Nov 10, 2014
Executives
Fernando Dasso - CFO Walter Bayly Llona - COO
Analysts
Thiago Batista - Itau BBA Carlos Macedo - Goldman Sachs Tito Labarta - Deutsche Bank Philip Finch - UBS Fred de Mariz - UBS Saul Martinez - JP Morgan Jose Barria - Bank of America Merrill Lynch Boris Molina - Santander
Operator
Hello and welcome to the Third Quarter 2014 Credicorp Earnings Conference Call. My name is Hilda and I will be your operator for today.
At this time, all participants are in a listen only mode. Later we will conduct a question-and-answer session.
I will now turn the call over to Credicorp's Chief Financial Officer, Mr. Fernando Dasso.
Mr. Dasso, you may begin.
Fernando Dasso
Good morning and welcome to Credicorp's third quarter earnings results conference for 2014. Our country's economic performance has become a source of concern given that its GDP has fallen significantly in the first half of this year.
But we cannot take these signs lightly, underlying trends in the business evolution are more encouraging, and we can only understand this as a result of a significant lag between investment activity and GDP growth. More proactive and pro-investment government measures are expected to reactivate the Peruvian economy which should be able to deliver a 5% GDP growth next year if these are effectively executed.
In this context, the deterioration in portfolio quality and slowdown in loan expansion which affected our profitability in previous quarters are showing improving trends. Credicorp's resource this quarter started showing a significant improvement in both fronts, and others that we will see in the coming charts.
As in the previous conference calls, we continue showing numbers that include and exclude the consolidation of Mibanco, a business that is going through a cleanup period. This will allow a clear understanding of a turnaround situation of all the other Credicorp's subsidiaries.
Next page please. In this page, the shaded bar excludes Mibanco and the not shaded part, the clear path includes the whole Credicorp.
This third quarter, Credicorp reported a significant improvement in net income which reached PEN 666 million excluding Mibanco, as it is reflected in the ROAE of 21.7% and ROAA of 2.2%. Mibanco's contribution to Credicorp is still negative.
Therefore it affected the Group's ROAE and ROAA downwards to a 19.7% and 2% respectively. Despite the underlying economic slowdown, loans continued performing well and were up 3.3% excluding Mibanco and 3% quarter-over-quarter including it, reflecting the contraction of Mibanco's portfolio.
However, loan growth of average daily balances was 4.1% this quarter, well above the 2.7% rate of the previous quarter which explains this significantly better income generation. Furthermore, NIM increased 8 basis points to teach 5.75% despite the fact that loan growth was still mainly concentrated in the wholesale banking business with lower margins.
NIM expansion was therefore achieved as a result of better pricing for our reactivated retail business on the one hand and good management of funding costs on the other. But probably the most relevant evolution this quarter is a significant reduction in provisions and improvement in portfolio quality indicators.
Provisions excluding Mibanco represented this quarter only 1.85% of total loans, after reaching the highest point of 2.38% last quarter. Even including Mibanco, this indicator dropped from 2.62% to 2.29%.
The aforementioned represents the first signs of a turning point which is also reflected in the 6 basis points drop in the PDL ratios that went from 2.33% to 2.59% excluding and including Mibanco respectively. In addition, the insurance business continued showing significantly better performance in the insurance underwriting result and the medical services gross margins which grew 13% and 14% respectively.
This was a reflection of lower claims, improved cost control and good financial income. Credicorp's efficiency ratio continued improving and dropped around 240 basis points.
This shows the progress achieved to increase the gap between income and expenses growth. However, still bear in mind that on a quarterly basis some volatility will always be evident.
Year-over-year the efficiency ratio improved 100 basis points, in line with our long-term expectations. Therefore, operating income expanded 19.8% quarter over quarter or 15.8% when we include Mibanco.
All in all, a very good result for Credicorp which we will look at in more detail in the following charts. Next page please.
Looking at BCP's portfolio performance and improvement in source revenue, loan growth picked up this third quarter especially measured in average daily balances which grew 4.1% versus 2.7% last quarter. The recovery is mainly evident in the retail banking book, in particular the SME business loan book which was up 12.6% quarter over quarter, followed by the mortgage and consumer segments.
But probably more relevant is the turnaround in the SME-Pyme loan book which resumed growth with a 1.7% increase quarter over quarter. Although this is still a low quarterly growth number, it is a reflection of an improved scenario after a portfolio contraction recorded in the two previous quarters of this year.
An important signal of the expected recovery in the Peruvian economy is the growth in the middle-market loans which expanded 6.5% quarter over quarter and 20.4% year-over-year, but especially noteworthy is the evolution of Edyficar's loan portfolio which grew 6.3% quarter-over-quarter and 33% year-over-year with stabile and good portfolio quality despite being in the same segment as Mibanco. Next page please.
With reference to portfolio quality, after almost three years of constant gradual deterioration of the SME-Pyme book, its PDL ratio dropped 16 basis points to 10.57% this quarter. This is significantly more relevant when we look at provisions which were this quarter almost 10% lower at BCP, marking an important turnaround.
We will see this in the next graph, but before I would like to point at the good and in few cases improving performance of practically all other business segments of our portfolio, excluding of course Mibanco which is still in a process of cleaning up its portfolio. Furthermore, I would also like to point the 90 day PDL ratio represented by the light blue line closer to the bottom of the chart, which remains at very low levels for the total reaching only 1.7%.
Next page please. This chart shows an inflection in our cost of risk.
Cost of risk peaks in the second quarter of this year when it represented 2.5% of total loans and 2.7% including Mibanco's portfolio. A significant reduction in the cost of risk of BCP's portfolio, which went down to 1.9%, reflects the important efforts implemented to recover more adequate levels of the deterioration of the portfolio [list] (ph) and measures to recover delinquent lines were successfully implemented.
A dropping cost of risk was also recorded at Mibanco, but not as significant as in the case of BCP. Though the cost of risk decreased after implementation of improved credit risk management, we should keep in mind that the cost of risk also reflects the portfolio mix and thus it will increase gradually once the consumer and SME businesses recover their pace of growth and increase their participation in total loans.
Next page please. Operating results at BCP show very good signs.
Net interest income was up a solid 5.3% quarter over quarter which was mainly driven by, first, the significant interest income improvement and repricing became effective, and second, the good control of interest expenses. The latter was a result of using alternative funding sources that allowed funding costs to remain stable quarter over quarter.
Consequently, NIM on loans increased 10 basis points quarter over quarter and 64 basis points year-over-year, which reveals the changes in the business structure of our portfolio. The aforementioned also explains the evolution of overall NIM which reached a high 6.02%.
The 12 basis points increase quarter over quarter and 69 basis points year-over-year in the overall NIM also includes the shift in [indiscernible] structure in favor of more profitable interest-earning assets such as loans. Non-financial income at BCP was up a strong 7.2% as a result of good fee income generation and higher gain in forex exchange transactions which are important sources of core income generation.
Moreover, OpEx dropped 1.3% quarter over quarter while income generation improved significantly, resulting in further improvement in the efficiency ratio that reached a low 44.9% for BCP. The year-over-year evolution shows an increase of 120 basis points.
Next page please. This chart provides a more detailed explanation of NIMs within the Credicorp Group which reveals the excellent improvements in the banking business at BCP Standalone with a NIM of 5.75%, the contributions to improved NIMs from Edyficar and Mibanco which are evident and significant and improved the BCP Consolidated NIM to 6.02%, as well as the dilution of the banking business NIMs through the additional lower margins in the rest of the Credicorp Group.
I believe that we stopped at the beginning of Page 9, is that the case? Okay.
We'll begin at the beginning of Page 9. Even though sustaining a solid and efficient low funding costs seem to present a challenge in the last years, this was achieved through a careful [indiscernible] management with very moderate structural changes.
In fact, deposit funding moved from 71% of total funding in 2011 to 68%, then to 71% in the following years to reach again 67% this third quarter. However BCP's loan to deposit ratio did increase significantly in the last year, but as a result of an important change in the asset structure in favor of the higher-yielding loan book on the one hand and on the other a conscious decision to fund that local currency demand through lower-cost Central Bank instruments instead of price sensitive time deposits, especially in our present environment of high Soles demand which would put pressure on rates paid.
Therefore this quarter about 4.5% of total funding was covered through these debt instruments as we decided to trade a higher loan to deposit ratio against lower cost of funds. Consequently, our loan to deposit ratio moved from 94.3% to 104% while our cost of funds dropped to 2.05%.
This strong shift in the weight of the demand for funding towards our local currency responded to an increased preference for local currency denominated loans which picked up in 2013 and has kept this strength since. The result has been a better asset structure in favor mainly of the higher-yielding local currency loan book and a shift in loan to deposit ratios by currency which increased in the last year in Soles to reach today 110% and dropped in U.S.
dollars to reach 97% today. It is important to mention that we do not perceive this to be a constraint for growth nor it is a real concern, though it will in the long run increase slightly our funding costs.
Local currency liquidity can be well sourced by the preliminary market and the regulator and the Central Bank monitors and has plenty of ways to provide the necessary sources. Next page please.
BCP Bolivia's contribution to Credicorp totaled PEN 17.4 million in the third quarter, which represented a decrease of 8.4% quarter over quarter. In this context, ROAE reached a level of 16.1%.
The aforementioned was reflected in the slightly lower operating income due primarily to, first, a decrease in non-financial income from foreign exchange transactions, and second, growth in operating expenses associated with BCP's Bolivia efforts to comply with government requirements. It is important to highlight the positive evolution of loans which expanded 6% quarter over quarter along with a lower PDL ratio of 1.45%.
Edyficar continued to outperform the local economy and the SME sector in particular. This evolution is reflected in the bank's loan growth of 5.7% for the quarter and the fact that its portfolio quality ratios are the only ones in the system that have remained stable, and at 4.02% can be considered low for this sector.
In this context, total loans at the end of the third quarter reached over PEN 3.2 billion while operating income rose 25.7%. These results, without including the Mibanco effect, helped generate an ROAE of 27.7% resulting in a contribution to Credicorp of PEN 37.2 million.
The reported numbers however incorporate the effect of Mibanco and show net earnings of PEN 20 million with an ROAE of 7.1%. Next page please.
Even though these numbers are based on local Peruvian accounting, since we only have IFRS numbers on a quarterly basis which do not show trends yet, we decided to show you the graph to give a first feel of the evolution and the recovery work being done in Mibanco to stabilize the business and turn around the trend preparing Mibanco for the merger with Edyficar next year. The chart of percentage of total loans reveals a slowdown in the contraction rate of total loans as well as a stabilization of the growth of past due loans which kept increasing until August 2014 and showed first contradiction in September to 7% of the portfolio.
This timing is also seen in the chart of net provisions and cost of risk. Both peak in August and show a first turnaround in September.
However, IFRS provisions as included in BCP Consolidated numbers are slightly higher. The worth is being focused in, first, better loan origination with new customers, more origination with returning customers, and second, improved collection process done with Edyficar's model.
The chart 'Number of Customers' shows, first, continuous reduction in the outflow of customers in line with retention efforts, and second, a higher increase in new and returning customers. The chart 'Turnover' shows the work done with the employees of Mibanco, which reveals the high turnover in the industry but especially in the previous year, shows an understandably important increase in turnover which peaks at the sale of Mibanco and as the business stabilization starts to come down.
Next page please. With regards to our insurance business, this has not been a particularly good growth year for the property and casualty business.
Nevertheless, new and more intelligent pricing, more selective underwriting leading to less underwriting on our books, less casualties, higher commissions, favorable profitability over growth have helped achieve the important improvement in net earnings recorded. The latter was helped this quarter by the recovery of an old reinsurance claim we had that liberated provisions of about PEN 12 million, and the gains on the sale of securities which generated PEN 13.2 million.
This better performance is also reflected in the significantly improved combined ratio of 94.6%. In the life insurance business, good growth in the annuity business was recorded, which however affected negatively the results at the start due to the related upfront reserves, while some important casualties were also recorded.
Nevertheless, this continues being a very profitable sector with net earnings maintaining a good level though growth of the premium income shows the impact especially year-over-year of the loss of the annuity business for the pension funds which happened last year. The health business shows good performance in the EPS as well as further improvements in the medical services sector which still needs more time to reach volumes that will allow good efficiency levels.
These good individual results combined are reflected in the significantly improved underwriting result which grows 26% quarter-over-quarter and 33% year-over-year and also net earnings results which also expanded 30% quarter-over-quarter and 23% year-over-year. Consequently, Pacifico Insurance Group reported net earnings before minority interest of PEN 62 million at the end of the third quarter and a contribution to Credicorp of the same PEN 60 million.
With this result, ROAE was 14%. With regards to our recent announcement about an agreement in principle about our joint operation of the health business with America, progress is being made in the negotiation of our shareholders agreement and a sign of future joint development plan.
Next page please. Atlantic Security Bank reported net income of $9.7 million in this third quarter.
The result of this quarter represents a normal level of income generation of this business as last quarter's results included extraordinary income of $14.6 million, equivalent to PEN 41 million relative to reimbursements from reinsurance for our claim of losses incurred during the financial crisis in 2008. Earnings this quarter dropped to a reported ROAE of 18% which results from a 17.2% increase year-over-year in equity that reached $214 million due to the extraordinary income that was posted in the second quarter of this year.
The bank's assets under management which includes time deposit, investments in funds and custody of financial instruments totaled $6 billion in market value in the third quarter. This represents around 3% increase with regards to the second quarter and a solid expansion of 17.5% in the year-over-year comparison.
Next page please. In the third quarter, net earnings at Prima AFP totaled PEN 37.4 million, which reflects a drop of 8.4% quarter over quarter and an ROAE dropping to a still high 29%.
This drop is a result of the absence in this quarter of the extraordinary income recorded in the previous quarter related to some real estate sales and the reversal of income tax from 2013. Prima's business is in fact performing well, showing improved fee income collections which increased 6.4% quarter over quarter reaching a high of PEN 98 million.
Prima AFP's funds under management at the end of this third quarter totaled PEN 36 billion. This represents growth of 2.6% quarter over quarter, earning the company managed 32% of the system's total funds at quarter end.
Next page please. The third quarter has been a good quarter for Credicorp with an ROAE of 19.9% including the deteriorated Mibanco, and a new and stronger 21.7% ROAE on the established business.
Despite a complicated macroeconomic environment this year, Credicorp has achieved improvement in leans growth, NIMs, portfolio quality, and cost of risk and efficiency in its banking business as well as improvements in its insurance business and maintained its excellence with pension funds and asset management businesses. Looking at total results in our 'Contributions' chart, total net income attributable to Credicorp for the year to date is close to PEN 1.9 billion.
However, the economic environment poses an important challenge as the economies weakness threatens to persist throughout this year. Nevertheless, we certainly feel better prepared to take advantage of the expected reactivation of economic growth in our market.
We have great expectations about the expected contribution of the Mibanco-Edyficar new venture in the coming years and the effects of the more structural efficiency improvements that are to come. Therefore if the economy plays along as we hope, we believe potential for growth and better ROAE is significant.
With these comments, I would like to open the call for Q&A. Thank you.
Operator
(Operator Instructions) The first question comes from Thiago Batista from Itau BBA.
Thiago Batista - Itau BBA
Congratulations for the results. I have two questions.
The first one is related to the asset quality. We saw this quarter some contraction in the PDL ratio, and more than that, I think most of the lines showed some improvement in the asset quality.
So my question is, are you comfortable to say that the delinquency ratio will not deteriorate going forward? Probably this is an inflection point but at least – not sure if you improve but at least we are not expecting a further deterioration in the PDL ratio.
And my second question is regarding the loan growth for next year. Could you comment about how much you believe the loan portfolio could expand next year, and more than that, in which product or which segment you could focus its expansion?
Fernando Dasso
First, about the deterioration or possible deterioration of the portfolio, we believe – although we don't know exactly what's going to happen this year and next, this year we are supposed to grow 2.8% and next year we will probably grow around 4.5% to 5%. If that is the case of the improve, we feel that the portfolio won't deteriorate any further.
That is the first question, first answer. And then in regards to the loan growth, first I want to talk a little bit about BCP.
This year we are probably going to grow by about 12% to 13% in loans. We feel that next year, being also a pretty natural year, we will probably be around 11% to 12%, a little less than this year, and that's our main scenario for BCP.
In regards to the other companies, we believe that Edyficar should continue growing. As you probably know, we're going to merge Edyficar and Mibanco at the beginning of next year and they will probably grow at a very decent pace compared to what we have had in this year, especially because Mibanco is really stabilizing its operations during this month.
Walter Bayly Llona
Thiago, this is Walter Bayly. Let me give you a little bit more feeling on the different types of loans.
First to understand, this year was kind of unusual to the extent that the wholesale loans grew at a faster pace than retail, and I don't recall for many, many years having seen that before. That is important to understand what were the dynamics behind that.
On the wholesale side, there were a couple of factors that one needs to understand. One is that we continued disbursing long-term loans related to investment projects.
These were investment decisions made maybe a year and a half or two and the disbursements just continued at their normal pace. The second is that when you have a slight slowdown or a slowdown as we have seen this year, companies tend to have a lower turnaround in accounts receivable than inventory, and thus initially they tend to borrow a little bit more.
So that's another factor that helped wholesale loans grow at a faster pace than what we had expected. And probably the last and probably the most important is that due to the currency volatility, there were a lot of corporates that were borrowing from non-Peruvian banks, from offshore banks borrowing dollars, cheap dollars.
Due to the currency volatility, those companies decided to shift their borrowings into local currency and into the Peruvian banking system. Thus it is not that there were new loans out there, they just came into the Peruvian banking system and obviously we captured our share of those.
So those were the three factors that made the wholesale portfolio grow at a pace that we have not seen for a couple of years. On the retail side, you had a couple of factors going against you, which is there were some changes – we started seeing some delinquencies in the lower end of the mortgage portfolio [indiscernible].
Disbursements on that sector have come down by half or maybe by 40% and they are still at a low pace. There are important changes that are being worked with [indiscernible] and with the Ministry of Finance in the Superintendency to try to reactivate lending in that sector.
Hopefully those changes will come before year end and we will have a little bit more dynamic growth in that sector. And the other is in the Pyme side which – the Pyme is the most volatile portion of our portfolio on the upside and on the downside.
Even though the country is still growing, coming from 6% to 3% this year, that decrease has a lot of effect in the Pymes. Thus they have been working in a very tough environment and we have not grown there.
So hopefully next year, all these factors will not be the same and we expect next year that the growth in the wholesale and the retail should be more or less on the same percentage growth, and the year after we will return to more normal trends where we see more growth on the retail. That's a long answer to a short question.
Thiago Batista - Itau BBA
Perfect. Just one point.
When you said that the overall growth of BCP will be is slightly lower than this year, was mainly because of the corporate segment or the wholesale segment?
Walter Bayly Llona
Future predictions are always complicated. Our concern has been the GDP of the country.
If we have the numbers that everybody is expecting to see GDP in the country – they do not necessarily imply a lot of activity in the internal demand side, they are more related to the growth of a couple of large mining projects that should start production. So we are a bit cautious in terms of predicting how much the system will grow related to domestic demand which is our retail and most of our businesses.
Thiago Batista - Itau BBA
Okay, perfect. Thank you.
Operator
The next question comes from Carlos Macedo from Goldman Sachs.
Carlos Macedo - Goldman Sachs
Couple of questions. Congrats on the result.
First question, you mentioned in your release that there were expenses for discontinued operations in the quarter. I didn't really see the amount for just for those expenses.
I just wanted to find out if they were relevant. I mean looking at your – at the statements for the entire group, did see other operating expenses almost double in the quarter, so just wanted to get an idea of that.
Second, you did talk a lot about how results were with and without Mibanco. Obviously you are working in that restructuring.
If Mibanco does move to the level of profitability of Edyficar, maybe talking about a positive contribution to ROAE instead of a drag to ROAE, and ROAE for the bank itself was already almost at 22%, the question is, first, at what pace do you think you can turn around Mibanco and when will it contribute something closer to what the bank does now or even what Edyficar does closer to the 25% to 27% range in ROAE, and on top of that, do you think it can get to that level to the 27% excluding of course the goodwill?
Walter Bayly Llona
Let me talk a little while Fernando gets you numbers on the other operating expenses and discontinued operations. We continue to be very enthusiastic and bullish about the acquisition of Mibanco.
Probably what you have seen so far and throughout the rest of the year, we are still struggling with even our models to adapt to be able to have good provisions, models at Mibanco, we're struggling with some of the merger costs, we're struggling with reductions of personnel, the cleanup, et cetera. So this year obviously we do not expect any results.
Next year my bet is that Mibanco will become the second most profitable subsidiary of Credicorp after BCP. So, yes, it will be an important contributor to profits at Credicorp, it will be the fifth largest bank in operation in Peru with a very focused business model.
We are now working a lot inside the company, transferring the business models, the operating models, improve Mibanco, that is working well, we are doing differentiation, the integration of both companies well and we are satisfied with the advances. We were a little concerned at the beginning because the portfolio came down a little bit faster than what we had anticipated, but that has stopped in the past two months.
So it was an initial reduction. It is still within the ranges of what we had anticipated.
The portfolio has stabilized. So all this [indiscernible], we just need a little more time, we haven't even finished the merger, but again my expectation is that this new operation will become the second largest contributor of profits to Credicorp.
Carlos Macedo - Goldman Sachs
Thank you, that's a very good answer. Just trying to get a little bit more understanding on timing, as you said it's a gradual process.
Run rate-wise, do you think it will be at the full run rate say in the second quarter of the third quarter?
Walter Bayly Llona
Second quarter.
Carlos Macedo - Goldman Sachs
Okay.
Fernando Dasso
Carlos, you just have to keep in mind that it will be a transition year really 2015. We will gain full speed in 2016 I feel.
Walter Bayly Llona
But you will see gradual improvements quarter by quarter and everything is looking as we had originally anticipated. On the expenses?
Fernando Dasso
On the expenses, with regards to expenses, we have one-timers there. As you probably know, we engaged in this project with [indiscernible] and we decided to close because it wasn't successful.
So now we're really charging off and cleaning up those expenses. We will continue to charge them off from our books the next quarter and then we will end – and the [indiscernible] venture will be ended in accounting terms.
And then we renew – as you probably know, we have our partners in Chile and Colombia in Credicorp Capital. We made some renewed [indiscernible] with them.
So we have a liability, we actually have – we have a [indiscernible] and they have a foot on us that will be recognized at the beginning of 2017. That liability increased a little bit in its size and we are reflecting that change in this quarter and the next one.
Carlos Macedo - Goldman Sachs
Thank you, Fernando. Can you give us an idea of the size of the impact of those two things?
Fernando Dasso
The second one, the [cost] (ph) that we have will be around $25 million and we will recognize that in the second half of this year. So there is still some to be recognized in the last quarter.
And in regards to the [indiscernible], it's around $4 million. It's been around $4 million and we still have to recognize around $7 million.
Walter Bayly Llona
A couple of following pictures have come to my mind. One is that we are finalizing the amortization of the brand Edyficar.
We had the brand of Edyficar in our books when we acquired the company and we are not going to use that name going forward. Thus, we have to write it off.
The number for that is about…
Fernando Dasso
It is around $10 million for the year and we are charging off around $1.1 million each month.
Walter Bayly Llona
So there are a couple of expenses related – extraordinary expenses which we hopefully will finish throughout the last quarter.
Carlos Macedo - Goldman Sachs
Okay. Thank you for your very complete answers.
Operator
The next question comes from Tito Labarta from Deutsche Bank.
Tito Labarta - Deutsche Bank
I have couple of questions. First looking at net interest margin, you had a lot of moving parts, so just want to get a sense of how you see that evolving given you've seen the wholesale loans growing faster, so that's probably putting some pressure on margins, you mentioned funding costs you were able to keep stable, you continue to see local currency loans very strongly while dollar loans are not growing as fast even though they picked up a little bit in the quarter and that's kind of helped your margin over the last year, so just want to get a sense, how do you think margin will evolve over the next year given all of those moving parts?
And then my second question is, if you look at your fee income, it was somewhat weak in the quarter than really growing, you saw a lot of your loan fees actually fell this quarter. So just want to get a sense of what happened there that the fees aren't growing and where do you expect for that going forward?
Fernando Dasso
First of all, I'm going to talk about the NIM going forward. We feel that there are good trends coming and also some trends that we have to keep in mind.
On the first trend, we feel that our portfolio will continue to shape towards Soles, and as you probably know we have better margins in Soles, so that is really a tailwind. And as we said, we will also begin to grow faster in terms of retail picking up a little bit and that also will bring better margins in terms of our NIM.
When we talk about interest expense, we have to tell you that we are very much aware of what's going to happen with rates next year, especially when Federal Reserve begins the increase in the rates. We feel it will come in the second half but that will change a little bit the environment.
And also we have been funding our Soles, especially our Soles portfolio more and more with Central Bank borrowings but we feel that probably at the beginning of next year we will need to go and get some funding especially in Soles from the market, and that will also increase our funding costs. With that, I think that I've answered the NIM part of the question, and then we go to fee income.
Walter Bayly Llona
Maybe even to add something on the NIM, I think the long-term trends are the ones that we have always seen, which are, there is pressure on every individual product due to the competition and the lower margin, That is [undoubtable] (ph), there is pressure, competition in credit cards, there's competition in fee, competition on a lot of the price. So we expect that every individual product will be under competitive pressure and margins will be tight.
This past quarter, because of we've been very aggressively pushing pricing to compensate for higher risk was that it starts to come down, we will start to see that competitive pressure again in the market, but the forces going against that would be that this year we have seen wholesale growing at a faster pace than retail and that's unusual, that has obviously not helped, and we have seen – we will continue to see more local currency mix in our portfolio. So those are the two counter-trends.
In the long run I would say that the margin that we have to-date should be able to remain relatively stable. I see the trends playing off one against each other.
Big question mark what happens if the Central Bank lowers its borrowing rate, what will happen to us? Usually when that happens there is very little transmission of that lower rate into retail, there is immediate transmission into wholesale, and on the funding it helps us on interest-bearing deposits, but we also have a large deposit base, that is practically close to zero, so margins will be compressed by outside.
Hopefully both effects again will neutralize themselves. So in short, we expect that we will be able to maintain the NIMs that we have seen in the past quarter going forward for at least one or two years.
Fernando Dasso
Now in relation to the fee income, there are many factors involved. First of all, this quarter hasn't been a great one for Credicorp Capital and that is important in our fee income scenario.
Also in our pension fund company, Prima AFP, following a change in the regulation, we decided that we cannot recognize income on a one-time basis but had to recognize it on a referral basis, and that has been the change which we have implemented very recently and it will take its toll in the following months. And third, when we [hold out] (ph) to BCP, we feel that this year will probably grow by say 8%, 8.5%, and that will be also the case next year.
That's our feeling. We have as you probably know very important pressure from the regulators in terms of fees and we are devising better ways to improve this business, but that's really the scenario we have now.
Tito Labarta - Deutsche Bank
Okay, so just to clarify, so you expect margins relatively stable kind of going forward as kind of all the moving parts tend to offset each other and fees growing around 8%, 8.5% for this year or next year?
Fernando Dasso
That is the case.
Walter Bayly Llona
Sounds good.
Tito Labarta - Deutsche Bank
Okay. And just one quick follow up then in terms of the loan growth that you mentioned, you said 11%, 12% for BCP but Edyficar this year is going around 30%.
So overall for Credicorp in terms of loan growth should be closer to like 13% or 15% or is that fair to assume?
Walter Bayly Llona
We believe that Edyficar – I don't have a mixture of Edyficar and Mibanco but I would say that it will be around the low 20s for the merged institution.
Operator
The next question comes from Philip Finch from UBS.
Philip Finch - UBS
Thank you for your presentation. A couple of questions from me as well please.
First of all, we saw your cost of risk peak in the third quarter, which is great. So going forward, what do you think the sustainable level we should assume for cost of risk?
And secondly, we saw the effective tax rate go up to 29.5% in the third quarter. Can you explain what drove this?
You're saying in your release high income generation, but what caused the higher effect of tax rate? And related to that, going forward should we assume it goes back to around 26% or does it remain at this elevated level?
Walter Bayly Llona
Sure, Philip. Regarding the cost of risk, we still expect some improvement.
Of course this is assuming that nothing extraordinary happens with the Peruvian economy, but I think we started to see improvements, we have seen some improvements, and those should continue a little bit more going forward. I don't want to be a lot more precise because it's difficult but I don't think that where we are today is where we want to be.
I would expect continued improvement in the cost of risk at least in the next two quarters, obviously dependent on what happens in the economy. On the tax rate, Fernando?
Fernando Dasso
On the tax rate, as I mentioned in a prior answer, we had these one-timers which involve [indiscernible] Limited, which involved [indiscernible]. Some of those are not deductible and they are one-timers, and that non-deduction characteristic has taken its effect in the effective cost rate.
We feel that we will return to a better effective cost rate next year.
Philip Finch - UBS
So a range of 25% to 27% type rate next year would be reasonable?
Fernando Dasso
I would tend to think that it will be around 27%.
Philip Finch - UBS
Okay, perfect. Thank you very much.
Operator
Our next question comes from Fred Mariz from UBS.
Fred de Mariz - UBS
Just one follow up on the insurance. We saw a good improvement in the quarter which is in line with the turnaround you had announced.
Do you have any guidance or any feeling for where the ROAE of the insurance could be for the end of this year and for next year? We saw it was way above 10% already, so just some feeling on the base and the turnaround at the insurance?
Unidentified Company Speaker
This is [indiscernible] from Pacífico Seguro. We feel that the business will continue to grow and we are working, like it was mentioned during the call, very much on improving our claims ratio and in the end our combined ratio.
We've been working a lot on controlling expenses also at the same time to get this positive effect. There has been some extraordinary income this year that has helped us improve our earnings and obviously our ROAE.
However we do feel that we should by the end of the year end up at these levels between 13% and 15%, and hopefully by next year we will improve that somewhat also with some improvement that we will probably see obviously in the property and casualty business and also in the provider side of the health business. So probably next year aiming maybe in the 16%, 17% and this year aiming between 14% and 15% of the ROAE.
Fred de Mariz - UBS
Okay, that's great. Thank you very much.
Operator
The next question comes from Saul Martinez from JP Morgan.
Saul Martinez - JP Morgan
I'll ask my first question then I'll follow up. I wanted to delve a little bit deeper into your funding strategy, and I know you guys have addressed this in the prepared remarks and in the answer to an earlier question, but when I look at some of the numbers, they are pretty striking over the last seven quarters.
Your local currency loan to deposit ratio has gone from 70% to over 110% this quarter, local currency deposits fell Q-on-Q, your local currency loan book is obviously growing well, your asset yields are increasing, your funding costs are decreasing, and that's all great. But can you just talk about the sustainability of that strategy and whether you feel like you're compromising at all in terms of quality and the funding in order to meet demand for credit and to improve your financial margins?
And then specifically this quarter, obviously Central Bank borrowings were a big part of the incremental funding for your asset growth. Can you just talk about whether that – the sustainability of that strategy especially in an environment where next year as you mentioned interest rates may go up, the Fed may spend, tightening may occur, what it means for the sustainability of that strategy, your funding costs and your net interest margins?
Walter Bayly Llona
Sure, Saul. Did you have another question as well?
Saul Martinez - JP Morgan
I do have another question. It's okay, I know it's a long question, so it's okay if you can answer that and then I'll follow up with it.
Walter Bayly Llona
Sure. First of all, if you take a step back, it doesn't seem very reasonable that the Central Bank will not provide enough liquidity so that the Peruvian banking system can continue lending in local currency.
It just doesn't make sense. Clearly the Central Bank is keeping very tight control on monetary policy because if there is excess liquidity, their concern is that that flow into demand for dollars.
So Central Bank is playing it very closely and keeping liquidity extremely tight to what we need. But again, the basic premise one has to assume – not assume, it has been clearly stated by the President of the Central Bank that they will provide enough local currency liquidity for the country, the banking system to grow in a solid fashion.
Having said that, this past quarter what we decided to do was rather than increase the rate in deposits, basically institutional deposits, we went over, because we have this huge local currency portfolio of Central Bank, short-term Central Bank CDs, we did repos with them. We gave those CDs which are 90 days, 180 days max to the Central Bank and they gave liquidity.
That was the policy, the monetary tool which they utilize to inject liquidity into the system and we took advantage of that. Will that be the case going forward?
It depends what monetary, what tool of monetary policy the Central Bank decides to utilize, but what we have zero concern is that there will be a shortage of local currency to lend. Now, yes, we do talk a lot about the loan to deposit ratio internally.
If you compare the loan to deposit ratio of the Peruvian banking system, Banco de Credito, whatever ratio you want to utilize, clearly it has deteriorated and that is something that happens all over the world as economy starts to evolve and more consumer finance starts to take place. So are we in a period where we are seriously concerned?
No. Is this something that we watch very closely?
Yes. What can we do going forward?
Clearly having a – we are probably one of the few countries in the world where banks still hold 100% of the mortgages they underwrite. So we've got a tremendous potential of selling those mortgages to the private pension funds.
We are working on this to find ways in which that sale can be at low cost of transaction, et cetera, et cetera, but clearly we have a pent-up demand from the life insurance companies and from the private pension funds for long-term assets, which we today hold. If we sell those assets, what [it will do] (ph) is reducing our loans and – reducing our loans and with the same deposit base, the loan to deposit ratio would clearly be resolved.
So is it something that worries us? No, in the short run.
Is it something we look at? Yes.
Are we doing something to solve that? Yes, but we don't see a need to do that in the very short term.
Saul Martinez - JP Morgan
Do you feel like eventually you will have to increase your funding costs to sustain your growth?
Walter Bayly Llona
It depends. I mean if you believe that the Central Bank policy of inflation targeting and keeping the inter-bank rate at the rate at which they decide, it does not make any sense that the inter-bank rate is above the reference rate.
If the inter-bank lending rate is above the reference rate, that means the Central Bank is not injecting enough liquidity. So if you tell me the Central Bank is going to increase the reference rate at this stage, I'm not sure, but I'm sure that our funding costs will be very close to that.
Saul Martinez - JP Morgan
Okay, fair enough. Secondly on capital, you had a 25% ROAE at BCP and your common equity Tier 1 basically was flat in spite of that in the quarter because of very rapid risk weighted asset growth essentially.
You do highlight obviously you have some liquid investments and some embedded gains, but can you talk a little bit about capital and how comfortable your generalized level of comfort with your capital position and do you feel like you need to do pick measures to shore that up, and I guess you did speak about loan growth slowing at BCP and I suppose that will help, but just if you can just give a little more color on how you're thinking about your capital position currently?
Walter Bayly Llona
Sure. The main reason why after having a 24%, 25% return on equity at the bank level, not having increased the core equity Tier 1 is because we bought a bank.
In the last quarter we made the second piece of the acquisition of Mibanco. Therefore that decreased, that utilized a lot of the profits that were generated throughout the quarter.
We have been very effective that we at this stage feel very comfortable that BCP or Credicorp – Credicorp to be very clear – Credicorp will not need to raise capital in the market to be able to reach the 10% core equity Tier 1 by the middle of 2016 or shortly thereafter. By the way every time that comment is made, we get a flood of calls from investment bankers [indiscernible] pitching their services to raise the equity, but clearly we feel very comfortable that that is not the case.
We see the bank growing at – having return on equities of 24% going forward, and clearly we do not intend to buy other banks. Therefore the bank should be able to – with a subdued dividend policy, be able to retain earnings and growth.
Furthermore, we do have the shares of BCI. Those shares of BCI are both at the bank and we're in the process of transferring them from the bank to Credicorp.
The shares of BCI, because they are a financial institution, they do not count as risk-weighted assets but rather they deduct directly from the base of capital by switching those assets, those shares of BCI into Credicorp, not selling them out to the market, we will include the core equity Tier 1 at the bank level which is what you are concerned about. Furthermore, we continue to have large equity investments in [indiscernible] which we feel we will not be able – we will not need to sell to reach the core equity Tier 1.
So again, let it very emphatic. At this stage, we are very comfortable that we do not need to raise capital at the Credicorp level to sustain and to reach the core equity Tier 1 that we have announced 10% by year 2016.
Saul Martinez - JP Morgan
I'm certainly not pitching our investment banker service for capital markets, but can you just give us a sense for what the capital benefit would be from transferring BCI to Credicorp?
Walter Bayly Llona
I don't have the numbers in front of you but we'll send them of course.
Saul Martinez - JP Morgan
Okay, that would be helpful. Thanks so much.
Walter Bayly Llona
I was not inferring that you were pitching for equity.
Saul Martinez - JP Morgan
No, I know. I was just making a very bad joke, that's all.
Operator
The next question comes from [indiscernible] from Credit Suisse.
Unidentified Analyst
Congratulations on the results. Most of my questions have been answered, just one extra question.
Regarding the repricing you mentioned of your loan portfolio, have you been able to increase rates on a product basis and have you continued to increase rates let's say in SMEs or some of the other segments, do you think this can continue in the coming quarters?
Fernando Dasso
As Walter mentioned, we live in a very competitive environment here. There are two factors to take into account here.
First is the Central Bank will probably, we don't know but it will probably expand its monetary policy shortening the rates, bringing down the reference rate this year or maybe next, maybe 25 basis points. So that's something we should take into account.
And then we're raised rates especially in the SME segment and also in consumer. We don't feel that there is plenty of room to continue raising rates.
If there are opportunities, we will definitely take advantage of them, but that is not what we think will happen next year.
Unidentified Analyst
So is it fair to say we're still left with the repricing of the back book related to increasing the rates of some of these products?
Fernando Dasso
We won't be increasing rates any further, that's probably a case, but some of the – for the debt that is renewing this month comes with a better rate than last year's. So we will still see some effect of that change in the coming say quarter.
Operator
The next question comes from Jose Barria from Bank of America.
Jose Barria - Bank of America Merrill Lynch
I have a question with regards to the risk of FX. Most economies are expecting the currency to devalue from here on to the end of 2015 and thereon.
I just want to see from your perspective, I know that having changed your local currency reporting has reduced the translation impact on your results, but what do you see as the biggest risk of this potential depreciation of the currency on your results?
Walter Bayly Llona
This is something we struggle with a lot. It's complicated.
First of all from a fundamental point of view, we are watching the quality of those – the risk quality of those customers of ours that borrow in dollars and do not have a dollar inflow. So, first primary concern is the quality of our loan portfolio to see whether some deterioration can occur if there were sudden devaluations, and so far we feel relatively comfortable, we'll review that regularly.
Every time we renew the credit lines of customers, we always try to find whether there is some risk of devaluation. So the first element is, what the devaluation impact are, the quality of a credit portfolio, that's concern number one.
And the other is consideration losses at the Credicorp level because there is devaluation. We have struggled with this a lot as well and the end result that we have – what we are positioned is that we operate in Peru, this is a country that is basically going to those local currency, it is inherent in the risk of our equity that we are basically linked with the local currency and we have limited the amount of dollar position that we take, I think it's something like around $300 million, to avoid volatility.
In the past we did have very large dollar positions which did provide us for profits for a while and then provide us with losses at different point of time. We have decided to minimize that volatility.
We believe that the market understands that we are a local currency player and that our results are better understood, the underlying trend results viewed in local currency and we only keep limited long dollar positions. As I mentioned I think the limit is $300 million.
So did I answer your question?
Jose Barria - Bank of America Merrill Lynch
Yes, thank you, very clear. Just to follow up on the portfolios, I understand in the past a lot of mortgage loans were issued in dollars and I think that's changing with your sort of preference for local currency.
First of all on that one, what is the breakdown of U.S. versus local currency in that portfolio and if there are other segments where you would be more concerned given the comments you made on the quality of the portfolio?
Walter Bayly Llona
So the number I have in my mind is that of the new disbursements of mortgages, 90% or more are local currency denominated. Now of the stock I think we might be closer to 50-50, but what is happening is that the disbursements of dollar mortgages are lower than the amortization.
So that portfolio is slowly starting to come down. We are not too concerned about that because they are the older mortgages where the loan to deposit ratio is very, very comfortable.
So we are not concerned too much in the dollar portion of the mortgage portfolio. Where we do have some area of concern is that there are some new market companies that continue to borrow in dollars where their businesses are not dollar denominated, and those are the ones that I alluded that we watch very closely.
What happened is that these companies for many years had like the perfect incentive where the dollar was the weak currency against the Sol and it had the lowest coupon. So that was like the CFOs paradise.
So it's taken a while for them to realize that borrowing dollars does have some risk and we are working aggressively and we will try to watch those risks very closely.
Jose Barria - Bank of America Merrill Lynch
I see, very clear. Thank you very much.
Fernando Dasso
Just to elaborate on your first question, the trend now is going towards Soles because our loans are going into Soles, companies are beginning to look more for Soles than dollars, we also have all the incentives from the Central Bank in terms of reserve requirements. Reserve requirements in Soles are already 10%.
Three years earlier it was 30%, now it's at 10%. And reserve requirement in dollars are around 43%.
So we have all the incentives and the trend in the market is to go in our asset side towards Soles and on our liability side towards dollars. And on the other hand, we have more now – not in terms of risk but in terms of our net income, we have more income in dollars.
The proportion of our income in dollars is larger than the proportion of our expenses in dollars, and that also helps our margins.
Operator
The next question comes from Boris Molina from Santander.
Boris Molina - Santander
I had a couple of follow-up questions regarding your funding and your capital position. Is the situation that the banks are borrowing from Central Bank to sustain credit growth the only situation, I mean are there other banks in the system borrowing, and how sustainable is this because at the end of the day you do have pressure from international flows and the Central Bank is [filling] (ph) reserve to sustain outflows and obviously this puts a lot of pressure on the [master] (ph) liquidity, how would you view the coordination between the Central Bank and the regulator in order to ease somehow the resource pressure on the bank, because obviously finding attractive funding sources in the system and at the same time the local regulators [indiscernible], I will say probably more or less on reasonable capital ratios or capital requirements that if we look at your consolidated core Tier 1 it's around 6.6%, so we understand that, yes, there are ways to shift part of those equity shareholdings that you have from the bank to the holding company but this doesn't help at all the Group, so how should we think about this because when you say about your capital ratios improving, should we expect your payout ratio to decline from 25% to 15% or should we expect that the sustainable growth rate in terms of credit is structurally lower now at 11% and this will help your capital ratios improve and this slower growth is going to ease the pressure on your funding sources because at the end of the day we think kind of like we've reached kind of like an inflection point here, commodity prices are declining, resource are declining, growth has to slow down or it has slowed down and probably will not recover, so how do you think about this outlook and will differentiation period with the Central Bank has to continue to fund the banks in the domestic [indiscernible], is it something that has no end date this policy or how can we think about this?
Walter Bayly Llona
Okay, let me try to give you some ideas on all the concepts you mentioned. Let me start tackling first the issue of core equity Tier 1 which you just alluded.
The conversation we were having before about the core equity Tier 1 not having improved this year is at the bank level. That is really where we measure the core equity Tier 1.
The concept of core equity Tier 1 at Credicorp level, I'm not sure it means a lot because Credicorp is a holding company that consolidates an insurance company, a pension fund, couple of banks. So Credicorp as a holding company does have a capital requirement regulation issued by the Superintendency.
It is very complex because you consolidate hospitals in that holding company. So the capital calculations are different from that of a typical Basel III core equity Tier 1, Tier 2, et cetera.
And at the Credicorp level, we have ample regulatory capital which we think is – we do have ample regulatory capital. Where we have more constraints is at the bank level and that is what the conversation we were having that even though we have had a 24% return on equity at the capital and a growth of loans of 13%, why hasn't the core equity Tier 1 improved.
And the reason behind it is what I mentioned that during that period we acquired a bank which is Mibanco. Therefore the accumulated profits did not contribute to increase the core equity Tier 1 but rather we increased the risk-weighted assets because we acquired another subsidiary.
So that is in relation to core equity Tier 1. Let me stop there and make sure you have that clear.
Is there any further question on that?
Boris Molina - Santander
But could we expect the impact to decline going forward, because you've spoken about some due dividend payments, I don't know if this implies a change in dividend policy?
Walter Bayly Llona
No. What I meant is that the bank distributes profits, dividends to Credicorp, Credicorp receives dividends from the bank, from Atlantic, from Pacific, from everybody, and then Credicorp distributes dividends to the ultimate shareholders of Credicorp.
What I alluded was that the bank will pay less dividends to Credicorp, thus retain more than if had done in the past, but at this stage we do not envision any changes in our dividend policy at Credicorp. We will keep them on the low end of our dividend policy to be on the safe side.
Is that clear?
Boris Molina - Santander
So we should expect the dividend policy to be between 20% and 25% going forward more or less?
Walter Bayly Llona
Keep it also low end. That's where we – for Credicorp…
Boris Molina - Santander
For Credicorp, at the holding company. And the low end meaning closer to 20%?
Walter Bayly Llona
That's correct.
Boris Molina - Santander
Okay, wonderful. And then in regards to the domestic market situation, I mean how is the system coping with this situation with the Central Bank securities?
Walter Bayly Llona
Again, the Central Bank manages all the liquidity in the country and the way they operate is that once they have inflation targeting, one of the tools of inflation targeting is they decide where the reference rate is, and the reference rate should be, if the monetary policy is being properly applied, at the reference rate. So if there is a shortage of dollars in the inter-bank market, obviously the inter-bank rate will be a positive reference rate.
What that means is that what the Central Bank has to do there is inject liquidity. So they are always trying to target that the inter-bank lending rate is an equivalent of the reference rate.
So having had those two elements, the other element of monetary policy is that the Central Bank is always concerned about too much, too sudden, too dramatic changes in the FX rate, not because they have foreign exchange rate target, it is because they don't want the portfolios of the banks which continue to have a certain amount of dollarization, as we have discussed before, they do not want the credit quality of those dollar portfolios to be affected. That is why they want to smooth out changes in the exchange rate.
Today there is a pressure to devaluate the currency. There is a constant demand for dollar and the Central Bank feels that if they were to be very loose with local currency, a lot of that local currency would flow into dollars putting more pressure.
So they are keeping liquidity extremely tight. But on the other hand, the fair element that they balance is they clearly do not want the banks to stop lending because they don't have any local currency.
So they have that balance in which they provide enough liquidity for the loan books of the banks to continue growing but not more liquidity so that it puts pressure on the dollar and they monitor that the inter-bank lending rate is at the level of the reference rate. So that is the balance that Central Bank does and they've been doing that for many years quite successfully by the way.
So we are not concerned to the fact that there will not be enough Soles to go around. And again, the Soles should never be more – cost more than the reference rate.
Did I answer your question?
Boris Molina - Santander
Okay, wonderful, thank you. Yes, more or less, yes.
Walter Bayly Llona
Okay. Please, Boris, if you have any more – you want to talk to us a little bit more, please do give us a call and we'll [indiscernible] to go over this with you in more detail if you want.
Boris Molina - Santander
Wonderful. I'll do that.
Thank you.
Operator
We show no further questions. At this time, I will turn the call over to Credicorp's Chief Operating Officer, Walter Bayly, for any final remarks.
Walter Bayly Llona
Thank you very much for joining us in this call and for some very, very good questions and a good conversation. We are very satisfied with the results.
After several quarters of having indicators of our core businesses that were not good, we have seen, we have turned around and we believe that we are in a positive trend in the key indicators of our core business, and with this I mean margins, lower cost of risk and cost controls. And these increased margins are due to better pricing techniques and working on our cost of funding, and again lower cost of risk and cost controls.
Those are the three core trends that we've been working very closely, which I think we believe that at the end reflects the results of what we do here. What are the challenges going forward?
Clearly we have to consolidate the above. We have to consolidate working on our margins, on our cost of risk and our cost controls.
At the Credicorp level, we have to keep working on Pacifico, the association with America we think is very powerful, it will allow that business to go up the learning curve of management of hospitals, clinics and health services much faster than we would on our own. So we think there's a lot of value to that association.
We have to continue working on the merger of Mibanco and Edyficar, working on the risk levels, on the operating margin itself and this quarter finishing again all the cleanup and the merger. As I mentioned before, we believe that this will rather quickly become the second most profitable subsidiary of Credicorp, we're paying a lot of attention to it and we are extremely excited with the opportunities it offers going forward.
And last but not least, we have to continue working on Credicorp Capital. Credicorp Capital is now operating but clearly it is not providing us with a return on equity that we had anticipated.
There are a lot of market factors including devaluations in Chile and overall the lower level of growth than we had originally anticipated when we had bought this asset. So those are the challenges that we are facing and most of our management talent is dedicated and focused on.
Again, we want to thank you very much. We are very enthusiastic about what we feel has been a turnaround quarter and we have every expectation of continuing to delivering good returns to our shareholders.
Thank you very much.
Operator
Thank you, ladies and gentlemen. This concludes today's conference.
We thank you for participating. You may now disconnect.