Popular, Inc. (BPOP) Earnings Call Transcript & Summary

Good afternoon, everybody. This is Gerard Cassidy from RBC Capital Markets. In our next fireside chat, we have Popular, affectionately known as BPOP by their ticker symbol. Popular, Inc. has approximately $66 billion in total assets; a market cap today of almost $6 billion; trades just about at book value per share; an attractive dividend yield of about 2.4%; and a very strong CET1 ratio, which is slightly over 16% at 16.3%. We're very pleased today to have 2 of the senior executives from Popular with us. Ignacio Alvarez is the President and CEO and has been at Popular when he joined them in 2010. Prior to being named CEO, he was President of Popular. And Carlos Vázquez is the Chief Financial Officer for Popular. Carlos was given that job back in 2013. And prior to that, he was a senior Executive Vice President, and he joined Popular back in 1997. Gentlemen, thank you so much for joining us.

Good afternoon.

You're welcome, Gerard. Happy to be here.

Maybe Ignacio, and I apologize for always messing up your name to start off with. But feel free -- I was saying to Carlos, feel free to call me Geraldo. So that's okay. And so anyway...

You can call me Nato. It is my nickname.

Okay. There you go. Last year was obviously an unprecedented year, as we all know, in our lifetimes and for obvious reasons with the pandemic and COVID. So we'd just put that off to the side for a moment, and you take a look at what the biggest surprises were to you and to Carlos for Popular and how you guys managed through this process in unprecedented times. Maybe you could share with us some of the highlights that you guys can point to about the past year.

Yes. I think that one thing that helped us is we sort of have a PhD in unprecedented crisis. We had a 100-year hurricane and Maria, and then we had earthquakes at the big -- most people think the bad stuff started in March with the pandemic. We had a series of earthquake, series of earthquakes in January. So I think the -- really, the big difference, and I compare this to Maria to the pandemic is the role technology has played and how really it helped us. I mean the biggest problems that we had in Maria were really communications. Communications were disrupted in Puerto Rico, so it was very difficult, and that made everything very, very hard. As most people would say, I was surprised how fast as an organization we were able to give both our support staff to work remotely and how we could make changes in our branches so that we could service our clients in a way that maintained our employees' safety and our clients' safety also. So the way that we were able to rapidly adapt, I think, is one of the biggest surprises. We've got computers, and thank God, the -- again, the technology, we use Teams mostly but a lot of people use Zoom and other things. If those technologies weren't around, it would have made our lives a lot more difficult. From another perspective, again, I think Puerto Rico, a lot of people always say, "You guys operate in such a challenging environment." And sometimes the regulators and the rating agencies and the capital markets sort of make us for that, but we think Puerto Rico is a source of strength. We know our clients very well. They know us. They're very resilient. And -- but I would not be totally truthful if I wouldn't say that we were surprised how well our clients held up in general from a credit perspective. Obviously, there's been an unprecedented level of federal assistance that continues now with the new COVID package. But that's some of the 2 biggest surprises. I think operationally, how fast we were able to get going and get up and running; and two, just how well our clients have reacted. I don't know, Carlos, do you want to add anything to that?

No. I think that I agree with Ignacio. The speed at which work from home became the norm was surprising to us, but I think it probably was surprising to everyone. So that's probably at the heart of it. And again, as Ignacio said, we have a lot of practice with catastrophes, with hurricanes and earthquakes and 10-year recessions and a bankrupt local government. But sometimes we forget that our clients have that experience as well. So our clients have become very resilient over this last decade and the things we had to overcome, and that shows through in their credit behavior during the pandemic.

Very good. And as you both know, banks are products of their economy. Can you maybe just give us some color on what's going on in the Puerto Rican economy and how that interacts with the U.S. economy to give investors a feel for the opportunities for continued improvement in credit as well as loan growth? And then could you also touch on, I think there was a recent announcement that there may have been a negotiated settlement with the different bondholders with Puerto Rico. And if that's true, coming out of bankruptcy, just what would that mean as well for the economy?

As you could probably -- you probably can see from the nature of your question, a lot of things are going on in Puerto Rico. And for the first time in a long time, almost all those things are aligning in a positive fashion. Our economy used to be very aligned with the States because of the financial crisis. And then the financial crisis, we became a little bit disaligned. We went into the financial crisis a little bit earlier and took us long [Audio Gap] This year was very similar to -- 2020 was very similar to the year for most people in the U.S., where the first half of the year was tough for banks, and we picked the big reserves in the first quarter. The amount of business activity in the second quarter affected fees and other things. But we saw really strong recovery in the third quarter and then a strong recovery in the fourth quarter. So, so far, we're paralleling the U.S. economy very similarly. I do believe there's going to be a difference now in the sense that Puerto Rico, one, I believe, benefits disproportionately from the COVID relief packages we've been getting. Because we have a lower income level in the States, these packages have a proportionate greater impact in Puerto Rico. The $1,400 per person, family of 4, that's $5,600, where per capita income was in the low 20s. That's a huge number. The $300-a-week unemployment is very, very stimulative. This package has so many things, we're still parting through it, but one that's very big and maybe hasn't gotten enough attention is the child credit provisions, where people are going to get $3,000 a year basically for per child. And if the child is under 6, it's $3,600. In Puerto Rico, that program was severely limited, only applied to families with 3 or more children, and we had a $2,000 cap. So that's huge. There's another $155 billion for aid to the territories and tribal communities apart from the aid to the States and the municipality. So there's a lot in this package. I think it's going to disproportionately affect Puerto Rico. But second of all, apart from this package, we still have the huge amount of federal funds that were allocated from the hurricane and less so from the earthquake, but I won't even get into that. But just from the earthquakes, I think the total amount -- I got it here. The total amount actually allocated to specific programs in Puerto Rico was $60 billion, of which about $40 billion has been actually obligated to specific projects or areas, but only $17 billion has been disbursed. So as you can imagine, we're going to get the -- we're going to get the stimulus impact of the COVID. We're going to begin to get the stimulus impact really of the hurricane recovery funds. I think that's mostly going to happen in 2022. What will that do alone? I mean I think in the beginning, you'll see a little bit of crowding out as people have so much money that they won't borrow. But as the economy picks up steam and people may get more confident, we believe that loan demand should pick up. In the short term, we have seen strong demand in auto, so you can imagine some of these stimulus payments makes the down payment easier. In the first 2 months of the year, auto sales in Puerto Rico up 37%. So -- and we've seen stronger demand for housing, too. So again, I think there'll be initial crowding out effect with all this liquidity, but I do believe, longer term, as we get near the end of the year into 2022, we should start to see loan demand increase as people are starting to see the benefits of this economic growth.

Those are some incredible numbers that you've presented and really points to some real growth opportunities for Puerto Rico to the point where, as you mentioned a moment ago, you guys have a PhD in kind of disaster management. And you -- or Puerto Rico could be in for a string of a multiyear expansion that you're probably having witnessed in quite some time.

We have not, and that's why I think some people would want to see it to believe it. But you're right. We haven't -- we've gone through a very difficult period of either stagnant growth or difficult things like the Hurricane. But the stars are starting to align for the first time. And so I'm very hopeful, maybe everything will kick in as planned. But there's other things that could be beneficial that I haven't mentioned. Biden made a lot of promises to Puerto Rico, one of which would have a very big budgetary impact, which is that they would give us parity in Medicaid funding. That would put over $1 billion into additional money that we wouldn't have to spend on health care. And that's one of the several promises he made. That's not in the COVID bill. It's anywhere else. But that's like a possible upside. You have the upside that an infrastructure, a national infrastructure bill is clearly one of the -- I think one of the things, one of the initiatives that the Biden administration wants to get accomplished. And we have no reason to believe we wouldn't get our fair share of that. We've been treated fairly with the vaccine rollout, so we have been treated essentially as a state. We're getting -- in the last couple of weeks, we've got 100,000 doses a week, and that's just Moderna and Pfizer, and we expect starting next week to start getting Johnson & Johnson. So we believe that the amount of vaccines that we get will grow pretty exponentially over the next couple of weeks. So we're optimistic on the health front also, which, at the end of the day, is the one thing that could square everything up if the help started out bad.

No. No. I'll come back to that in a second. I just would like to get your opinion, and Carlos as well, if you want to offer it. There's some talk with the new administration of possibly bringing Puerto Rico in as a state. Does that help or hurt the current conditions for the economy? Any thoughts on what you guys would have from a business standpoint if you are brought in as a state? Or -- and just maybe if you could walk us through quickly what the process is in terms of voting in the -- for the local populace and whether you want to be a state or not?

There was a referendum held in last November and about 52%, a little bit over 52% voted in favor of state help. I don't think there's any way that Puerto Rico will be seriously considered to be a state if that number doesn't reach something over 60, call it, 65, call it, 70. There's very little precedent for a state coming in with that kind of a number. So I think there has to be work done here. Two, I think Puerto Rico only becomes a state if the Democratic party is united in wanting to make Puerto Rico a state, and it has a filibuster proof majority in the Senate. And none of those 2 conditions exist right now. There are important elements in the Democratic party, including the progressive win, AOC and [indiscernible] who have pooh-poohed the sort of the results of the referendum and are not really -- don't seem to be very inclined to be pushing state aid in the short run. And Mr. Schumer has made similar comments like we'll have to get our house in order. So there's a lot of talk. I don't really -- I wouldn't handicap that, that's going -- it's really going to about to happen. It would require a state help. It would require a transformation that hasn't happened in any territory, to my knowledge, and entered into the Union, which is we're outside the internal revenue code more or less. And that -- when you go into the federal system, the federal government gets the biggest bite of the apple of taxpayer money. So you would have to rearrange the finances such that Puerto Rico, unless they got some massive federal subsidy during a transition period, would have to come up with ways to finance its activities, having lost part of its tax base to the federal government. That's a big issue people have to figure out. And I don't think -- I mean people have given a lot of thought to it. But I don't handicap the possibility of it happening in the near future unless those conditions that I told you were to occur. If the Democrats had 60 seats in the Senate, and all of a sudden, they were united on this issue, then maybe it could happen, but none of those conditions exist right now.

Very helpful. Coming back to health care, though. We all know the impact that COVID has had on the Puerto Rican economy as well as the U.S. economy. Can you just give us an update? There's been obviously some very good trends here in the States on the number of cases being diagnosed, number of hospitalizations, et cetera. How have the trends been down in Puerto Rico regarding the COVID situation?

I don't have the exact numbers, but the trends are very positive. We had -- we started off better than most jurisdictions because we had a very harsh lockdown for a long time. Restrictions started to be relieved, and like many people, we had an uptick late October, November, early part of December, which I think November was going to reach the highest numbers of -- and what I follow mostly in Puerto Rico is hospitalizations. We reached over 600 people hospitalized with COVID at one time, and I think that was our peak. Maybe it was 700, and sometimes we have deaths, 20 deaths or 18 deaths reported in a day. We are -- today, we have 1 death reported. We have about, I think, 150 hospitalizations only, 25 or less in ICU, 20 or less in respirator. So the numbers have really ticked down dramatically in Puerto Rico. And that is really before the -- obviously, vaccination comes into effect. And I think we'll be well placed in the vaccination because we are a small island geographically densely populated. So I think that helps us in terms of the vaccination effort. Also, we don't have a strong anti-vaxxer element in Puerto Rico. Most people in Puerto Rico are -- want to get the vaccine. The problem is more getting -- waiting your turn, whatever. For example, we did a survey in -- of our employees in Puerto Rico, and more than 80% said they were highly likely to take the vaccine when it was available to them.

Well, incredibly high. And that's great for herd immunity, of course, as you guys know. Pivoting over to some of the themes that investors are focused on this year for purchasing your stock as well as other bank stocks, has to do with credit and the possibility or probability of loan loss reserve releases in the upcoming year. Can you guys give us an outlook on what you see for credit and the prospects of loan loss reserve releasing in 2021?

So since that's a more difficult question, I'll turn that over to Carlos.

Well, we mentioned at the beginning that we were personally surprised with the credit behavior of our portfolios and how our clients are doing, and I don't think there's a change in that we -- since we gave our last report in the first quarter earnings call. So that's been a positive. The allowance for current losses, as you know, it's almost a mathematical game. And the things that drive the allowance are loan mix, the credit rating of our clients, charge-offs, growth in the portfolio and the economic forecast, the last one being probably the most important driver nowadays. To the extent that the economic forecasts continued to get better, and they've been getting better since the summer, then assuming all the other parts of the equation haven't changed, then in all probability that our allowance for credit losses will get smaller. So to the extent that, that happens, there would be some releases in allowance. We had a small release actually in the fourth quarter. So it's going to be a matter of the pace, what happens to the extent that the economic forecast continues to get better.

3 Very good. It's -- and it ties into our thinking on credit as well as we expect more of these reserve releases for the industry in 2021. Another topic or another theme that investors are focused on, of course, is what's going to happen to the interest rates? Nobody has a crystal ball to really predict accurately where rates will be at the end of the year. We all, like yourselves, have seen the 10-year government bond yield move up very measurably since the beginning of the year. Can you share with us just if rates were to continue to go higher, and you saw the long end of the curve maybe reach 2% later this year. Nobody is expecting the front end of the curve to go up, we understand that. But just maybe talk to us about what kind of impact that might have on your net interest margin or net interest revenue should this yield curve continue to steepen throughout the year?

Shall I take that, Ignacio?

Yes. Go ahead and take that.

The -- I mean we are slightly asset sensitive. So higher rates anywhere in the curve, we prefer to lower rates. We definitely prefer a steeper rising yield curve than a flat yield curve at 0. So the recent changes are positive. Now having said that, the -- now our exposure to rates is really much more concentrated in the short end of rates. And as you said, there hasn't been very much change in the short end, and it probably will remain low for a while if the fed keeps its word. So we'll take any rate that is higher on a steep yield curve because it will be helpful because of our asset sensitivity. The most helpful will be shorter-end rates, and that's probably going to take a little while. But again, everything else being equal, higher rates, even if it's in the long term is better than lower grades. We have, as you know, a lot of liquidity that we're trying to deploy smartly. Now we're also being very careful when we do that because extending duration at a return of 110 basis points is probably not very attractive. And if you look back at it, 2 or 3 years from now, you'll be very sorry that you did it. So we're being cautious but trying to look at all the alternatives when we look at how rates have moved.

Very good and very helpful. Thank you, Carlos. One of the unique aspects of Popular is your very, very strong capital levels. As I mentioned at the outset, your CET1 ratio is extraordinary at over 16%, far above a comparable peer group here in the mainland. Now we understand, obviously, there's a risk premium in Puerto Rico that may judiciously require you to carry more than you should, but 16% plus seems to be on the high side. So with that as a backdrop, can you just share with us your thinking about capital? I know in your fourth quarter earnings call, you did point out that you'll have, I believe, sometime in the early spring, an announcement of capital return. I don't know if there's any updates you can give us there. But just really how you guys approach managing capital and how you think you may give it back to shareholders over time?

I think Carlos could jump in, but we said we're going to try to get to the information to everyone no later than our first quarter webcast. So we're in discussions with the fed as we speak. And if we can get to do better than that, we won't hold the information. If we can get the information at reasonable time before, we'll put it out. But we're still trying to stick to that schedule. We obviously recognize that our capital levels are very high, well above our peers, and we also recognize it probably, the expectation of the market, our regulators and probably our own prudent management is that there's some -- there's got to be some cushion above our peers. Again, in an operating environment, although, again, I caution everyone, how much of that should be a drag, but obviously, we take that into account. We do deal with a regulatory system. So as you know, it's -- the regulators have their views on capital, and their views on capital recently has been limited to last year's or trailing quarter, the average of your trailing 4 quarters. We're in a different -- we feel that we're starting from a higher point of view, but we have to deal with that reality. So we will continue to view our share repurchase program and dividends as one way of returning capital. I think we -- I think our highest best use of capital is our business. And as we've been saying for a while, we're poised to see economic growth. We've been talking about Puerto Rico, but we're also poised to see, I think, extraordinary economic growth in the United States. So I think that's the best use of our capital. We're making a lot of foundational investments in our infrastructure, technology infrastructure, helping us in the areas of cybersecurity, digital offering, compliance, all the things, getting rid of offsetters, all the things regional banks need to do. We're very much invested in that. And I personally, given the climate that we are right now, I don't see a short-term, and I'm just going to say, bank acquisition as one of our top priorities right now. We may buy some niche on -- niche businesses if they're available. But I don't -- I see that as diverting our attention right now. So I don't want to raise that as one of the possible short term. I think medium term and long term, we're committed to growing our franchise in the States, especially like South Florida. But it's not -- bank M&A is not a short-term priority for us right now. I don't know, Carlos, do you want to add something?

I think you described it properly, Gerard. I mean we will normally -- we are operating, depending on what you peer group, probably 400 basis points higher than our mainland peers. And while we will always, on a CET1 basis, probably operate with some cushion of our mainland peers, that cushion is not 400 basis points. So conceptually, as a management team, it would be our continued goal to, over time, gravitate our capital levels in the direction of our mainland peers' loss spread. As Ignacio said, we would love to gravitate in that direction because the growth is healthy and so strong that we move in that direction. But we also understand that capital return is a big part of that process. We confirm that we expect to have an answer from our regulators no later than our first quarter webcast to announce our 2021 capital plan. We are hoping to go back to our normal schedule on capital plan this year, meaning that we'd hope to make the announcement for 2022 capital plan in January, not April. So hopefully, we'll have that. And the other variable here, as Ignacio said, so the guidance from the fed now, so what they seem to be comfortable with, is roughly 100% of past year's earnings in capital return. The market has an expectation for that guidance to evolve over the next few quarters, particularly in the second half of this year. And depending on how that guidance evolves, then we'll revisit our plans and figure out what the next best steps might be.

So Carlos, just to follow up on that very last point. If it evolves where the mainland banks, the large banks are now governed by the stress capital buffer construct of passing your stress test with the CET1 ratio that's greater than your required, there's really no limitation on what they can buy back or dividend down to shareholders in terms of you can't violate the CET1 ratio. But they don't need to get fed approval is what I'm trying to say. Would that -- if that changes, would that maybe bring you guys back to the table in -- before January?

We'll have to -- that's a major change in the rules of the game. If that happens, as being responsible with our shareholders and our capital, we'd obviously go back to the drawing board and try to figure out what it means and what the nice -- the appropriate reaction should be.

Got it. Well, gentlemen, I really want to thank you. We've run out of time. It's been a real pleasure having both of you join us for this year's 25th Annual Financial Institutions Conference. And I thank you, again, and it's been a real pleasure talking to you about the outlook for Popular. Thank you.

Thank you very much.

Thank you. Thank you.

Everyone, take care.

Okay. Okay, take care.