RIO DE JANEIRO, BRAZIL – As Argentina begins its expected recovery in 2021, its largest banks — Banco Macro SA, Grupo Financiero Galicia SA, Banco Santander Río SA and Banco BBVA Argentina SA — might have to sit tight before their bottom lines benefit from any economic rejuvenation.
In fact, lenders in Latin America’s third largest economy can expect profitability metrics to deteriorate even further next year, with higher inflation and fresh rounds of regulation piling on to existing margin pressure, analysts say.
An extended lockdown on the back of two consecutive years of economic shrinkage prior to the pandemic has wreaked economic havoc. While the IMF projects a contraction in GDP of 11.8% in 2020 — one of the region’s more pronounced dips — it also expects a comeback of close to 5% for 2021. However, this recovery is also expected to exacerbate inflation to 50%, up from 36.7% in 2020, according to the latest central bank market surveys.
“Banks won’t be able to compensate for inflation by raising loan rates, either due to regulatory caps on some credit products, or simply by the inability of market demand to withstand higher rates,” says Mauro Mazza, head of research at Bull Market Brokers.
That means banks’ net interest margins will continue to decline next year, Mazza emphasized.
“We have a negative outlook in terms of net profits for Argentine banks, mainly due to rising inflation, shrinking margins and increasing regulation, and those will be the key metrics to follow,” Moody’s analyst Marcelo De Gruttola said, adding that banks also have “great uncertainty as to how high delinquency could rise.”
From the vantage point of Argentina’s largest bank by assets, Banco Galicia, 2021 will mean juggling a mix of challenges.
“Although the balance of loans will rebound next year in line with economic recovery, we expect more margin compression and probably further regulation favoring other sectors of the economy, with banks as the chosen vehicle for their recovery,” Pablo Firvida, institutional relations manager at Grupo Financiero Galicia, said in an interview.
Galicia expects inflation to shoot up to 47% in 2021, which would impact negatively on the group’s bottom line, Firvida said. Even as consumer prices remained partially subdued through the pandemic, the cost of living rose 37% this year.
Banco Central de la República Argentina has also stepped up regulation and limited interest rates, fees and commissions through some 800 measures in 2020, affecting different income and expense streams, Firvida said.
Last week, the central bank prolonged its ban on financial institutions’ dividend payments through June 30, 2021. The suspension was first announced in March at the onset of the coronavirus pandemic and has now been extended twice. Fees and commissions for ATM transactions were also prohibited until March 31 next year.
Banks have also been compelled throughout 2020 to grant credit to SMEs and the self-employed at capped rates of between 24% and 35%. The loans are repayable over periods of between two and 2.5 years, and considerably higher inflation would imply losses in real terms for banks.
“And who’s to say they won’t ask us to allocate more funds to SMEs next year? They might also further limit banks’ Leliq or Pase positions,” Firvida said, indicating he expects tighter regulation regarding banks’ stock of central banknotes.
Limited options
“Banks have generally been managing profits in real terms, and will probably be able to do so next year,” said De Gruttola, but added that “margin pressure is growing, which could continue to have an impact on net profits.”It is common for financial institutions in Argentina to hedge their assets against inflation volatility, but this is proving to be no easy feat.
“They usually do so through their real estate holdings, inflation-adjusted loans, which aren’t growing anymore,” the analyst explained, due to regulatory changes, and a freeze on the interest on installments.
Over recent years, Argentine banks had been able to hedge the country’s rapidly depreciating currency, soaring inflation and recession by taking up large positions in the central bank’s short-term Leliq notes, which offered returns of as much as 85% in 2019.
Those days came to an end in 2020, first as the Leliq rate was gradually brought down to 38%, and then through a limitation on the amount of Leliqs banks can hold. Limitations on instruments issued by the sovereign have also been placed on dollar-linked or inflation-linked bonds
Galicia’s Firvida also pointed to the recently sanctioned tax on banks’ interest income from Leliqs by the Buenos Aires City government as another blow to profitability. Still, Leliqs represented 25% of Galicia’s net interest income at the end of the third quarter, Firvida said.
“One of the few variables banks have control over in this context is saving on expenses,” he added. Galicia slashed its administrative spending by 42% year over year during the third quarter.
Looking ahead
While stricter regulation and inflation will be two clear hurdles for the sector, there are hopes that certain restrictions will be relaxed as the economy rebounds.
A loosening of restrictions on fee collection, the distribution of profits and term-deposit and loan interest rates would allow lenders to sustain current financial margins as well as reigniting demand for credit, sources at BBVA Argentina told S&P Global Market Intelligence.
While BBVA is expecting strong growth in short-term business loans and credit cards, increased funding costs due to deposit rate regulation should drag margins down, the bank’s sources said. Proper liquidity management could maintain the current margin, BBVA Argentina sources noted.
A certain deterioration in asset quality is to be expected once the central bank’s exemptions regarding debtors classification come to an end, BBVA Argentina sources said. The bank also pointed to the government’s ongoing debt negotiations with the IMF as key to determining what lies ahead for the Argentine economy.
“While an agreement with the IMF is not imminent, the eventual deal would require structural reforms, which will determine the path of economic policy for Argentina starting next year,” they said. While the government has already shown signs of searching for greater fiscal austerity, it remains to be seen how those challenges will unfold as they also seek to contain inflation and the exchange rate during a year of legislative elections.
The negotiations with the IMF, like the ones clinched with private bondholders earlier this year, could be vital to begin to rebuild international reserves and shore up local currency, which has devaluated about 40% against the U.S. dollar in 2020.
For Bull Market Brokers’ Mazza, investors will also be following the central bank’s international reserves as a key risk factor with the potential to trigger a systemic event in the banking system.
“We are concerned about the BCRA’s reserves, and we believe that if the current situation continues, we could end up with some kind of banking stress, especially in the second semester,” Mazza said, pointing to the risk of an even greater run against lenders’ dollar deposits if the central bank fails to rebuild its liquid net foreign currency stockpile.
Banks’ total dollar deposits stood at US$17.34 billion as of December 4th, down 15.9% from a year ago, according to the central bank.
“With negative liquid reserves we believe that the BCRA could already be using deposits, at least those belonging to the public sector, to supply the foreign exchange market,” Mazza said, concluding that “from a scale of 1 to 5, with 5 being the best and 1 the worst, today we are at 3 in probability of a systemic event in banks.”