoter Score and for the first time outpaced the leading bank in having the best loyalty program. All of these indicators support customer growth and it's extremely important in the context where customer loyalty is harder to gain and easier to lose, especially with new regulations that make it simpler to switch from one bank to another.

Please turn to Slide 11. We have been persisting in our advancements and optimizing our resources during the quarter to improve our operational productivity. We have continued to automate processes by leveraging technologies and we further have simplified diverse procedures. By digitalizing both the front and back office, we are able to be a highly competitive bank in this challenging industry that is being disrupted by new fintechs. We are also completing the implementation of a new service model that involves merging the former CrediChile network into Banco de Chile offices as well as introducing more automation in branches and adjusting processes made by tellers and account managers.

It is worth mentioning that we have conducted this process without affecting the customer experience, which I've showed in the previous slide. This allowed us to further optimize our distribution network by reducing branches to 312 or 9% year-on-year. Another 2 measures that have contributed to reducing cost is the implementation of a specialized area that evaluates all purchases in the bank and the creation late last year of the productivity and efficiency division, which is accelerating and deepening the savings initiatives across the entire organization. These changes have resulted in an important improvement in efficiency and productivity, as shown on the bottom of the slide. You can see total expenses to assets, loans per branches and demand deposits per employee have all had important improvement. We expect that these enhancements on how we run the bank should lead to an efficiency ratio closer to 42% in the medium term.

As we mentioned in the previous call, we are deeply focused in supporting our customers and society and employees, especially during this pandemic. In the first quarter, we continued providing financial solutions to our business customers, which has had to adjust their strategy to operate and grow in this difficult environment. In a sense, we're proud to be the leader in the new FOGAPE program called FOGAPE Reactiva or reactivate in English, granting almost $1 billion in loans. This was beginning in February. This program is not only focused in assisting businesses that struggled during the pandemic, but also the companies that need funding to grow. Additionally, we have 2,000 preapproved loans for the tourism sector, one of the sectors most affected by the pandemic. And we have offered free virtual showcases to give SMEs more visibility to sell their products.

We also focused our efforts in supporting the community and employees, as you can see on the left to the right. We have been providing activities to promote inclusion, financial education through our corporate volunteer program. Over 330,000 people have been benefited this year. With regards to employees, we're proud of their commitment to provide an attractive place to work, train and are focused to raise the quality of life of our team during our history and this pandemic. All of these actions, along with our permanent commitment to be a sustainable business built on solid corporate reputation that has been recognized and perceived as independent with local and global surveys and their institutions, can be seen on this slide.

Please turn to Slide 14 to begin our discussion on our financial results. Despite the challenging environment that the pandemic has produced, the first quarter of 2021 has been positive for our bottom line, thanks to our firm focus on generating revenues based on a customer-centric strategy, together with an attractive level of inflation, a prudent approach to credit and market risk as well as strong cost control discipline.

As you can see on the chart on the left, we recorded CLP 162 billion in net income with an ROE of 18.2%. Apart from having a high-quality revenue generation, primarily concentrated in recurring customer income, we also continue to have the best relationship between profitability and capitalization as you can see on the chart to the right. The strong capital position, undoubtedly the best among our peers, is particularly relevant in light of the new regulations related to Basel III, which has started its implementation phase.

Please turn to Slide 15. In periods such as the current one, many elements that are part of the value creation of companies may be impacted by movements in different financial market factors, which is why we believe it's necessary to take a more complete view of the performance of financial institutions. For this reason, it's important to reinforce that the traditional analysis of net income must be supplemented with the results recorded in comprehensive income, which includes unrealized gains and losses from the fair value of available-for-sale portfolio and derivatives for accounting hedges that are accounted directly against equity.

As you can see, our superior performance is clear. In fact, the comprehensive income rose by 1% while many of our peers have decreased substantially. We believe by taking this approach into consideration is a critical factor when considering total profitability for shareholders, particularly amid highly volatile and uncertain periods when an increase in market risk appetite may produce an adverse impact on shareholders' equity, which could be potentially higher than the earnings you can book temporarily accrued in net interest income.

As mentioned in many conference calls in the past, our focus at Banco de Chile is based on commercial banking services that support our customers' financial needs. This motivation generates long-term relationships that translate into stable, predictable and recurring revenues from both the accounting and economic point of view, while being consistent when prudently managing our financial position. Therefore, we are focused on the bottom line growth governed by manageable market factors and risks. Consequently, all these factors confirm that Banco de Chile has the strongest and most stable revenue generation for our shareholders.

Please turn to Slide 16. Operating revenues showed a slight recovery from prior periods with a sequential growth rate of 1% over the fourth quarter 2020. This was driven by customer income, principally solid fee income, thanks to the better activity that boosted transactional revenues from the stock brokerage, mutual fund and retail segments. In addition, noncustomer income remained flat quarter-on-quarter as a consequence of the impact of lower increase in interest rates and the management of investment and trading portfolios and higher net charges of the CVA from derivatives, coupled with lower gains from inflation income during the period that went from 1.3% during the fourth quarter of 2020 to 1.1% in the first quarter of 2021.

Additionally, I should highlight that we always promote responsible growth in every business segment. This strict focus has assisted in achieving a successful track record, as you can see on the chart to the right. We posted once again the highest fee margin and operating margin, net of risk, in the industry. By growing selectively in positive economic times and taking the proper precautions during negative cycles, we have been able to generate a sustainable and dependable return for our shareholders.

The evolution of our business result is completely in line with the fundamentals of the economic cycle and the evolution of our NIM makes sense in that any large changes in NIM can be attributable to changes in inflation or higher exposure to market risk. Before moving to the next slide, I want to highlight that we are optimistic that the gradual reopening of the Chilean economy and our swift vaccination process should permit stronger revenue growth particularly in terms of customer income given the expected rebound in the demand for loans, steadily growing fee income and slightly higher contribution of our demand deposits as long as interest rates continue to increase.

On the following slide, we will discuss how our portfolio has changed during the quarter and the evolution of our asset quality. Please turn to Slide 17. Total loans reached almost CLP 32 trillion this quarter, increasing by 2.7% when compared to the prior quarter, equal to a 10.8% increase on an annualized basis. As you can see the chart on the right, we saw a recovery of growth across the board. In terms of commercial loans, we grew actively in the new government guarantee program that is directed to SMEs as well as the middle market companies. This program primarily focuses on providing financing for capital investments as well as working capital.

As opposed to the program that was launched in 2020, this program is more attractive for us as the maximum annual interest rate we can charge is 7.7% versus the 3.5%, and customers have a tenure of up to 7 years, leaving room to grow even more in the segment with proper levels of risk. You can see on the chart on the bottom left, we increased our wholesale portfolio by 2.7% quarter-on-quarter, and the SME portfolio grew an impressive 4.7% during the same period. This acceleration is attributable to the FOGAPE program, which we are proud to say that we have already placed almost $1 billion in loans, and we have the highest market share of 27%.

In terms of personal banking loans, these increased 2% quarter-on-quarter. Mortgage loans grew strongly, which continues to reflect the decoupling from the economic outlook while benefiting from the still low interest rates. Although it was partially offset by sluggish demand in consumer loans, which has been affected by stricter requirements in an environment of high unemployment and higher temporary liquidity associated with the withdrawal of pension fund. Nevertheless, point out that I think that the worst of the performance of these loans is behind us, and we should probably see a gradual growth in consumer loans in the second and third quarter of this year to the extent that the economy retains the pace of growth.

Please turn to Slide 18. By providing a high-quality customer experience through innovative products and services, we have generated robust relationships with our customers. As a result, DDAs represent 35% of our funding structure, which is substantially higher than all of our peers. And as you can see on the chart on the right, we continue to have the most important market share in local currency demand deposits.

Over the past 12 months, our solid brand and soundness have also provided us with a strong increase in demand deposits, which rose 32% year-on-year. As you can see on the chart on the bottom right, we continue to be the preferred bank for our personal banking customers with a substantial gap to our peers in local balances and personal banking accounts. I want to emphasize that it's easy to issue many current accounts. The hard part is to actually get customers to use them, which is our leadership and the evolution of this indicator more than speaks by itself.

As we mentioned in prior calls, the rise in current account deposits have significantly changed our funding structure. Today, we are much less dependent on institutional funding, as you can see on the chart on the top left. Demand deposits are our most important source of funding. It's also important to mention that over the past year, we have made an effort to diversify our funding sources from shorter-term time deposits to longer-term bonds, which are more stable while matching our long-term assets, particularly residential mortgage loans. This strategy reduces our interest rate risk, particularly in times of rising rates, that's expected once the economy begins to retake that risk. Today, long-term bonds represent 20% of our funding and about 20% has been placed abroad. Also in terms of capital, we have the highest Tier 1 capital base of 12.3%. This together with our excellent credit risk weighting are going to assist us in continuing to diversify our funding mix.

Before moving on to the next slide, I'd like to mention that we are well prepared to face Basel III, which is in line with our historical guidance. In this regard, we can mention that our risk-weighted assets under Basel III based on methodologies provided by the CMF are slightly lower than our risk-weighted assets under Basel I, but including credit, market and operational risk. Thus, our asset density remains mainly unchanged when adopting Basel III guidelines, which is only a slight adjustment to common equity Tier 1 capital, as shown on the chart on the bottom of this slide.

This is undoubtedly good news for us. More importantly, we believe that we can further strengthen our capital adequacy as long as we develop and apply for the use of internal models for credit risk-weighted assets as permitted by the regulation today. Although some of the regulatory thresholds are not yet in effect, we are confident that our capital base and the optimization of our risk-weighted assets should enable us to successfully overcome this new framework.

In the last month, we have noticed that we are 1 of the 6 systemically important banks in Chile in our view. And given the methodology defined by the regulator, we could be subject to a systemic buffer ranging from 1.2% to 1.5% since December 2021, which is also in line with our prior expectations. As for Pillar 2 and countercyclical buffers, these are obviously the big question mark. However, in order to address the former, we have anticipated the adoption of Basel III notwithstanding the waiver provided by the regulator for the first year. All in all, we feel comfortable with our current capital levels while confident that we will be well prepared for the transition with no special actions that will be taken ahead. Our excellent profitability has been sustained through our sound risk and risk policies are focused on responsible and sustainable growth.

Please turn to Slide 19. As you can see on the chart on the left, cost of risk this quarter reached CLP 54 billion, down from CLP 126 billion in the same period of last year and CLP 85 billion posted during the previous quarter. As shown on the chart on the bottom left, this was completely in line with the evolution of our NPLs, which continues to decline and reached only 0.96% this quarter, well below the average run rate prior to the pandemic and in return resulted in a lower cost of risk. It's important to note that we established CLP 40 billion of additional provisions to mitigate the transitory impact and for the better behavior of overdue loans on provisioning models when taking into account the still weak economic environment.

It's also noteworthy that we began the year with an important level of uncertainty in terms of economic effects of the second wave of the pandemic that resulted in new lockdowns across the entire country. Nevertheless, the successful vaccination process deployed by the government as well as the improved economic expectations for the year as a consequence of the impressive rise in the number of individuals that have been vaccinated, together with the high copper prices, permits us to be more optimistic regarding the outlook. For this reason, we can't rule out the release of additional allowances in the coming quarters if the evolution of the economy is positive and there is a reduction of uncertainty. It's very relevant that we are pleased to see a sustained positive payment behavior from all of our customer segments, and this has assisted in maintaining our NPLs low. In particular, we are glad to say that the payment behavior of our SME customers as well as the retail banking portfolio that was refinanced has evolved positively during the pandemic and has also contributed to this low NPL ratio.

Finally, through our prudent risk policies that have been established, CLP 360 billion in additional provisions with a coverage ratio of 3.5x has clearly positioned Banco de Chile as the most prepared bank to face the challenging cycle. We're confident that this should assist us to take advantage more than our peers in economic improvements as we end this negative cycle.

Please turn to Slide 20. Total expenses this quarter rose by 2% year-on-year and dropped 3.1% quarter-on-quarter, as you can see on the chart on the top left. The main reason for the quarterly sequential reduction in operating expenses was the result of lower personnel expenses related to lower severance indemnities from organizational restructuring that took place at the beginning of 2021 as well as lower variable compensation.

As for administrative expenses, the higher sequential figure is due to a onetime release of the administration provisions that occurred in fourth quarter of 2020. Excluding this provision for CLP 11 billion in the fourth quarter of 2020, administrative expenses grew slightly mainly due to higher IT and marketing expenses as a result of our digital initiatives and greater business activities this quarter.

Thanks to our strict cost control efforts. We improved our efficiency ratio to 46.5% this quarter from 48.4% in the fourth quarter, outperforming the average level recorded by the industry. It's also very relevant to highlight how we compare to our peers in terms of cost control. As shown on the chart to the bottom right, since 2019, we have been able to significantly improve our total expenses when compared with the performance of our main peers. As mentioned, we expect that all of the controls and enhancements we have made will lead to an important improvement in our efficiency ratio and reach a level close to 42% in the medium term.

Please turn to Slide 21. Before taking questions, I want to go over some key takeaways from this call. First and most importantly, I want to emphasize that we're extremely proud that we have once again managed the cycle well and despite all the challenges we faced, we have delivered a great bottom line for our shareholders. While it's difficult to predict how this pandemic will end, we believe that we are beginning to see the light at the end of the COVID tunnel.

The local vaccination program has gone exceptionally well, and we have already had more than 35% of the population with 2 doses. As mentioned, we should have around 80% of the population vaccinated midyear, allowing herd immunity. This should permit the economy to gradually normalize, allowing a further recovery in the employment and GDP. This positive scenario could lead to better loan growth and to better GDP growth of 6.2% for 2021. Consequently, greater loan demand from all of our customer segments. Our expectations for loan growth in the industry is around 8%, and we anticipate that we should pick up market share in our base case scenario.

We have also begun to see a normalization of transactional products and continue to see good payment behavior from customers. Finally, I want to emphasize that Banco de Chile has had a prudent conservative risk policy over time. As a difference to most banks in Chile, mainly our main competitor, we recalibrated our internal risk models last year anticipating the new normal due to the pandemic. That's why we're not anticipating a further adjustment in cost of risk in the short term as these adjustments were seen last year and explained in previous conference calls. It's even more important to highlight that we took this decision in 2020 despite having, by far, the highest coverage ratio in the Chilean banking industry.

We expect in terms of risk expenses of around 1.1% for us in the medium term. We feel the evolution of the economy evolves positively and normalize asset quality in the industry. We can't rule out the release of a portion of our additional allowances in the near future. Saying that, we're optimistic that this, combined with a strong competitive advantage, should allow us to continue being the best long-term investment for our shareholders.

Thanks for listening. And if you have any questions, we'd be happy to answer them.

[Operator]

[Operator Instructions] So our first question comes from Jason Mollin at Scotiabank.

[Jason Mollin, analyst]

I have a question on just the base case outlook that you guys are looking for with GDP growth of 6.2% this year and more recovery, 3.5% real GDP growth in 2022. And you mentioned some risks to that outlook on the pandemic evolution was one with new variants, and two, elections and the new constitution, et cetera. Can you talk about the upside and downside scenarios, like if these things don't work out, what do you see as a downside scenario and what that means for the operational outlook for the bank? And potentially what could be also some upside risk to this outlook? What could we see? What should we expect? What could we expect?

[Rodrigo Aravena, executive]

Jason, thank you very much for the question. This is Rodrigo Aravena here. Yes, as we mentioned today, we are a bit more positive relative to how we were in the beginning of this year. Perhaps it's important to remember that by January of this year, we were expecting an economic growth of around 5% for this year. So now we are expecting 6.2%, as I mentioned in the beginning of this call. However, we are aware of an upward bias in that estimate. So what I'm trying to say is that, we can't rule out the possibility that the economic growth this year will be even better relative to what we are expecting right now.

So what has happened actually in Chile during this year, I would say that in January of this year, sorry, February when there was the previous conference call, basically 2 very good news for Chile. The first one is the copper price, which has a positive impact in the activity as well as the very positive process of the vaccine. However, in terms of the outlook, as I mentioned before, we are aware of risk. One, of course, which is a global risk for all the countries in the world is related with containing that. We have to say that we are more optimistic for Chile relative to other Latin American countries because of our successful vaccination process. Of course, we are aware of the risk from the political side as well this year, in the beginning of this year. Can you hear me well, Jason, just to confirm?

[Jason Mollin, analyst]

Yes. I can hear you.

[Rodrigo Aravena, executive]

Okay. Thanks. So there will be some politics, of course. It will have to be followed carefully this year because there will be several elections where we'll be discussing about a new constitution. So I would say that despite the risk, today, we are more optimistic about Chile. Of course, we will have much more information by midyear after observing the composition of the body that will prepare the draft for the new constitution. We will have more information by midyear in terms of the efficiency of the vaccination process because we are today in the middle of the second wave of the COVID-19. We feel as though we have to analyze how successful we were or not the vaccination process in Chile. But having said that, we are confident that Chile will be able to be served of the main policy framework. Chile will be able to maintain, I would say, the main fundamentals. So that's why we are confident that the economy will continue growing 3% in terms of potential growth without important changes.

[Pablo Ricci, executive]

Obviously, there's upside and downside risks in all of these scenarios that could occur. But our base case scenario is, as we mentioned in the call, that Chile should grow around 8% GDP, sorry, 6.2% GDP. And this year, that should lead to around an 8% level of loan growth for Chile. And now if we look more in the medium, long-term impacts, we really have to see what's the permanent impact of the pandemic on the economy and how that could affect the payment behavior of customers. But as we mentioned, our guidance of around 1.1% for cost of risk and returning to levels closer to our pre-pandemic ROE depending on the evolution of the economy and the permanent impact is our base scenario.

[Rodrigo Aravena, executive]

And basically, our main message in this call today is that, one of the main message actually is that we've been getting more optimistic about Chile, about the future, about the system, about our bank scores relative to what we were in the beginning of this year and even more optimistic relative to other countries of the world.

[Pablo Ricci, executive]

And I guess we're also conservative in terms of our market risk. So we've taken the necessary steps to maintain a prudent and focus on those risks as well.

[Jason Mollin, analyst]

So just as a follow-up to that, does that mean that, I mean, in case things, it sounds like the optimism is very positive or at least being more constructive. But you're taking measures in case things go to a more negative scenario. Are you worried about that market risk? Are you closing the gaps or the risks that you're taking?

[Pablo Ricci, executive]

In terms of the market risk, we've been very prudent in terms of managing our market risk exposure, not opening unnecessarily gaps on our balance sheet in order to increase significantly our net interest margin. We've been very prudent in terms of market risk. So with the volatility in interest rates, with interest rates that could be rising, we think this is a concern, and that's why we haven't been active in that way of managing the funding and gapping of the bank in terms of tenures and...

[Rodrigo Aravena, executive]

And one other important thing to consider here is that, as we mentioned, we have no idea about what will happen in the future. So that's why we will be increasing our additional provisions. We have a very positive coverage ratio. So what I'm trying to say is that, we are very well prepared for negative scenarios as well. Even though we are more optimistic than we were in the past, we are expecting a gradual recovery still in absolute terms and also in relative terms. But it's important to keep in mind an important difference of Banco de Chile relative to most banks here in terms of our coverage ratio, in terms of our additional provisions since basically, we are better prepared to face negative scenarios, which is not our baseline scenario by the way.

[Operator]

The next question we have is from Yuri Fernandes at JPMorgan.

[Yuri Fernandes, analyst]

Congratulation on the results. I had a first question regarding Basel III. I understood Pablo explaining during the presentation. And you have the pro forma from the last quarter, right? But my question is, could we see any kind of upside here because the way it is today, your RWA divided by total assets, it kind of implies no bigger improvements, right? And I guess, maybe years ago, one of the discussions from Basel III was that maybe the risky banks in Chile could decrease, right, despite now putting operational risk. So my question is, is those numbers final? Like is that right? So basically, we could see maybe a small improvement, but nothing more than that. So that's the first question.

And I have my second question regarding margins. I guess you already provided like a soft guidance on loan growth, cost of risk, ROE, but the margin outlook is not totally clear for me. So what should we expect for margins here? Should like this be the bottom for NIM and then we should start to see NIM kind of improving or no, like because the outlook for inflation, we don't know. Like what's going to happen with GDP? We don't know. I don't know, FOGAPE Reactiva, like what is the outlook for this versus the first Q. Like should we see improvement here, flattish, more pressure, just some color.

[Daniel Ignacio Galarce Toro, executive]

This is Daniel Galarce speaking. As for Basel III, so basically the risk-weighted asset density remains mainly stable and flat with respect to Basel I. So basically, all the savings we are having in terms of risk-weighted assets for credit risk are more or less compensated and offset by the additional charges related to market risk and also operational risk. As Pablo said, the Chilean regulator provided basically standardized methodologies in order to compute market risk, credit risk and also operational risks. And also, we have the possibility to apply for the use of an internal model or, well, internal models for credit risk and probably also for market risk in the future, but that is not clear yet.

So basically, what we can say is that our total capital base is probably the strongest in the industry. And actually, as Pablo said, we also anticipated that we are transitioning to Basel III by submitting a complete report, a capital report to the Chilean regulator at the end of April. And actually, our capital base was also challenged by stress test as well. And our capital plan for the next 3 years is basically demonstrate our capabilities in terms of our capital adequacy. So we are pretty confident that our capital base is enough in order to afford and in order to face all of the risk we are facing today, the traditional risk and also nonfinancial risk, and of course, our balance sheet growth as well over the next 3 years, not only in a baseline scenario, but also under stress test. So we are pretty confident of that.

[Yuri Fernandes, analyst]

So I guess maybe you could see an upside here. I don't know like when you are able, if you are able to have like your own risk models, maybe we could see additional capital being generated and you have an additional buffer for dividend payments, right? One of them is the additional provisions you could reverse at some point and a second one would be like if you are able to improve a little bit the capital because of like lower and a more specific model, that could be another avenue for dividends, right, at some point. Does it make sense?

[Daniel Ignacio Galarce Toro, executive]

Yes. Well, basically, under internal models, of course, we should have more savings in terms of credit risk. And hopefully, in terms of market risk in the future as well because basically the standardized model is pretty expensive in terms of risk-weighted assets. And in addition, of course, in the capital base, we also have our additional allowances that is part of Tier 2 capital. And also as permitted by the regulator and by the ruling, we are also compensated or computing additional Tier 1 capital with Tier 2 capital, basically, with sovereign-issued bonds and also additional allowances. So we believe that, well, additional allowance is a part of our total capital base, and we can't rule out that additional allowance could change in the future, but so far, are part of our total regulatory capital.

[Pablo Ricci, executive]

It's Pablo Mejia speaking again. So in terms of evolution of net interest margin. So I think it's, one of the things that's important to mention is when we start comparing 2020 with 2021, the base of the portfolio is quite different. So we started 2020 with a portfolio on average that was more focused on higher-margin products, right? So we have a larger product in the industry, larger portfolio of consumer loans, a portfolio of SME loans that have higher margins. And as the year went on, consumer loans decreased, obviously, for us and the industry.

If we look at SME loans, those also decreased if we exclude the FOGAPE loans. And the FOGAPE loans were lower interest rate. And despite that interest rate for the overall commercial loan book, it's positive. For the SME book, it's a very low interest rate. So on average, we started the year with a higher level, in 2020 a higher level of net interest margin because of mix. And we ended 2020 with a mix that was a weaker mix focused on more lower-margin products.

And 2021 is a transitional year where we're recovering that lost mix. So what we've seen so far is a reactivation or higher dynamism. And in commercial loans, especially with the FOGAPE program, where we're leaders, and we've been growing significantly, which have more interest rate, also higher inflation versus last year. And what we've seen is consumer loans are recovering, but we still haven't seen growth yet. So what we expect is in the next quarter, we should start to see higher demand for loan growth in consumer loans for the year.

So saying that, what we should expect is slightly higher inflation and improving for the transitional year of mix. And that could translate depending on your expectations for inflation. Our inflation levels are, we have a gap of around CLP 6 trillion. So every 100 basis point change in inflation is about 20 basis point change in net interest margin. So depending on that, you could expect there's different estimates. Our estimate is 3.4% for inflation, slightly higher than last year, but some have much higher expectations. So either flat to slightly lower net interest margin for 2021, depending on your expectations for inflation.

[Operator]

Our next question comes from Alonso Garcia from Credit Suisse.

[Ricardo Garcia, analyst]

My first question is, if you could provide some update regarding the intended regulation on interchange fees by the government? And if there is anything currently in the regulatory pipeline that we should be bearing in mind? And my second question is just a follow-up on cost of risk. I mean, you shared a long-term level of 1.1%, which makes sense considering your pre-COVID level. But talking about 2021, what would be your estimate for this considering the 0.7% in the first quarter? And also in terms of cost of risk, I'm not sure I understood correctly in your remarks if you were considering reversing additional provisions in the coming quarters considering the positive performance of your asset quality or if you were considering to create additional provisions considering the political uncertainty in Chile.

[Rodrigo Aravena, executive]

Could you repeat the first question? I didn't quite hear it.

[Ricardo Garcia, analyst]

Yes. My first question was regarding the interchange fee regulation that the government is trying to pursue. And if there is anything else in the regulatory pipeline that we should be considering?

[Rodrigo Aravena, executive]

The interchange, I couldn't quite catch the...

[Ricardo Garcia, analyst]

Yes. The interchange is correct.

[Rodrigo Aravena, executive]

Okay. Perfect. Sorry for not understanding the question. Yes. As we mentioned, there is some discussion in the Congress in terms of applying some regulation to the interchange rate that applies to transactions to credit and debit cards. So basically, there's a discussion relative to set a specific rate card to those transaction. After the deal with Congress, there will be a committee composed by different banks, including Central Bank, finance minister, et cetera, that will finally set the price. Seems important changes in this rate can affect the profitability of the business. We have to say that we are paying attention to the final outcome of the discussion in order to evaluate potential adjustments in the strategy.

Nevertheless, we would like to emphasize that we are well prepared to face potential changes in order to adjust our strategy since we are always evaluating different strategy, et cetera. But having said that, we would like to reinforce the idea that we want to continue being a relevant player in this industry, in this market as well in order to provide the best customer service in Chile. But unfortunately, since we don't have more details relative to the specific changes in that rate, we don't have a potential impact of that measure. And therefore, it's too early to anticipate any change in our strategy.

[Pablo Ricci, executive]

In terms of cost of risk. So for cost, our expectations for cost of risk this year is that it could be based on the government assistance programs that have been implemented in Chile this year. There are some indications that, that could also help improve the customer payment behavior. But what we're expecting is that not all the same benefits that were received last year will continue throughout the rest of 2021.

For example, there's many different examples from last year. So basically, what I'm saying is, despite this, in the short term, there could be, as you mentioned, very good cost of risk to NPL. We expect that it's more likely that there should be some level of normalization from here to the end of the year, and that should lead to a level of 1.1%, 1.2% cost of risk is what we're expecting in the base scenario. That would be based on the information that we have today with expectations of our economic base scenario.

And in terms of what we've mentioned about the additional provisions. So for additional provisions, we feel that we've been very proactive in managing the bank, taking the necessary steps in managing risk, our risk exposure in the bank. We did the changes, as mentioned in our provisioning models last year, and we increased significantly our total coverage ratio. So like I mentioned, if we continue to see positive signs in the future and we see a solid improvement in GDP forecast, which actually become true and better confidence levels, the trend in the future, we can't rule out that a portion of the additional provisions that we've established could be released.

[Ricardo Garcia, analyst]

And I guess those potential additional provisions are not included in the 1.1% to 1.2%. Is that correct?

[Pablo Ricci, executive]

We don't have an exact date when we could release those provisions, but we have to see how the evolution of the economy evolves.

[Rodrigo Aravena, executive]

It's very important to keep in mind that Chile is in the middle of a vaccination process. There are some uncertainties relative to the efficiency of that process. We have to see what happens on the political side as well. We are saying that in terms of the additional provisions because we're expecting a gradual recovery of the economy. But of course, we have to pay special attention to the evolution of the economy in the future if it actually will improve or not. Our baseline scenario is that the economy will be slightly recovering towards the future. And we're optimistic for the future.

[Operator]

We also have a question from Claudia Benavente from Santander.

[Claudia Benavente, analyst]

I just have one question. I was wondering how do you see the excess liquidity in the market, like with the third withdrawal currently running on with maybe a likelihood to see further withdrawals. There is a lot of money in the economy as you all mentioned in the presentation in people's current account, which has been hurting as well the development of consumer loan growth. So is there a likelihood that you see harder to achieve the 8% loan growth, over 8% loan growth guidance? Any color there would be appreciated.

[Pablo Ricci, executive]

Thanks, Claudia. There's a lot of liquidity in the industry from households and from businesses. And there's a lot of, there's still not a clear outlook. It's looking more positive, like the end of the COVID crisis is closer, it seems. And that's providing a little bit of, we're close to that event. What our customers have been saying is that they're waiting to see, especially the corporate customers, commercial customers, how the next months evolve before taking on important steps. They have a lot of liquidity from the programs in the past. That would be from the commercial side. So probably, we could expect that as the COVID crisis continues to end in Chile, as the vaccination process ends, as we see less stress in the economy and the economy is then gradually opened, we expect that we should see stronger loan growth based on those reasons for commercial loans.

In terms of consumer loans, obviously, there's also a lot of liquidity as you mentioned. And in the short term, probably there'll be a little bit more challenging to grow like we've seen in the past quarter because of this excess liquidity. As we move forward, we think that we should begin to see a higher demand for loan growth for consumer loans as long as there's no additional, if there's no additional excess liquidity in the industry.

[Claudia Benavente, analyst]

Right. So basically the loan growth will be driven by commercial loans, right?

[Pablo Ricci, executive]

By commercial loans, consumer loans and mortgage loans. I think we're seeing that all the figures should be similar to around 8% more or less. There's some degree of risk in terms of consumer loans, if that doesn't pick up because of the excess liquidity, but we expect that commercial loans will probably be more active in the remainder of the year, especially with the FOGAPE program and especially with a more clear understanding on how this economy evolves and businesses will be more willing to take on investments. Today, there's a lot of uncertainties and customers prefer to have more liquidity than invest. And this is for all companies, SMEs and larger, don't invest with these uncertainties. Is there another lockdown or is there no more lockdowns? Is the vaccination process positive, will it work well? Once these questions are answered, we think that the commercial loans will also reactivate. Consumer loans, it depends.

[Rodrigo Aravena, executive]

So basically, the key question that we have for the future Claudia as you know, is this relative to the unemployment rate? So at the end of the day, will Chile be in a very weak and more weak recovery of the labor market? So since we are expecting a lower unemployment rate in the second half of the year, so it would be consistent with greater expansion of the consumer loans. It's important as well to consider that there are a lot of liquidity, as you said, which have different impact in the economy. On one hand, we can argue that more liquidity reduce the demand for loans. But on the other hand, we have that, more liquidity means a higher economic growth. So we are more optimistic for the second half of the year. We also have to keep in mind the impact of inflation in terms of the impact in mortgage loans as well. But let's see what happens in the next 3 months.

[Operator]

We also have a question from Sebastián Gallego from CrediCorp.

[Sebastian Gallego, analyst]

I have only one question today regarding fees. Can you talk about the outlook for fees and how the bank will manage lower income from the alliance with Chubb and the other business lines across the fee line. It will be helpful if you could provide some color and guidance there.

[Pablo Ricci, executive]

So fees have been, as the economy has reopened and we've been more active, we've been seeing a good level of transactional revenues from fees as you can see and all fees across the board mostly, as you can see in the first quarter. If we look at the fourth quarter versus the first quarter of 2021, we have an increase of around 8%. It's down from last year, but it's down from last year because there is lower recognition of the, mainly the upfront payment to the joint venture with an insurance company. So that is the main driver for lower growth in fees year-on-year.

But if we look at, for example, the quarter-on-quarter figures, we see stronger transactional fees. From retail, we see card fees increasing, merchant fees increasing. We've also seen better fee growth from our mutual fund business. We've actually increased, if we look at year-on-year, our assets under management around 14%. Brokerage is also more active. We think that these will be an area that will have more stronger fee generation, especially as the economy opens and we see the end of this crisis, closer to the end of this crisis.

If we look at figures prior to the pandemic, we also see a rise. If we look at the first quarter of 2019 versus this quarter, we see a rise. Also, if we look at different figures like our run rate. Looking forward, we think that for this year, we should have a rise of recurring fees of around 8%. We think in the medium term, it's reasonable to expect fees that grow in line with customers and around 6%, 7%, in general, makes sense. So as you get customers, you can cross-sell them to new customers. But as you know, Banco de Chile is the bank with the strongest fee-based business in Chile. So we're exceptionally good at having customers that use Banco de Chile as their primary bank.

So as we continue increasing our customers, we expect that we can successfully cross-sell them to other customers. And this is one of the main points of focus about the new debit card Cuenta. So we have more than 300,000 customers there, and we're working on how to do a new digital onboarding in terms of other products and services for these customers, which should also help fees in the future. We're currently working on that. We hope to implement this later on in the short term.

[Operator]

Thank you. This concludes the question-and-answer section. At this time, I would like to turn the floor back to Banco de Chile for any closing remarks.

[Pablo Ricci, executive]

Well, thank you for listening to our conference call. If you have any other follow-up questions, you can contact us.

[Operator]

Thank you. This concludes today's presentation. You may disconnect your line at this time and have a nice day. Thank you very much.