Good morning. I'm Tomás Lozano, Head of Corporate Development, Investor Relations, and ESG. Welcome to Grupo Financiero Banorte's second quarter earnings call. Our CEO, Marco Ramírez, will provide an overview of the evolution of the main macroeconomic indicators for the first half of the year, as well as the main results for the group, including loan growth, asset quality, and a more evident recovery of our insurance business. Regarding ESG, you will find our quarterly update in the earnings call deck and in our investor relations and sustainability webpage. You may also find our first report on Equator Principles, which summarizes our environmental and social risk assessment practices during 2021. After our CEO's presentation, Rafael Arana, our COO and CFO, will provide details of the main financial results of the group, including the impact of higher reference rate, continued cost control, and capital ratios.
We will proceed with the Q&A session. Please note that today's presentation may include forward-looking statements that are subject to risks and uncertainties, which may cause actual results to differ materially. On page two of our conference call deck, you will find our full disclaimer regarding forward-looking statements. Thank you. Marcos, please go ahead.
Thank you, Tomás. Good morning, everyone. Thank you for joining our call today. The second quarter of the year presented encouraging results for the financial group, despite some evident headwinds in the macroeconomic environment. Mexico and most of the countries have seen a rebound in COVID-19 cases. However, hospitalization and fatality rates are nowhere near what we experienced during the first waves. Nevertheless, this is still presenting a potential disruption in supply chains. GDP is poised to extend its recovery throughout the year. Our economic analysis team is holding its annual growth estimate of 2.1%, despite a deceleration in the U.S. economy, persistent inflationary pressures, and further tightening of monetary policies. High-frequency data analysis for the quarter suggested higher than expected industrial growth in manufacturing and construction, and additional recovery in services, considering better mobility conditions, strong remittances, and good employment dynamics.
Inflation remains as one of the most important challenges for the Mexican economy and the rest of the world. Annual inflation reached 8% in June, and it is expected to end the year in similar levels. Our economic analysis team has revised its forecast to 8.1% from 6.7% for 2022. Therefore, we anticipate interest rates to climb faster than previously expected, reaching 10% by year-end. Later on, Rafael will comment on the implication of this for our margin. A potential recession in the U.S. could translate into lower external demand for Mexico, lower investment and remittances, resulting in lower GDP growth, especially for the year 2024. However, this could be offset by Mexico's potential gains for near-shoring strategies.
We could increase the current export levels by approximately 10%, thanks to Mexico's logistical advantages, geographical location, and younger demographics. On the political front, Congress is expected to focus on the budget for the year 2023, which must be presented no later than September 8. On the legislative agenda, attention will be centered on the potential introduction of an electoral reform proposal by Morena, as well as a proposal to reorganize the National Guard under the Secretariat of National Defense. Moving on to the bank's operation. During this quarter, all our teams have been fully working under the new hybrid working schemes, with sanitary measures still enforced in our different buildings to ensure the safety and well-being of all our teams and clients.
Diving into the financial results for the quarter on slide 3, I would like to highlight that the solid performance is supported by a strong fee activity, contained expenses, better than expected risk metrics, and a shielded balance sheet. Starting off with profitability, slide 4. ROE improved more than 140 basis points in the quarter on the back of solid performance across most of the businesses. Nevertheless, it continues to be pressured by insurance results, which are still below pre-pandemic levels, but already showing positive signs of recovering towards the second half of the year. Slide 5. NII from the loan portfolio increased 4% quarter-over-quarter, and it is not yet incorporating all of the effects of the reference rate increases during the first half of the year.
Non-interest income decreased in the quarter as a result of lower trading income and the seasonal effect of insurance premiums during the first quarter of the year, despite stronger fee activity. Zooming into fees, slide number 6. They expanded during the quarter and the year, driven by strong electronic banking fees, higher advisory and structuring fees in commercial and government portfolios, and more dynamic transactions in consumer products as a result of the reactivation in the internal demand and higher mobility, hence increasing also POS and mobile transactions. Moving now to slide number 7, we see a strong quarterly and annual expansion across the loan portfolio. Corporate and commercial loans gaining traction, and this trend is expected to continue for the second half of the year as we benefit from the nearshoring operation, especially from the manufacturing industry.
The government book is also picking up, and we will continue to see encouraging trends for the rest of the year. The consumer portfolio, slide number 8, also had a relevant expansion during the quarter, driven by payroll and credit card loans. As previously mentioned, high-frequency data show good consumption dynamics on the back of higher mobility and employment levels. As for auto loans, we saw better than expected performance despite the supply shortages that we continue to face in the sector. For mortgages, demand is expected to be resilient during the rising rate cycle as we shift our business approach to one that is centered in the customer lifetime value and increase personalized offerings. On the slide number 9, asset quality continues to perform better than expected. NPLs remain resilient during the quarter, with improvements across most of the portfolios.
Analyzing the results by subsidiary, slide number 10, the bank continues to expand on the back of solid NII, asset quality, expense management, and expanding loan book, showing historically high levels of ROE above 27%. In this regard, we are already working on the strategy to optimize the use of capital. I will provide more details on this in a few minutes. The insurance business results were impacted by a normalized premium origination after the seasonal peak in the previous quarter. However, operating results show continued growth, especially in bancassurance. Regarding COVID-related claims, they continue to present a downward trend and are expected to gradually reach pre-pandemic levels during the second half of the year. The broker sector show a quarterly reduction impact by lower inflation premiums. The annuities business remained relatively stable during the quarter, driven by higher reserves from inflationary adjustments.
As for pension funds, the business was still impacted during the quarter by a fee cap imposed by the regulator, along with the valuation impact of higher rates in the forest long-term investment. Slide 11, we provide greater detailing to the insurance business, showing seasonal quarterly reduction of premium origination, but with good annual expansion, driven by an increase in business with lower claims, which are normalizing in auto and damages as mobility increases. Those related to health and life are still declining as COVID-related claims continue to cease. Moving on to slide 12. We continue to see good operating and profitability metrics at the joint venture with Rappi. The number of cards issued are steadily growing. During the quarter, we have affiliated more than 100,000 additional cardholders.
Given that the main focus is profitability, we are now extending the JV to reach break-even in 2.7 years, improving our initial estimates. Regarding the launch of our new digital bank, the regulatory approvals have taken longer than anticipated, but we have taken advantage of this additional time to make significant progress in the internal certification of our operating models. We have also added new products and services that will further enhance our offering at the launch date. We are now in the final stage of the regulatory approval process. Shifting gears to ESG, on slide number 13. On the environmental pillar, we are currently undergoing an internal process to measure our financed emissions and define the portfolio's decarbonization goals to accomplish the commitments made with the Science Based Targets initiative and the Net-Zero Banking Alliance.
Additionally, I'm glad to inform you that in June, Banorte was included in the FTSE4Good emerging indexes due to the bank's strengths in implementing environmental, social, and governance practices in line with the international standards. As a final note, I would like to address a number of questions we have received regarding a potential M&A transaction involving Banorte. In this regard, I want to highlight that at Banorte, we are committed to evaluate permanently the best means to add value to our shareholders, both through organic and inorganic alternatives. On the one hand, as we speak, we are seeking to strengthen our commercial teams, focusing on the development of hyper-personalized customer solutions and enhancing our digital capabilities.
On the other hand, we will be open to inorganic growth alternatives as long as any such presented alternative is EPS accretive to our shareholders, of course, after adjusting for execution risk. It is worth mentioning that when we estimate the potential uses of capital, we also consider dividend payments, and we also consider share buybacks increases. To sum up, we keep all options open and need to maximize value to our shareholders. With this, I conclude my remarks. Rafael Arana will walk you through the financial results for the second quarter of the year. Rafael, please walk in.
Yes. Thank you. Thank you, Marcos. Just continue on the same path that Marcos just mentioned. We continue to strengthen our balance sheet. As you know, Banorte has a very strong capability to keep on building capital. We see this as the best fit for the turbulent times that we are living. We are strengthening our balance sheet, and we are bringing more and more value into the statements of the bank, and the position of the bank. I would like to go on a piece by piece basis on what is mentioned on the slide. We can move to the next one. The first one is that the bank continues to move in the right direction.
It's relevant to mention on the return on equity piece, as you see the 27.2% performance for the quarter. That's an outstanding number, but it will normalize more around the 25% for the remaining of the year. That was a result of many extraordinary items in the quarter, but we see a recurrent number more 25%. As you can see, the net income of the bank continues to evolve in the right direction for the right things. Services, the fees continue to expand, the margin continues to grow, the funding continues to go on a lower trend, as we will see in a later slide.
Everything is working along with the extraordinary performance of the risk and collections units on the bank. This aligns with a reasonable growth on the loan book. As you remember, we changed the guidance more around the 7% for the year, and now we are looking at numbers around the 8%. This number that is now looking that could evolve in a positive way. We still see some positive growth on this, but we want to continue to be very prudent in the growth and really keep all the metrics that have been providing the net income and the net income growth for the bank and for all the key metrics in the right direction. That doesn't mean that we are not poised to grow.
As you saw during Marco's presentation, there are very good patches of growth, but we also keep growth and risk at the same. That's important for us. If you look at the net interest margin of the bank, it continues to expand. As you know, the margin for the banks mainly has a lag effect. When you see the hike in the interest rates, you need to wait at least 6 months for the positive full effect of the in the margin for the interest rate hikes. That number will continue to expand, as we see that number reaching 6%-6.2% by the end of the year.
Remember that we now are entering the second part of the year when you start seeing around September, October, a very important inflow of demand deposits coming into the bank. That also will help, in addition with the hike in interest rates, to lower the cost of funds and increase the margin. If we move to the next one, this is quite relevant in the way that shows exactly the lagging effect of the hike in the interest rates and how the margin moves along with it.
When the interest rates hike ends that we think it's gonna end by the end of the year, you will still have around 6 more months that you will be receiving the benefits of the latest hike in the interest rates on that part. That's also a positive number. It's not just the result of interest rate that has a very important piece of it, but also the good growth that we have in the funding side and the cost of funds that we continue to push those costs down. We will see in the numbers, and you can see in the numbers in the report, that the demand deposits are continuing to grow above 15% on that. Demand deposit, 3% on that part.
We continue to raise the funding, the demand deposit funding part of the business at a very good pace. All the business are contributing to this. The retail franchise, the government, the commercial, corporate, SMEs. Everybody is pushing for the growth in the demand deposits. In the next slide, what you see is that what has been. We have received several questions about this, and I would like to concentrate on this part. There has been some questions about that, why our guidance is showing higher numbers and the cost of risk that we continue to see on a downward trend. That doesn't mean that we see any extraordinary disruption in our portfolios.
I think with that we need to be prudent at the same time that we are starting the growth again in the especially on the consumer side. I think we will stay with the guidance, and I would like to pass the word to Gerardo, the Chief Risk Officer, to give us more additional information about this.
Thank you, Rafael. This part of what Rafael is saying is that clearly credit risk management is a mainstay of Banorte's internal control of the loan portfolio. We don't have a very specific case in which we could forecast a big problem regarding cost of risk. We have been performing periodic objective reviews of credit risk levels and risk management processes, which are key to our effective portfolio management. We consider it essential that an effective risk identification process must respond not only to the obvious indicators of a problem, such as delinquency, but also must recognize more subtle warnings of conditions that may affect the ability of borrowers to repay on a timely basis. We are always managing risk and maintaining strong credit administration practices, and we formally do reviews twice every month.
Obviously, we manage risk on a daily basis. What we try to do is staying ahead of the ever-changing financial landscape and addressing potential problems as early as possible with a highly prudent approach. That's the thing. We are not hiding anything. We are not forecasting a really large case of past due loans. What we are trying to implement here is a very prudent approach to credit risk.
Thank you, Gerardo. It's defined exactly. I'm sure you will see a better performance for the risk numbers and the guidance. We like to be prudent, and we would like to be assured that the numbers that we put, or if we change the guidance, that we are completely sure of those numbers. The risk units are performing extremely well. The recovery units are performing extremely well. As you know, these are not especially easy times for projections. If we now move to the funding cost, as you see, one of our competitors continue to lower the funding cost. We continue to push that number down, and we continue to be committed to reach 35 by the end of the year.
The trend has been very positive on this part. We think, because of the lagging effect that we see on some of the interest effects in the funding part, we really see that this number should reach 35% by the end of the year. We continue to be committed to this number. There's another. In the next one, there has been some questions about sensitivity. They say, "Well, sensitivity, why is it not growing if the interest rates are growing faster than you expected?" The fact is this is a function of the variable rate portfolio and also the demand deposits part.
This does not move the total number of the funding numbers with the interest rates, the margin does, but not the total numbers for the demand deposit base. The variable rate of the portfolio also, even if it is growing, obviously doesn't grow at the same pace of the hikes. That's the reason I think it's very reasonable for us to have the sensitivity. We continually, on a permanent basis, reducing the hedging cost of the balance sheet. If we go to the next one. Expenses is a key element of. Here you can see that even the cost-to-income ratio is at 37.8%.
We are facing increased pressures on the expense side because of inflation. As you can see, we have been able to contain that number well below inflation. We think that this number could reach, at the end of the year, more around 7.6%-7.8%, even though the cost-to-income ratio will continue to grow. This is an asymmetrical piece on that part. What you can see is that, based upon the revenue growth that we think will continue to be, that will continue to push the cost-to-income ratio down.
The inflation effect on the cost side will take a lagging time, around 6-8 months, to really reach again the normal levels once the inflation starts to recede. If you go to the next one, please. Capital that has been always a concern, and I want to relate here to what Marco says. We have a very strong balance sheet. We have a strong liquidity. We have the ability to keep on building capital at a very fast pace, and at the same time, not by leveraging the bank at any price. Because if you see the leverage ratio that we are facing, we are one of the least leveraged, if not the least leveraged bank in the market.
The returns on equity that we are providing for the bank and for the group are on a very strong capital base. We are not playing the game of leveraging the bank or the group in order to have an advantage on the return on equity. The return on equity is a solid return on equity based on a strong balance sheet. Strong performance on the loan book, strong performance on the risk metrics, good growth on the margin base, good control of expenses. So this is what allow us to feel confident and comfortable that we could bypass these turbulent times as basically the same trend that you see on these numbers. Not by taking more risk, but taking the right risk on this one.
The other thing that I would like to see is that you will see a drop in the Liquidity Coverage Ratio because it was too expensive for us to keep on those level of liquidity. We are reducing the levels of liquidity because of the availability and the liquidity in the market, and also it's giving us enough room to continue to drop the cost of funds and improve the margin base. I would also like to see because it was at the beginning of the. Marcos, related to that because we have receiving a lot of questions regarding this. The digital bank, as Marcos mentioned, is ongoing, and we are waiting for the approval. But we have not been sitting idle on that part.
The digital bank is gonna be born with a lot more products and services than originally was planned. That will accelerate also the break-even point for the digital bank and will be almost a full offer digital bank for our clients. The other thing that has been concern and some people are very concentrated on this number is that, and Paco will elaborate on that in a minute, is that we continue to improve the growth on the credit cards on the very strong profitability metrics. Also the acquisition cost continues to go down. I don't know, Paco, if you want to add on that.
Yes, of course. Thank you, Rafa. As Rafa was saying, the key piece here is to be prudent and the measuring between growth and risk. In Banorte, we are growing, as you saw year-over-year, above 11% on the portfolio. The number of credit cards that we are selling month by month is growing, and the attrition is getting low. We are confident on that numbers. Talking about Rappi, as Marcos mentioned, we are above 100,000 cards in the last quarter.
also being very prudent and focusing on the revenue and the Net Promoter Score of the customers, because we want them to be extremely happy, and we want to gain the principality of the cards.
With this, I conclude my remarks. Thank you. Thank you very much.
Thank you, Marcos and Rafael. Now we will continue with our Q&A session. We appreciate your understanding during this call, as we will not be taking any questions regarding any potential M&A transaction due to confidentiality matters. I also want to thank you for your valuable feedback. I want to express that regarding the duration of the call, if you need to disconnect and still have questions, please send us an email and we will contact you afterwards. Questions will be ordered on a first-come, first-served basis. Please raise your hand on the platform, and we will unmute you when your turn comes. José Luis and myself will be calling the name of the person that is next on the line. If there are any technical difficulties, please let us know by using the chat. Thank you. We're now ready to start the Q&A session.
Thank you. We will take the first question from Geoffrey Elliott from Autonomous. Geoffrey, go ahead, please.
Hello. Thanks very much for taking the question. It relates to the net interest margin and rates. Firstly, could you explain to us the negative development of NII outside of the bank? The bank NIM was up, but the non-bank NIM was down. Can you explain the mechanics behind that? What are the moving pieces that drive it? Secondly, the sensitivity analysis that you show us on page 20 of the slides, could you confirm, does that relate to the bank or does that relate to the consolidated group? Thank you.
Thank you, Jeffrey. Rafa, please go ahead. The first one is interesting.
Yeah. Jeffrey, as you mentioned, the net interest margin of the bank continues to expand. The net interest margin of the group, when you add everything to the group, has to do basically with the performance of the insurance business and the performance of the annuities business. As you know, the annuities business, we have a portfolio that is driven basically by inflation-related instruments that have a strong peak on the first quarter on that, on that part, on that. That's the difference that you see on that. On the side on the insurance business, even if we see already a recovery on the net interest margin, basically, we still are below pre-pandemic levels.
I think you will continue to see a slow trend, upward trend on the net interest margin of the group, but not at the same fast pace that happened on the insurance business.
At the beginning of the year for the first quarter because of the accelerating pace of the inflation that happened on that part. Inflation will continue to be pressing, but not at the same pace that happened in the first quarter. That's the reason for that. About the sensitivity is basically for the bank.
For the bank. Thank you. Thanks very much.
Thank you, Geoffrey.
Thank you. Now we will continue with Tito Labarta from Goldman. Tito, please go ahead.
Hi, good morning. Thanks for taking my question. A couple questions. One, just on the insurance business, you know, continues to weigh on results a little bit. Can you maybe just give some color there on the outlook? I know this quarter impacted by lower premiums, but, you know, when do you think that the results there can normalize and begin to push results a bit? Then I have a second question after that, if I can.
Thank you. We will start with Rafa, and then we will get with Fernando Solís.
Yeah. Tito, as you can see on the numbers, you see already an improvement on the insurance company. Fernando will add a lot more information about this. Obviously, as you see, there's a continuous coming and going from this COVID piece. In addition for the COVID piece, there's also a lot more mobility on the car issues. Claims are now coming through. We are confident that even if it's not the pace that we anticipate, that we will be releasing provisions. Provisions on a continuous evolution to be released.
What is more important is, if you look at the sales part of the business, the sales part of the business continues to be very strong, and that will continue to happen in the coming months with an increased evolution on the right trend. With this, I would like to pass the word to Fernando to add whatever he considers is needed in addition to what I just said.
Yes, of course. Perhaps to give a view or a feeling of how the performance will be going forward for the insurance net income, I will let you know that remember, perhaps a few quarters back, if not one or two, we constructed an indicator in which, you know, the loss ratio, it depends on the frequency and the severity of the, I mean, of how large are the losses with respect to the portfolios. Mainly our exposure to COVID, we were hurt, and we are still hurting a little bit, is in health insurance, but mainly due to the characteristics of our portfolio in life insurance.
Let me give you a view with respect to the life portfolio. If we were looking at what happened with COVID, I mean, what we did is how much are we seeing more frequency or more severity with respect to what we have previously or previously to the pandemic. For instance, what we were expecting this year, we were expecting for the first quarter, for instance, to have 24 more cases, more deaths than normal. Actually reported and paid, it was close to 0.2. The frequency was very low to what was expected.
In the second quarter, we were expecting 16% above previous COVID levels, and we was also very persistent, and it's also 0.2%. Now, if we look at the average cost or the severity, we were expecting 28% above pre-pandemic levels, and we experienced 16.5%. So in this indicator, which is not the frequency, but how severe the losses are, we're still above the pandemic levels 16%. In the second quarter, we were expecting 20%, but and it reduced to 13%. So things are behaving much better than what we expected.
Of course, the expectations were even lower than what we experienced in the previous year, which was the most costly part of the pandemic for the insurance portfolio. Going forward, we have to wait and see, of course, what's gonna happen with this fifth wave of COVID. Mainly, perhaps we will be more above the loss ratio in health insurance, but we are not expecting as much problems with respect to the life portfolio. So it's hard to tell how much it's going to be. According to these numbers, of course, this year will not be recovering from previous COVID because we are still experiencing COVID.
We have been paying in the first two quarters more than the previous levels of the loss ratio. But I think it is normalizing quite well, even with this fifth COVID wave. Now, as Rafa was saying, on the other hand, we were benefited within the COVID previous periods because the people were not mobilizing as much as they used to, so they were not using cars as much and therefore we experienced an interesting reduction in the loss ratio in the car sector. Now it's tending to normalize. Actually, the loss ratio, to give you an idea, in 2020 it was 47%.
Well, previous to COVID, the loss ratio for the car insurance was somewhere between the previous three years, it was somewhere between 64% and 74%. In 2020, the loss ratio was 47%. In 2020 it was 46%. And as of today, it's tending to normalize, and we have a loss ratio of 62%. In this sense, it's going back to normal as well, and we will not have that benefit due to mobility in this line of business. To finalize something that I think is very important to notice is that we are experiencing interesting growth in the lines that are more profitable for the insurance company.
That is, in all those insurance that is provided through loans. Given the behavior of the loan portfolio, we have a better than expected sales in that sense. Also, in what we call alternative channels of distribution, which are mainly call centers at this time, although increasingly, well, ATMs, but not, it's not so significant and it's also not significant yet, the digital channel. But that's in those channels we are also experiencing a very healthy growth. Also, with the products that we distribute through the branches and the call centers. Sorry, and the branches. They are also growing, and those are the most profitable portfolios of the insurance business.
To finish, I would say that the outlook is good. We're not going to finish this year with pre-pandemic levels of net income, but it's tending to normalize and structurally we're going into the right direction.
Thank you, Fernando Solís Soberón.
Thank you. That's very helpful. Very detailed answer there. My second question, if I may, and I know you're not taking questions on any M&A transactions, so I appreciate you're probably limited on what you can say here. You know, Santander Spain, you know, released a press release last night saying that their bid doesn't seem to have been accepted and they're no longer considering the process. One, can you just confirm that you are still in that process? And then two, I mean, when you think about potential accretions in any M&A transactions, and you don't have to get specific here, but you know, what would have been accretive with your stock at MXN 135 is different than what's accretive with your stock at MXN 118.
You know, maybe the stock is getting weighed down by potential M&A risk, you know, as we see, you know, very good quarter, yet your stock is down a little bit today. Something that Mexico is up a little bit. Just to think about, you know, or anything you can say on what you're considering in terms of what's potential accretive and the best use of capital, in terms of, you know, maybe dividends are easier to do when you consider execution risks. Just any color that you can give on that, would really appreciate it. Thank you.
Thank you, Tito. Unfortunately, I'm really sorry, but we're hands and mouth tied, so we cannot say anything about that. Again, we consider also dividend payments, yes. We also consider share buybacks increases, yeah. As I said in the beginning, we want to maintain all our options open, and then we will decide regarding all the metrics that you have, you know, the price, everything is gonna be in the.
Blender.
In the blender and we decide. That's the spirit and we will do it.
Okay, understood. I appreciate you limiting anything what you can say there. Thank you.
Thank you.
Thank you, Tito. Thank you. We'll now take the next question from Ernesto Gabilondo from Bank of America. Ernesto, go ahead.
Hi, good morning, Marcos and Rafa, and good morning to all your team. Congratulations on your results and thanks for your presentation. I have a couple of questions from my side. The first one is on your loan growth. Just wanted to hear your expectations, considering the higher rates and this potential economic recession in Mexico likely next year. Just wondering if considering a GDP contraction of around 1% next year, how should we think about loan growth? Do you think it will maintain the same levels of this year or it should be lower? Would like to hear, like, your first impressions. And also related to this, can you remind us what is the percentage of the loan book that has direct exposure to the US? That's my first question.
My second question is related to asset quality. So again, considering this scenario of a potential economic recession, how should we think about the asset quality? Which do you see as a riskier products? I want to hear from you, what would be different when compared to previous recessions or crises? Thank you.
Interesting, all of them. Let me start with the second and the third one, and then Dr. Salazar is gonna answer how it is.
Yeah. Hi Ernesto. Regarding the direct exposure to the U.S., I will tell you that currently we have 3% of the loan book related to exporting economic activity. Although we have some other economic sectors like industrial parks, maquiladoras, and tourism, which is a relative significant size of the loan portfolio, which are direct exports to the U.S. If you take that into consideration, you will see that overall our currency exposure in dollar terms is 13% of the total loan book.
As you can see, as you have analyzed, every economic activity which has been banked by Banorte comes from internal economic activity, and some other economies and geographies that we cover within the financial group.
Another thing, as a courtesy. Go, Rafael.
I will start and Gerardo will continue. Ernesto, this is a very important question, and I think we have to understand what has been happening in Mexico and why we are confident about the asset quality. When the relief programs came into action, as you know, the banks in Mexico, they never received any monetary surplus or relief coming from any entity. That obliged us to really evolve a lot in the risk metrics, in the risk origination piece, and also a very important part is in the recovery units.
We put a lot of analytics in place to really follow the client on a day-to-day basis, where we see any chance of deterioration of the client, and immediately address the client to really work with them in order to help them go through the process. When recession comes, and you mentioned the 1.2%, that it has been also validated by our chief economist. Remember that we are also positioned in the north and in the center and in the most important tourism parts of the country. When you look at the 1.2% or 1%, you have to also take into consideration where basically the key activity of the country will come is where Banorte is positioned in that part. That's.
Those parts will not be growing at 1 or 1.2. You will see growth of around 2 or 3, 4% on that part because of nearshoring, because of many, many other things. I think we need to understand this, that Mexico is a mosaic of growth. Fortunately for us, because we have been positioned like that, we are in the right places to take advantage of the growth and to be very, very resilient on the downturns, because activity will continue to be in those places. Tourism will continue to be there, manufacturing will continue to be there, supply chains will continue to be there on that part, and that's where Banorte is positioned.
You can show that because people says, "Well, you know, recession will come in the U.S." Recession was in Mexico when the U.S. was growing at 5%. Mexico was well below growth of 1%. We were negative for that part, and Banorte continued to be resilient because of the way we have structured and positioned ourselves with the client base. That's what I can say.
I could add to that, the front office, the risk team, and also the analytics team have modeled inflation and GDP growth in order to have an expectation as close as possible of what could happen. I will tell you that duration of inflation is key, duration of a recession is key, and we have considered two transmission channels, which could account for purchasing power of families, and also sales from companies and savings available to offset that adverse impact. A second transmission channel could be unemployment, which is a very important variable for our retail bank. We have modeled and forecast those, and we are confident that perhaps recession will occur within 2023, but not for the whole year of 2023.
Our forecast is not a negative GDP growth for 2023, but we are expecting a possible scenario, as you just said, Ernesto.
If I just may add, because I think Gerardo said a very important thing. It's quite important to notice that the world now is facing what Mexico faced and the banks in Mexico faced during the pandemic. Because now that all the relief programs are being withdrawn in the in Europe and in the US, now the banks are taking all the provisions and things that the banks in Mexico took during the pandemic. Believe me, what happened in the pandemic.
It's worse than any recession that you can read. Banorte was extremely resilient on that. We know, as Gerardo says, what the meaning of recession, and we know how inflation works in Mexico, because Mexico has had many cycles of high inflation on that part. This is a different inflation phase, because what Gerardo mentioned is duration is gonna be the key on that part. With that, I stop.
Thank you, Rafael.
Hello.
Very careful.
Sorry, this is Alejandro Padilla, Chief Economist. I would like to add something here. Well, our base case scenario is that the U.S. will face a mild recession. Indeed, it's gonna be maybe a couple of quarters with negative growth rates. However, in the whole year, we're expecting something around 1.3% positive. Given Mexico, we are expecting 1% for next year. Even market consensus is slightly above 1.5%. We don't expect a big decline of GDP next year. What Rafael Arana was mentioning before is true. I mean, Mexico has been lagging vis-à-vis other countries during this recovery of the pandemic.
Indeed, our 2.1% forecast for this year is contemplating that one-third of economic activity remains lagging 5%-15% from pre-pandemic levels. We think that external demand and private consumption will continue being a very important engine of growth throughout this year and maybe at the beginning of the next one. I think that in this regard, at least some of these risks are well balanced, as just Rafael and Gerardo mentioned before.
Very helpful. Thank you very much.
Thank you, Ernesto. Now we will continue with Gustavo Schrodt from Bradesco. Gustavo, please go ahead.
Hi, good morning, everybody. Thanks for the opportunity and congrats on the results. Sorry to insist on this asset quality issue. My question here is, NPLs and the cost of risk are running, I mean, in their historical lows. On the other hand, if we analyze the recent loan growth of Banorte and also Mexican banks, but specifically Banorte itself, it has been very low loan growth, right? It's around 2.5% in the last two years. My question is, if you analyze your guidance of cost of risk, the guidance is estimated an increase in the cost of risk.
My question is, when should we start to see some deterioration in NPLs, considering that the bank is recovering the loan growth, especially in the more riskier lines, such as the credit cards, personal loans? I'm just trying to understand how should we consider or how should we model the NPLs and cost of risk. Because in one side, we've seen these very positive trends running below the guidance and running below the historical levels. On the other hand, the bank is growing fast in this riskier line. I'm just trying to understand how should we think in terms of NPLs and the cost of risk by the end of the year.
My second question is related to loan growth. It is related to the question about the Mexican economy and the U.S. economy. Because, again, loan growth was above the guidance, 8%. You didn't change the guidance. Should we expect some deceleration in loan growth in the coming quarters, or should we work with a potential upside in the loan growth as well? Thank you.
Regarding the cost of risk, yes, we are in very good shape, I would say that. But this is not the only data that we should take care, no? It's the efficient frontier, no? Where we put our money and it doesn't matter if that data goes up, but we're making a good business, no? We expected, yes, that this is the bottom, and it will increase because we will start to increase our loan in some sectors that we want to be, because the efficient frontier is not there at all. It will be there. Thanks to those characters, the part of the equation, we can manage to grow instead of saying that we will diminish.
The idea is to see the opportunities, and maybe, yeah, it could be a good. I don't want to say a number, but if we get to 2% or 2.5%, it's a very good number. Because we are doing business, no? The way to do it is because we have here the tools to go in that direction, no? It's not because we don't want it. It's because we want to do it. Yes, you can expect that we will start to go to consumer and to other products, but taking care of what we are going to do, no?
I would like to see that as an opportunity because we're in good shape, and we can maneuver the risk and see where we want to go, no? Yes, it will go up. We don't want it to zero because this is not a bank. It should be something, again, the name of the word is efficient frontier, no? Regarding the, we are not moving the long road. Maybe we can move it a little bit. Let's say, it's gonna be close to double digit, no? Everybody loves to say that. Double digit. Close to. We will move it around that for the rest of the year. As we said, we have this high frequency data.
I would like you, Alex to say a little bit about this tool that we have. Yeah. Alex, please go ahead with the high frequency data analysis that we have.
Yes, for sure, Marcos. Thank you. Well, what we have analyzed is big data from the bank and other big data that suggests that at least in the first half of this year, the Mexican economy has performed quite well. Indeed, that's why we are holding our GDP forecast for this year at 2.1%, acknowledging obviously that there is part of the economic activity that remains below pre-pandemic levels, but they are portraying an important positive trend in the last months. So far in the year, we have been observing a big recovery in external demand, especially the manufacturing sector and also the private consumption.
Given this data that Marcos was mentioning before, what we have been observing is that product consumption, which is nearly two-thirds of total GDP, have been observing a very good performance benefited by better mobility, remittances at historical highs, better employment conditions. Obviously these are offsetting part of the negative effects of inflation and interest rates on disposable income. Given this, we think that services like restaurants, hotels, transportation, entertainment, just to put some examples, will continue performing quite well throughout this year. At least the high frequency data that we analyzed, this is what is suggesting, and that's why we are maintaining our 2.1% GDP growth for this year.
Great. Thanks a lot. Congrats again.
Gustavo, just a last one. Remember that we still have MXN 1.2 billion of unused reserves ready to handle any extraordinary issues as needed.
Yes, sure. Thanks for the clarification, and thanks for the answers.
Thank you.
Thank you.
Thank you. We will be asking you to only ask one question because we still have a lot of analysts and investors waiting for a question. Please limit yourself to one, and if you want, we can connect afterwards anytime. Now we will go with Thiago Batista from UBS.
Hi, guys. Thanks for the opportunity. I will continue on the guidance. My question is about the earnings guidance. The top of the range, if I'm not wrong, is MXN 42 billion of earnings. In the first half of the year, the bank already delivered MXN 22 billion. This implying a decline in earnings in the second half of the year. My question is, this is really the bank expectations, this earnings decline in the second half? Or the bank decide to take a more conservative approach in the guidance and not change the guidance every quarter. You wanna maintain the guidance, but a decline in earnings is not the base case scenario.
Tiago, thank you. No, we are not changing the path. We will continue growing. You will see a better number there. We think that it's gonna be better. We are not changing because we want to be conservative, but you are right. We continue in the same track. The same track leads you to another number, and it's gonna be a number bigger. Yes, you are right.
No, thanks for the answer. Very clear.
We will now move with Ricardo Buchstab from BTG. Ricardo.
Good morning, everyone, and thank you for the opportunity of making questions. I have a quick one on my side. I just want to understand a little bit more what you expect in terms of dynamics for fee income in the following quarters. I saw that Q2 was a very strong quarter. I wanted to understand as well if there was any extraordinary events that helped this line in the results. Thank you.
Rafael, please go ahead. No, there is no extraordinary events on that. I think it's the dynamics of the bank moving in all the channels. The physical part of the bank is fully in place. All the digital channels are extremely active. Remember that all the transformation that Banorte has been going, now you can onboard most of the consumer products in less than 5, 6 minutes and get a credit card, mutual funds or whatever. That is giving us everything that is related to activity, and the fees will continue to grow. There's no extraordinary items there. There have been special parts about special events regarding the credit cards, but I would say the core is exactly where it is going. It will continue to grow.
Thank you. Very clear.
Thank you. Now we will continue with Luis Yance . Luis, please go ahead.
Hi guys. Thanks for taking my questions. Just, you know, but just one question, I guess. If, I mean, your expectation is that rates have peaked at 10%, and I understand the lag effects of that in terms of the benefits.
Luis, we are losing you, Luis.
Can you hear me now?
Yeah. Perfect.
Great. I was saying, like, on your expectations that rates go to 10%, and I understand the lag effects of that in terms of the benefit you see at the bank. Just wondering, you know, at that level, once you get the lag effect going away and you already have the full positive impact, what would be or what could be the NIMs for the group. What would that mean in terms of, you know, the ROE for the group, let's say at peak profitability, if you will. What is the assumption within the ROE in terms of dividends once we get there? Perhaps, you know, without dividends or with dividends, just to get a sense on that one.
Yeah. As you say, all the lagging effect on that part, I think you will continue to see a big push on the bank, on the bank NIM. The bank NIM is basically the key driver for the group, but still we will have the effect of not a full benefit of the insurance business. More, I think the insurance business will start to and continue to grow and balance that out. A return on equity for the group at the full pace after the full effect after the lagging six months that we usually have. You will see from 21% to 22% at the group level and close to 24% or above the 24% for the bank.
Great. Would that assume an additional dividend that you would pay until, let's say the peak is, you know, you get the full effect in June next year, you know, with the six-month lag. Would that assume any additional dividends, or that's just you know, the way it is without dividends?
No, I think, as you have seen in the past, we have a policy from 18%-50%, and when there's the opportunity to go for extraordinary dividends, we have also paid that. I will relate to what Marcos mentioned. Maybe buybacks will be in place on that part and in addition to the dividends. Many options for the bank based upon the buildup of capital. Also, Luis, you have to take into account that at this point in time it's prudent for us to be, in our way, being inefficient by holding capital because we need to have always a very, very strong balance sheet. I think times ask for you to be prudent.
Great. Thanks a lot, Rafael, and congrats on the results.
Thank you.
Now we will go with Alonso Garcia from Credit Suisse. Please, Alonso.
Hi, good morning, everyone, and thank you for taking my question. My question is a follow-up on margins. Your guidance of 25-35 basis points expansion represents basically a NIM for the year of around 5.8%. In the first half of the year, you have already reported a NIM for the group of 6%. Just want to confirm if you believe your guidance for the year is conservative in this segment as well, or if you are seeing elements for the second half of the year that make you more cautious on the NIM, despite the continued positive impact from higher rates, especially at the bank in the coming months. Thank you.
Oh, yes, Alonso. You will continue to see, especially by the end of the year, an acceleration of the net interest margin for the bank. Is conservative and maybe you will see in the third quarter adjustment to the guidance.
Thank you very much, Rafael.
Thank you. Now we'll continue with Jorge Henderson from Santander. Jorge, please go ahead.
Thanks so much. Hi, Marcos and Rafael. Thanks for the presentation. My question is regarding asset quality. I understand that, Crédito Real had a bad year of MXN 2 billion. With all the problems they had in their debt restructuring and the consequent liquidation of the company, my question is if do you see any credit risk on that tranche of your loan book?
Thank you, Jorge. Let me begin there. We are in that sector, yes, but we don't have any risk exposure in that sector. That's all I can tell you because we have this confidentiality of the specific clients, but we are not, we don't have any, you know, risk exposure in that sector.
Okay. Crédito Real didn't have any debt that was outstanding with you?
I'm talking about the sector.
The sector, okay. In general. Okay. Well, I mean, if I can add just one question very quick. You mentioned about the nearshoring expectations that you see in the Mexican economy. Have you seen any great demand materializing due to nearshoring on your loan book already?
Actually, yes. It's very quiet, Mr. Armando Rodal, and I will ask him to take off his mask. Thank you, Joe. Thank you, thank you, John. Well, we have a strong pipeline in this sector. We see on the north of the country very active in this sector. There is a lot of companies from China, United States, and Europe asking the Mexicans to supply all the American markets right now. We're very positive about this sector. Thanks.
Thank you for the color. Thank you, Rafael.
Yeah.
Thank you. Now we will continue with Carlos Gomez-Lopez from HSBC. Carlos, please go ahead. Carlos, please unmute yourself. We can come back. Now we'll-
Uh.
Now we hear you.
Sorry, my apologies for the background noise. I would like to know if you could elaborate on your personnel expenses. It seems quite extraordinary that they increased only 2% year-on-year, you know, with inflation at 8%. Could you explain us why there is this decline and whether we should expect it to continue? Additionally, could you give us the full economic expectations for 2023, meaning interest rates and inflation as well as GDP growth? Thank you.
I will start for the second one. Please, Alex, go ahead.
Thank you. Yes. For 2023, we are expecting GDP to grow 1%. The inflation, we have it at 4.1%. Interest rates, during a big part of the year, we are holding the 10%, but at the end of the year, in the fourth quarter of 2023, we think that the central bank will start cutting rates, and we have a year-end forecast of 8.5%. Then in terms of the Mexican peso, we have 21.80.
Thank you.
Rafael, please go ahead.
Yeah, Carlos, remember that two things that are in a way affecting this. Remember that we front load a lot of our personal expenses at the end of the year to anticipate that and to balance out the evolution. We already have the agreement with the union, so there will be no surprises on that. But when you look at the non-interest expenses on the report, when you look at the personal expenses, that is really growing at 1%, but you have to add also the PTU that is on that. When you add all that, you are more in the range of 6%.
That makes sense. Thank you.
Thank you.
We'll now go with Jose Luis Cuenca from Citi.
Hi, good morning. Thank you for taking my question. Just very quick one on the Afore business. Just wanted to hear from you. Do you think that the levels of net income that we saw during the first and second quarters would be something representative for a more normalized net income in the future? Or what are your expectations there, given the cap in Afore fees? Thank you.
Thank you. Remember that we are affected because of two factors. One, that is forever, have the cap fees, and we don't have too much to move there. The second one is the valuations that they will go up in the future. No, it's not that. I will ask David Russell to give us more color on that, please. Are you there, David?
Marcos, I don't think he's in the call. If you want to, I can give you some color.
Oh, go ahead. Thank you.
Okay. Well, I think that you just said it, but let me just put some figures on it. If you look year-to-year on the results, the cumulative results as of June 2022 with respect to June 2021, the effect of the reduction in the commissions, which was very large for us, it was 23 basis points. Remember that we were able to charge 0.8% on the assets under administration. That was the fee. Now, all the Afores except one, the public one, which is PensionISSSTE, but all the Afores, due to the cap, we're charging 0.75%, sorry, 0.57%. That is a reduction of 23 basis points.
Now, if you take that into consideration with respect to the numbers, that means that with respect to the previous year, we have a very large impact. For instance, if the assets under management were what we expected, because we'll talk about what also happened, we have here a very important effect, which is the 23% reduction in income. Now, given that the hike of the rates and given the exposure of our portfolios mainly on the fixed income securities, we observe a reduction, a very drastic reduction on the expected assets under management of 7%.
If you combine those effects, we are observing MXN 1,044 million less of operating income. Of course, one, as mentioned by Marcos, is a permanent one, and the other will depend on how markets will behave in the future. Of course, there are two offsetting effects eventually. I mean, higher rates and the new money coming will also mean higher returns in the future. Also starting 2023, we start observing gradual increment in the payroll contributions by employers, 1% each year for 10 years. If you look also at the exposure that we are obliged to have on the assets under management, where it's called a special reserve.
The authority has to expose part of his capital there as a reserve. We are, we work harder in MXN 609 million. All of these numbers, of course, are before taxes. That's a very important effect. If you combined these two things, our net income is lower than what we expected at this date. When we made the, the budgets, we have, we have less income of MXN 1.2 million lower. Certainly, I would say that at least 800 or so are more explained by the markets than by the structural factors. That's what will happen from now on will depend on how the markets will behave.
Let me also point something out that is also, there's also some pressure on the cost expense, because we are also seeing an increase in the sales activity. Something that is actually kind of curious because of the reduction, severe reduction in commissions. I don't know whether this will be the same going forward or it will start going down eventually. Also perhaps something that is interesting, just to give you some numbers. Even though Afore has been the most resilient in the market, if you look, this is public information, if you look at the numbers of net income for the second semester of this year.
The whole industry had earned MXN 1,410 million. Afore had a net income of. This is as a 100% asset. Remember that the numbers that you see in the presentation is only 50% ownership of Banorte. It's taken as a whole, the net income of Afore was MXN 580 million. That is to say, 30% of what the industry earned as of today was earned by Afore.
Thank you for all the detail. Thanks.
Thank you. Now we will continue with Yuri Fernandes from J.P. Morgan. Yuri, please go ahead.
Hi. Good morning, Marcos, Rafa. Thank you again and congrats on the quarter. I will ask about competition outlook in Mexico. We are seeing loan growth rebounding, right? In May, we saw the industry growing about 9%. And some of your peers growing slightly faster than you, like Inbursa, Santander, BBVA México, and Citibanamex growing much less, right? So my question is, how are you seeing competition? You are growing kind of industry level, but my question is, how are you seeing competition? How rates are behaving? I remember in the cycle of 2017 2018, banks they were very aggressive on mortgages. They were not repricing. So how you see this competition in Mexico nowadays? Is there any kind of product that we see more competition? What should we be aware here? Thank you very much.
Yuri, the competition is here, is gonna be here, and they are great competitors. As they decide to grow and maybe they will not trespass all the interest rate that Banco de México, which is good for the country, which is good for the competition. We are not behind them. No, we will do some things also to increase our market share. You are right. In this quarter, it seems that they went a little bit faster than we did. The data that you have is from the CNBV, and it's only two months. The third month was another story here, you know. You will see it in, I don't know, a few days. Rafa, do you want to add something about that?
Yeah. The fact, Yuri, is you have to remember this. Banorte has the lowest NPLs in the market and one of the best risk-adjusted margins. When you talk about growth, you have to also normalize by the risk-adjusted margin. When you normalize that by the risk-adjusted margin, Banorte is growing at the same pace, but with a better results. We know we have an opportunity in the mortgage book and in the car loan book because we are improving our processes, and they're gonna be fixed in the next two months. I don't see that we have any obstacle to compete where we want to compete. We don't want to compete in every single space. We like to compete where we see that the growth potential along with the risk is the right one.
Super clear, Rafa. Just to be clear, like if you see signals of irrational competition, maybe you will be more comfortable not growing as quickly as some peers, right? Like, you should grow at industry levels, but looking for profitability. Do you agree with this statement?
Exactly right. That has always been the mantra in Banorte.
If you look at some of our competitors growing at a very fast pace, but look at the NPLs.
Great. No, that's clear. Thank you very much, Rafa.
T hank you.
Thank you, Yuri. We'll now go with Carlos de la Isla from GBM.
Thank you, gentlemen. Good morning. My question is, have you seen any impact from the current drought, the sequía at the industrial level in northern Mexico? Do you think it will have an impact on loan growth or asset quality for your business, or its effect is limited to inflation?
So far, Carlos, to be honest, we don't have any damage, let's call it that way. Obviously, maybe if that continues in the future, we'll tell you something, but so far, it's not moving the needle.
Okay. Thank you for that. If I may, a quick follow-up. Within your total loan portfolio, what is the mix of fixed and variable rates?
60/40. 60 is variable and 40 is fixed.
Thank you for that.
Thank you, Carlos. Now we will take our last question from Edson. Edson, please go ahead.
Hi, good morning. Thank you for taking my questions. The first one is related to the dividend payment that you mentioned in the earnings release, which is MXN 6.08. I was wondering, is this dividend payment consider the 2020 amount that the regulator needs to approve to you in order to pay? That will be the first one. The second one is, regarding on the strategic alliance with Habi. Would you give us a little bit more color? Do you have specific goals with this alliance, or it's something that you want to explore because of the dynamics of Habi? Thank you.
Thank you, Edson. I will start for the second one with, Francisco Martha , please.
Thank you, Edson. We are moving forward with the different streamlines with Habi. We're expecting to start booking mortgages maybe in a couple of weeks, no later than a couple of weeks, using the Banorte book. As Rafa mentioned at the beginning in the initial speech, we will move forward later with the digital bank, with a digital mortgage in a completely different way of processing the loans. We are advancing with some other products that Habi is using themselves, how they are going to promote the Banorte products, and some interchange of information and some other business lines that we are analyzing.
Great. Thank you. Regarding the
About the other part of your question, about the 6 pesos. That was paid during the quarter. If you want later offline, we can walk you through how this was presented in the assembly and the capital numbers. Happy to do that afterwards. Thank you.
All good. Thank you.
Thank you everyone. With this, we conclude our presentation. Thank you again for your interest in Banorte. Have a good day.