Medium-sized banks face more defaults than large ones

Mid-sized banks are suffering more than their larger rivals in the current cycle of rising default rates. With a less diversified portfolio, a more aggressive approach to draw clients and a less attractive funding structure, these lenders tend to see the quality of their assets deteriorate more when faced by adverse macroeconomic scenarios like the current one, with fast inflation, high interest rates and household debt close to record levels.

Valor analyzed 10 medium-sized banks – BV, Daycoval, Banrisul, ABC Brasil, Pan, Inter, Bmg, BNB, Mercantil and Pine – and found a strong credit portfolio, low growth in margins and some signals that the quality of assets is worsening. These lenders are classified by the Central Bank in categories S2 and S3 that defines them by type and complexity.

The combined credit portfolio of these banks grew 14.75% year over year, to R$301.2 billion, more than Brazil’s five largest lenders (Itaú Unibanco, Bradesco, Santander, Banco do Brasil and Caixa Econômica Federal), which climbed 13.46%, to R$4.1 trillion. But the financial margin of medium-sized banks grew 3.1%, a much slower pace, and totaled R$8.4 billion.

Several of them grew in lines with higher risk-return ratio, such as credit cards and personal loans, including BV, Pan and Inter. Others have portfolios highly concentrated in safer products, such as payroll loans or credit for medium and large companies, which is the case of Mercantil and Pine, respectively.

The default rate in this sample of banks grew in seven of the 10 banks, was flat in one and dropped in two. They ranged from a year-over year drop of 0.47 percentage points (Banrisul) to a rise of 1.8 pp (Pan). Among the large banks, Santander showed the largest variation, with a growth of 0.8 pp. Medium-sized banks increased provisions for bad debts by 49.5%, compared with 37.6% in large lenders.

Analysts say that the group of medium-sized banks is diverse, and that those with portfolios focused on individuals, offering especially credit cards and consumer credit, are expected to face higher default rates. Large banks have a diverse mix, which eases variations.

Renan Manda — Foto: Divulgação

Renan Manda — Foto: Divulgação

“Each bank will have its niche, its strong product. Those working more with retail, those more exposed to these lines, are more impacted,” said Renan Manda, chief analyst for the financial sector at XP. Eduardo Rosman, an analyst at BTG Pactual, said that, faced with the different profiles of lenders, investors are monitoring unsecured personal loans, especially for lower-middle to lower class consumers, more affected by the macroeconomic scenario.

Carlos Macedo, an analyst at OHM Research, said that medium-sized banks tend to take more risk than large ones within the same client profile, because they lack broad bases and need to entice users. “Generally speaking, they take more risk, which means that when they get it right, they earn more, but when they get it wrong, they lose more,” he said.

Conrado Rocha, founding manager at Polo Capital, has a similar view. “The smaller banks are usually focused on two, three products. When everything was going well, with low interest rates, many went to unsecured credit, and it was a boon. Now that the scenario has changed, the situation gets more difficult.”

In a report released this week, Bank of America analysts point out that they have met with Brazilian investors and that they are concerned about the global macro scenario and are choosing to weather the storm by investing in the country’s large banks, which have historically performed well in periods of fast inflation and high interest rates.

“Most investors seem to believe in a high interest rate environment for longer in Brazil, which is detrimental to the operations of most technology-driven players whose funding depends on wholesale banking. This reduces interest in payment companies and digital banks, as well as in deals with lower returns, such as foreign exchange and investments.”

Mr. Macedo said that measures adopted to fight the pandemic, such as payment breaks, the emergency aid paid to informal workers and government credit programs, created a “compliance bubble” in the financial system, which is now shrinking. “The big question is whether defaults will just go back to the pre-pandemic level and stop there or rise beyond that level and reach the peaks seen in past crises. I believe in something in the middle way,” he said.

Mr. Manda, with XP, also was not surprised by the increase in the indicator and said that the question is much more the pace of growth going forward. For him, the most likely scenario is one of normalization, but “a little above the historical average.” The analyst points out that this is not a trivial year, with a difficult economic scenario and elections. Looking ahead, Mr. Rosman, with BTG, believes that the default rate will rise, especially in the riskier lines, and that lenders will adopt a cautious approach for new originations.

At the same time, the mismatch between the growth of the portfolio and the financial margin is, according to analysts, expected due to the cycle of high interest rates. The expectation is that over the next few quarters this difference will start to fall. “The cost of funding for banks has risen and, as a large part of the portfolio is fixed-rate loans, they lose margin. As the portfolio rotates, the new lines come with interest rates more compatible with the current ones,” Mr. Manda said.

Banks have a few options when they see asset quality starting to fall. The first is to restrict supply, especially of riskier lines, by reducing the issuance of cards, for example, and raising interest rates. In addition, they can take a more proactive approach and seek out clients with difficulties to renegotiate loans. The third option is to sell portfolios of loans in arrears.

Pan said, when commenting on the results of the first quarter, that it has been adopting restrictive measures since the fourth quarter of last year as it anticipated that the macroeconomic scenario would worsen. The issuing of cards fell 55.4% to 316,000 in the first quarter of this year from 708,000 in the third quarter of last year. Car loans, on the other hand, dropped 13.2% in the same base of comparison, going to R$2 billion from R$2.3 billion.

“We used to issue almost 200,000 cards a month, now we issue 100,000. We have reduced the pace by about 50%. Car loans were reduced by 15% to 20%. We are adapting our policies, our risk management, to the macro conditions,” Pan CEO Carlos Eduardo Guimarães told reporters.

According to him, the bank expects defaults to end the year near the current level of 6.8%. “We have a more restricted credit and tighter collection since the end of last year,” he said.

Inter CEO João Vitor Menin said that amid high interest rates in the country, the credit portfolio is expected to grow 50% this year and “maybe more than that” in 2023, depending on the macroeconomic scenario. According to him, there will be a slowdown this year compared with 2021, when the portfolio almost doubled, but there is still room for expansion, considering factors such as funding at competitive costs and high collateralization of the portfolio. After a strong growth of the credit card portfolio, a deceleration is expected this year, with a “better balance” with other products.

BV’s credit portfolio rose 5.6% year over year, to R$76.2 billion. Car loans were virtually stable, at R$41.3 billion, but origination dropped 18.5% in the quarter after a combination of a more conservative credit policy and a 24.7% drop in the used car sales market, according to data by Fenabrave, a trade group that represents vehicle distributors.

BV CEO Gabriel Ferreira says that at the turn of the third to the fourth quarter of last year the bank started to see pressure in the default rate. Since then, it has tightened credit and adjusted policies, which has already had an effect. This does not mean, however, that the performance of the automotive segment will no longer be a source of concern. “Defaults are already back in a sustainable level. What needed to be done has been done. But a key question is how long will this inflation shock last and, consequently, how long will be the period of high interest rates,” the CEO said.

Source: Valor International