Ladies and gentlemen, welcome to Isbank's first half 2024 financial results audio webcast. Today, our presenters will be Ms. Gamze Yalçın, CFO, Ms. B. İlkay Dalkıran, Head of IR and Sustainability. As always, the presentation will be followed by a Q&A session. If you wish to ask a question, please raise your hand or type in the Q&A area. Now, I'm handing over to our presenters. Gamze Yalçın, the floor is yours.
Thank you. Welcome to our earnings presentation for the second quarter. This is İzlem speaking. Thank you all for joining. Before going over our financial results, I want to begin by acknowledging a significant and historic milestone for us. In just two weeks time, as Isbank, we will be celebrating our hundredth anniversary. It has been a century of proudly serving our customers, supporting our society, creating value for our shareholders, and contributing to the development of the Turkish economy in line with our founding mission. Innovation, common sense, reliability, sincerity, transparency, guided by the principles of intelligence, diligence, integrity, technical and methodological work, in reference to our founding philosophy, have always been the leading values for us. As Isbank employees, we have deeply internalized these values by creating an Isbank culture that is unique.
Today, we believe that Isbank culture, based on the values I have already mentioned, take Isbank beyond being a financial institution, and position it as an institution of stability and trust, both locally and globally. Now, we are at the start of our second century, broadening our vision to become the bank of the future, creating sustainable value with an inclusive and participatory approach. That's why we are very proud and excited. I want to thank, thank everybody sharing our excitement. 100 years is a very long journey to experience each and every economic cycle, and to take the responsibility of the policies implemented in order to support the well-being of the country. And nowadays, we are in another rebalancing period to control high inflation, which poses risks for the long-term sustainable growth of the country, coincided with a very fragile and complicated global agenda.
We believe that this is a transition period. So before going into details of our financials, let me summarize the current economic developments briefly. As a result of quantitative tightening and macro-prudential measures to tackle inflation, leading indicators, including confidence indices, have started to show signs of cooling down in economic activity in the second quarter. Annual CPI inflation reached its peak in May, and dis inflation process on annual basis has begun as of June. During the second quarter, 12 months ahead, inflation expectations continued to improve, while real sector took a more cautious stance. CBRT emphasizes that tight monetary stance will be maintained until a significant and sustained decline in the underlying trend of monthly inflation is observed, and inflation expectations converge to the projected forecast range. The current account outlook also continued to improve, while strong reserve accumulation contributed to reduced vulnerabilities.
During this period, positive risk perception towards Turkey was supported by rating increases. We anticipate year-end annual inflation to be around 40%-45%, and GDP growth to be 3.5% for the whole year. Given the relatively flat course of USD Turkish Lira parity in the second quarter, we maintain our forecast for real appreciation of Turkish Lira throughout the year. Despite the challenges of the operating environment and increasing pressures on the performance of the banking sector due to the tightening monetary policy, we believe that the prevailing orthodox policies will help us to cope with high inflation in the short run, will create a room to focus on long-term economic stability, and will also promote financial stability.
Even in this challenging environment, while managing the short-term financial risks prudently, as Isbank, we simultaneously prefer to realize the projects for our 100-year anniversary, which is remarkable milestone for us, underscoring our enduring commitment to Türkiye. But even as we look back with pride, we are also determined to further contribute to our society going forward. Our world is undergoing a rapid transformation driven by digitalization, the accelerating power of artificial intelligence, and sustainability efforts. As this transformation is reshaping industries, societies, and economies at an unprecedented pace, we are navigating this new landscape with a steadfast focus on our role in the broader economy.... Before we dive into the numbers, I want to emphasize that our story extends beyond financial metrics. Rather than solely focusing on short-term quarterly results, we are prioritizing our long-term contribution to the Turkish economy.
This commitment is deeply rooted in our founding mission, and is more relevant today than ever before. To that, to that end, we have launched initiatives such as the SME Twin Transformation Project. I mean, both green and digital transformation, which is uplifting small and medium-sized enterprises to thrive and become more resilient in this landscape. We have also placed a strong emphasis on women's empowerment, recognizing the vital role women play in our society and economy. Our commitment to women's empowerment is another cornerstone of our strategy as we strive to create a more inclusive and prosperous society. Additionally, we have leveraged our digital expertise to provide innovative solutions to those in need, particularly micro and small businesses. Without doubt, normalization in economic and monetary policies presents challenges for the banks and Turkish economy.
However, we believe that greatly improved visibility, coupled with our steadfast dedication to our founding mission, positions us to not only weather these challenges, but to contribute significantly to the Turkish economy as well. In this sense, I want to touch on the profitability and efficiency performance of Isb ank. On this page, we have the major P&L items as well as the profitability and efficiency indicators. Despite the sector-wide challenges, especially in margin evolution, we were able to generate another strong set of results, thanks to our well-diversified balance sheet structure. The increasing pressure on net interest income, which is a natural outcome of high funding costs and loan growth caps, offset by other core banking items. In that sense, we can say that strong clean trading income generation, which posted annual increase of 74%, continued to support the revenue base.
Thanks to our continuous efforts, outstanding net fee income generation continued, registering an impressive quarterly increase of 11%, carrying the annual growth to 200%. Remarkable fee income generation is more than offsetting the decline in net interest income. This impressive increase brought fees coverage of OpEx to above 80% levels. Income from participations has also provided a notable support to our net income. Annual increase in OpEx is limited around 53%, well below the inflation levels. All in all, our return on equity in the first half stood at around 28%. In this quarter, we released additional pre-provision of TRY 3 billion. Please note that we still have a free provision base of TRY 3 billion. Now, I will leave the floor to Nilgün for the details of the bank's performance. Nilgün, the floor is yours.
Thank you, İzlem Hanım. Welcome all, and thank you for joining the webcast. In this slide, you can see the main balance sheet items. In the second quarter, we strategically managed our loan growth, taking into account monthly limitations. Our quarterly TL lending growth was 6.7%. While maintaining our prudent and selective lending approach, we feel comfortable with our year-end TL loan growth guidance, which is around 50%. FX lending increased 15% in the second quarter. On the FX side, our growth mostly stemmed from the export business, which is in line with the prevailing foreign trade policies. At the same time, tourism continues to be a key area for us.
Besides, due to our focus on sustainable funding, we continue to obtain IFI funding, and as the allocation of these resources are in line with the aims of policy framework of the country, we feel strong in our competitive position in this area. On the funding side, following the local elections in the second quarter, and with a rather stable exchange rate, we observed a strong conversion from FX-protected deposits and FX deposits to conventional TL deposits. There was around 22.5% quarterly growth in TL deposits, while FX deposits declined by 10%. Additionally, we maintained our concentration on widespread granular core deposit base, which is reflected in our core deposit share of 70%. Needless to say, we continue to have the largest demand deposit base among private banks.
As of the end of second quarter, 41% of our deposit base is comprised of demand deposits, providing an impressive support to our cost of funding. Regarding the external liabilities, our total external dues are $7.6 billion, of which $4.3 billion is due in the next 12-month period. Against that, our FX liquid assets are more than enough to cover our whole external liabilities. ESG remained as a priority in FX wholesale funding. On top of being able to obtain a more, more diversified base of ESG-related funding instruments, their share in total funding have been increasing. In this period, we issued a 5-year, $500 million sustainable Eurobond. This is our first public Eurobond issuance since 2020, and first public sustainable offering in the international markets.
Additionally, we signed a sustainability-linked syndicated loan that is worth over $1 billion in total. As sustainability performance criteria for this deal, the amount of cash loans to be extended to small and medium-sized women entrepreneurs, as well as smallholder farmers, was set. Which is a reflection of our commitment to the development of agriculture, and to strengthen the role of women in the economy. In 2024, we obtained approximately $360 million of new funding under our Diversified Payment Rights program. The funds will be allocated to support SMEs and their digital transformation, green projects, women entrepreneurs, and energy efficiency in companies. By the end of first half, share of sustainable funding stood at around 66%.
Going forward, we will continue to evaluate potential transactions for FX wholesale funding based on market conditions, as well as the needs of our balance sheet management. As a special milestone in celebrating our 100th anniversary, I would again want to mention our TL issuance in April. Issuance of 100th Anniversary Green Bond, the first green bond public offering in the domestic market, amounting to TRY 4.5 billion, redeeming on August 26th, the date of our anniversary. On the next page, we have the NIM and spread evolution. As İzlem already mentioned, net interest margin evolution was under further pressure in the second quarter. We also said that we want to see the second quarter developments to give a more clear picture on our NIM guidance.
That's why we believe that it is the right time to revise our full year expectations, taking into consideration that funding costs are stabilized. Assuming there will be no additional tightening, we expect recovery in NIM to start in the third quarter and gain significant momentum in the fourth quarter. Within this framework, our scenarios indicate an around 4% exit NIM level at the end of this year, bringing our full year NIM to around 2%. Share of securities in total assets was around 20% at the end of June. Looking at the composition of TL securities, we see that the share of fixed income securities hovers around 41%. We continue to maintain the diversified structure of the book with floating rate notes share of 59%.
Our CPI-linked portfolio makes up of 33.6% of TL securities, contributing to our income base by 14.2 billion TL in the second quarter. As you know, for the valuation of CPI linker portfolio, unlike our peers, we are using 12 months ahead CPI expectations. I would like to mention once again that expected downward trend in CPI in the second half of the year will help us prove the merit of our methodology by providing us a relatively consistent revenue stream from linkers in 2024 and beyond. Moving on with net fees and commissions. Fee income generation was again strong in this quarter, thanks to our diversified business model and solid customer base. We achieved a quarterly increase of 11%, carrying the annual growth to an impressive 200%.
Thanks to our strategic efforts, we have maintained our leadership position as having the largest fee base among our peers. Drivers of the strong growth were again across the board, with eye-catching performance of payment systems growing by 334% annually. Because of the high base effect coming from the second half of the last year, annual increase in fee income might come down a bit in the second half, but still, we are expecting a strong upside to our full year guidance, which is above 100%. Next page shows the NPL and provisioning trends. In the second quarter, we have seen further improvement in our asset quality metrics. Our NPL ratio declined to 1.8%.
Please note that in this period, we successfully sold an NPL portfolio amounting to TRY 1.8 billion, with a solid recovery rate of 42.6%. Net NPL formation was again limited in Q2, thanks to our strong collection performance. In this quarter, inflows were largely across the board. Our total net cost of risk, including currency impacts, stood at 63 basis points for the first half. We expect a slight normalization for the rest of the year, while keeping our cautious stance. Therefore, we revise our year-end cost of risk guidance as around 100 basis points. Furthermore, as part of our prudent approach, our NPL coverage ratios stood at 75%, highest among peers. Next page shows the capitalization levels. Our capital ratios remained at solid levels at the end of Q2.
Capital Adequacy Ratio without the BRSA's forbearance measures stood at 15.5%, while Common Equity Tier 1 was at 12.8%. We believe that our capital ratios are strong enough to absorb any potential adversities in the economy, as well as to sustain the growth whenever it is deemed favorable. As we always share, sensitivity of our Capital Adequacy Ratio to 10% depreciation in TL is around 35 basis points, while sensitivity to 100 basis points increase in TL interest rates is around 8 basis points. Next page provides a summary of revised guidance items for your convenience. All in all, we are expecting around 30% for return on equity for the full year.
Please note that despite significant pressure on NIM, especially in the first half, thanks to our well-diversified balance sheet structure, strong fee generation, efficiency gains from digital capabilities, contained cost management, and strong support of the trading income, the revision in ROE has been limited. This concludes our presentation. Thank you for your attention, and I would now like to open the floor for questions.
Quick reminder, if you wish to ask a question, please raise your hand or type in the Q&A area. We have a question from Mikhail Butkov, Goldman Sachs. Mikhail, please unmute yourself. Thank you. Mikhail, can you hear us? Please go ahead and unmute yourself.
Apologies. Yes. Good day. Thank you very much for the presentation. I have two questions. One is on net interest margin outlook for the next year. What policy rate is it based on? And when—if you could, yeah, repeat you expect the first cuts to be. And the second question is on, yeah, more of a technical one, but on the released free provisions of TRY 3 billion, so it is excluded from your HR expenses. Do I read it correct? So, without these free provisions, your HR expenses were to be TRY 13 billion. And also lastly, if I may add another question on asset quality, where maybe do...
Can you give any early views on the cost of risk going into the year 2025? Thank you very much.
Thank you for the question. So I will start with the NIM expectations. First of all, I have to mention that, as you may recall, we have already gave signals in our previous management call with respect to the general trend for the NIM. The unexpected 500 basis point rate hike in March put pressure on net interest margin in both the first and the second quarters. And during that period, we said that, in this regard, second quarter NIM might be similar to the first quarter level. But as you know, there have been additional quantitative tightening as of the end of May, which significantly increased the share of our reserve requirement obligation within Turkish interest earning assets. This has put further pressure on our second quarter net interest margin, delaying the expected recovery.
The initial July data already suggests margin improvement going forward. Just to give you a color, I can say that looking at monthly averages of open accounts, cost of Turkish Lira term deposits declined by 25 basis points, while the yield of Turkish Lira loans increased by 70 basis points compared to June end. So we can say that asset repricing process still continues to support NIM in the coming period. Thus, assuming there will be no additional tightening, we expect recovery in NIM to start in the third quarter and gain significant momentum in the fourth quarter.
... being aware of the fact that the easing in the monetary policy will be depending on the pace of d isinflation process, we prefer to stand on the conservative side and assume only a slight relief in the tightening policies, which might come from either quantitative tightening or quantitative measures or quantitative easing, let me say, or up to 500 basis points rate cut towards the year end. Within this framework, our scenario indicate an around 4% exit net interest margin level, at the end of this year. For the whole year, our expectation as we set in the- our revised guidance, a 2% net interest margin for the whole year. For 2025, it's expected to provide us a more clear picture in terms of policy framework as well as NIM trajectory.
That's why I think it is too early to comment for year 2025, before witnessing the trends in the last quarter, especially the trend on the inflation side. So this was your first question. The second question was related with the pre-provisions. Pre-provisions are under the other provisions line. That's why these do not have any relation with the operating expenses, whether HR or non-HR expenses. I think the third question was related with the cost of risk and the asset quality side. As we has already put forward in our presentation, our prevailing cost of risk stood at around 63 basis points. In fact, at the start of the year, we were expecting higher levels, or let me say, normalization in the cost of risk ratio.
But when we look at the prevailing trends, a 63 basis point cost of risk is still lower than our year-end guidance. That's why we revised our guidance from 150- 100 basis points. This is highly related with our, I think, both prudent policies on the lending side, but as well as our good collection performance throughout the year in the first half. So we can say that NPL ratio has followed a downward trend in the last two years and still stood at comfortable levels. So thanks to our prudent policies, healthy portfolio structure and strong collection capabilities as I mentioned, we are not expecting an increase or a worsening in our NPL ratio.
Although we are all expecting a slowdown in the economic activity due to the tightening monetary policy, we don't think that it will create a significant deterioration in our NPLs in 2024. So although we are not expecting a significant sector-specific adverse impact in this period, it's obvious that fragile firms with disrupted cash flows, high indebtedness, and high financing needs will have to be carefully monitored in 2024. So staying on the conservative side, we prefer to have a guidance of 100 basis points net cost of risk for the year end. I think this is all the answers for the three questions.
Yeah, yeah. Thank you. Thank you very much. Just one small clarification on, on the second question. So this TRY 3 billion free provisions are included on your other operating income on the page 26 into 7.014?
Yes, yes, that's right.
Okay. Yeah, thank you very much.
Thank you.
We have another question from Mehmet Sevim, JP Morgan. Mehmet, please unmute yourself. The floor is yours.
Hi, good evening. Thanks very much for taking my question. I had just a couple questions, and one on NII. Clearly, the pressure is very high. We can see that in the second quarter. At the same time, the swap costs also are creating an additional pressure. And here, I just wanted to ask for your views on the trajectory in the second half of the year, particularly related to utilization, swap volumes, and yeah, I suppose costs are related obviously to the, to the interest rates. But anything you can share on that front, that would be very helpful. And thank you also for your views on asset quality.
Clearly, the trends are still encouraging, but just wanted to ask, if you expect any visible deterioration in 2025, as we started hearing from some of your peers, particularly when it comes to the real sector, the corporates, SMEs, what are your views on that front? And, if we think about your cost of risk of 100 basis points, for this year, where would you see that, in your views in 2025? Thanks very much.
Thank you very much for the questions. For the first question, I think I have already mentioned about the trends on the net interest margin, as you have already mentioned that there is a pressure increase. There was a pressure, increasing pressure on the net interest income due to both the impact of the increasing policy rates, and as well as the quantitative tightening that we observed, especially coming from the reserve requirement side. And as a bank, having one of the largest reserve requirement volume, we are under the impact of this monetary tightening. We can say that swap costs was another important issue. Our funding composition is, you know, dynamically managed, and swap transactions are utilized with a flexible and cost-sensitive approach.
As of now, as CBRT to finalize the right way effect swap transactions, we are opportunistically using swap lines with other domestic and foreign counterparties. All in all, Turkish Lira funding base will shift from off-balance sheet, as in the form of FX swaps, to on-balance sheet, as in the form of Turkish Lira deposits, repos, and money market transactions. So, during the second quarter, especially at the end of June, we observed a declining trend in our swap volumes, and in line with it, the swap costs. So I can say that at the end of June, our swap balance declined to around $3.5 billion. And as of now, we can say that it is even below $3 billion.
Which means that our swap costs, we are not expecting further pressure coming from the swap costs, but the changing funding, let me say, position, will continue to shape our or to have an impact on our net interest margin in the coming period or quarters. The next question was related with our asset quality and especially deterioration, whether we are expecting deterioration on some areas such as SMEs and the other ones. I can say that, as I mentioned before, our NPL ratio, it declined in the second quarter from 2%, at the year-end figure was 2%, now we are at 1.8%.
Thanks to our both prudent policies and strong collection base, we managed to keep our rate in line with our guidance for the whole year. There are some areas that we see increasing flows, such as credit cards, for example. As for credit cards, in line with what we have already anticipated, as a result of the macro-prudential measures alongside higher rates, it's inevitable to see deterioration to some extent. This has, in fact, been reflected on our monthly inflows. On the other hand, despite some limited increase in the NPL ratio of credit cards, it still stands at around 2% level, which is quite manageable, and due to the moderate share of its item in our total loans, we are not expecting a significant impact on our overall NPL ratio.
In terms of the SMEs, you know, especially at the start of year, we said that our long road strategy will be mainly focusing on the SME segment. It was the case in the previous year as well. But, again, we mentioned that we are implementing prudent and selective policies. That's why we are not observing any worsening in the asset quality indicators of the SME segment, neither in the form of NPL flows, nor any deterioration in early warning signals. That's why we are comfortable with our prevailing SME portfolio, loan portfolio. Needless to say, I think our strong collections continue to support our asset quality indicators in the coming future as well. I think we covered all your questions. If you have any further, we will be pleased to answer.
Thanks very much, İzlem. That's, that's very helpful. Can I just quickly check if the views for asset quality extend into 2025, and whether you would see some additional worsening in 2025? Or in what situation would you expect to see an additional worsening in 2025 relative to 2024? Thank you.
We haven't studied the trends for 2025, but as the economy is cooling down, I think we might expect some kind of increasing in the flows. But I think it will be balanced with the collections. That's why we can see some kind of increases in the cost of risk side, which is in line with our guidance. And we call it as a normalization, because if you consider the previous year and this year, the figures still stay at relatively low levels. So a normalization of the cost of risk at around 100 or 125% might be expected. We can say that the commercial side will be highly correlated with the trends in the economic activity.
But we can expect some more impact coming from the retail side. It is still the case, I think, when we look at the details. But as long as we are implementing prudent policies, these will help us to manage all these risks. That's why we are not pessimistic about the coming conjuncture. We were aware of the tightening, significant tightening policies, and we were ready to manage the impact of the tightening policies. That's why we are carefully managing the loan portfolio, taking into consideration all the scorings, behavioral scorings and other issues, which help us to stay on the comfortable areas. I think we will continue to implement these policies.
That's why we can say that we were ready for the coming conjuncture. That's why we were not expecting a major deterioration even in 2025, unless there's an unexpected, let me say, event in Turkey or in the global area. Because, you know, nowadays we are witnessing some increasing geopolitical risks. But still, we believe that those will be limited with the region. That's why nowadays, we are not expecting a major deterioration in our asset quality.
That's very clear. Thanks very much.
Thank you. I think there was a question, written, but we have already answered the question. It was related with net interest margin, for 2024. I have already answered that question.
Yes, and we do not have any remaining, spoken questions, I guess. So I can hand over for you to, close the presentation. Thank you.
Okay. Thank you very much for your participation. We believe today, despite the challenges of the operating environment, we have already presented another strong set of results. As we are moving to our next centennial, we are determined more than ever to carry our success to this century by leveraging our expertise and dedication to the development of this country with the help of digital transformation. Regarding the details, let's be in touch. Looking forward to see you all in person soon. Until then, I wish you all stay safe and healthy. Thank you.