NPLs point to credit quality recovery in Brazil

The Q1 2017 results of the Brazilian banks might mark the beginning of an inflection point for the country’s credit performance, according to Fitch Ratings.

The rating agency believes that the signs of stabilization of the banks’ non-performing loans (NPLs) in the first quarter of this year could be the beginning of a turnaround in the country’s hitherto long-deteriorating credit performance and depressed credit demand. Data from the Brazilian central bank, published in May, show that the system’s NPL ratio increased only marginally (3.8% from 3.7%) in the three months to March 17.

Meanwhile, early NPLs – those that are overdue for between 15 days and 90 days – actually declined, by 0.5 percentage points to 4.3%. Raphael Nascimento, Fitch banking analyst in São Paulo, believes this second statistic “could indicate a broader turning point for the segment”.

He also points out that the retail portfolio NPLs remained flat “which is notable as seasonal factors tend to weigh on this segment in the first quarter. “NPL ratios are stabilizing at a time when loan portfolios continue to contract, meaning that the improvement is not due to an expansion in lending but to factors affecting the ratio’s remunerator.”

Deutsche Bank’s research analyst Tito Labarta agrees with Fitch’s assessment, adding: “Early corporate NPLs improved significantly, which could indicate a turning point for the segment.”

However, despite the signs of green shoots, Fitch’s Nascimento adds a note of caution: “Whether this will translate into a sustained trend remains highly uncertain. Fitch maintains that the operational environment will stay deeply challenging, with asset quality deterioration continuing to be a big risk in 2017.

“There will also be continued performance differentiation between the public and private banks.”

The private banks continue to impress despite the difficult operating environment. Their aggregated improved credit performance boosted the banks’ return on equity (ROE) despite weaker revenue generation from lower lending volumes.

Average ROE for Bradesco, Itaú and Santander rose to 18.7% on Q1 2017 compared with 16.6% one year earlier. Much of this is because the private banks have already provisioned for the bulk of their bad loans in 2015 and 2016, which helped earnings even as aggregate NPLs rose slightly in Q1 2017. And as lower provisioning has been a key driver of recent results, this earnings trend should hold true even if NPLs see a slight uptick in coming quarters.

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