Earnings Call: Q3 2024

Nov 18, 2024

Summary

Q3 ROE was 13.6%, with credit up 3.4% QoQ and strong credit-quality ratios. War-related reserve building and ILS 300m in bond-sale losses weighed on results; capital distributions remained 40% of quarterly profit.

Ladies and gentlemen, thank you for standing by. Welcome to the Bank Hapoalim third quarter 2024 results conference call. For your convenience, this call will be accompanied by a PowerPoint presentation. May we suggest, if you have not yet done so, that you access the presentation on the bank's website, www.bankhapoalim.com, by clicking on Financial Information on the homepage, and then click on the third quarter 2024 report presentation. All participants are present in listen-only mode. Following management's formal presentation, instructions will be given for the question and answer session. For operator assistance during the conference, please press star zero. As a reminder, this conference is being recorded November 18, 2024. With us on the line today are Mr. Ram Gev, CFO, Mr. Victor Bahar, Chief Economist, and Ms. Tamar Koblenz, Head of Investor Relations. I would like to remind everyone that forward-looking statements for the respected company's business financial condition and results of its operations are subject to risks and uncertainties that could cause actual results to differ materially from those contemplated. Such forward-looking statements include, but are not limited to, product demand, pricing, market acceptance, changing economic conditions, risks in product and technology development, and the effect of the company's accounting policies, as well as certain other risk factors, which are detailed from time to time in the company's filings with the various securities authorities. Mr. Gev, would you like to begin? Thank you, and good afternoon to you all. I am happy to review the financial results of the third quarter and first nine months of 2024. We are reporting another strong quarter today. Highlights are presented in slide 3. The bank ended the quarter with a return on equity of 13.6% for the quarter and 14.9% for the nine-month period. This is the 11th consecutive quarter with solid double-digit return on equity. Quarterly cost income ratio was 36.6%. On credit growth, we observed a rise in the demand for credit during the quarter, and by leveraging our professional capabilities, we translated it into growth of 3.4% in the quarter, or 6.4% year-on-year across all segments of operation. This growth was achieved while maintaining and even improving the quality of the book. The NPL ratio is down to 0.71%, and the NPL coverage ratio is 224%. The total allowance is now 1.81% of total credit. As always, capital and liquidity continue to stand out. The CET1 ratio is at 11.9%, which means a substantial surplus over the minimum internal target. This quarter, we continue to distribute 40% of our net profit in cash dividends and buybacks. The LCR is well above targets as well at 132%. These impressive results were achieved amid the challenges of the war. Last month marked one year since October 7, and the Israel economy continues to demonstrate impressive resilience. Reflecting this strength, the banking system also remains strong, with high profitability, strong credit quality metrics, and a growing balance sheet. Victor Bahar, our Chief Economist, will discuss the economic landscape in more detail now. Victor, please go ahead. Thanks, Ram. As Ram mentioned, the economy is functioning almost regularly in most economic sectors, as presented on slide 4, commerce, industry, and services. Yet, in terms of capacity utilization, we are far from pre-war levels, as business sector GDP is down 2.8% from Q3 2023. Supply side constraints are the main hurdle, as Palestinian workers still aren't entering Israel, and frontline villages are still evacuated. The labor market is tight, with an unemployment rate of 2.7%, representing a full employment situation. Wage inflation has moderated, though we believe it still possess some risk on the price stability. Turning to slide 5. Inflation is rising again by 3.5% in the last 12 months. Wage pressures and expansionary fiscal policy are the main drivers behind inflation now. The budget proposal for 2025 includes an increase in both direct and indirect taxes. Some of the tax measures planned for the next year might also be inflationary in the short term. Israel risk premium picked up in the third quarter as the war continued and the fiscal stance deteriorated. However, during the last few weeks, we have seen narrowing of risk premiums, probably a consequence of the fiscal correction plan presented by the government and maybe some optimistic publications claiming that the agreement on the northern border is closed. The 10-year yield in ILS term is now only 40 basis points above the US Treasury. Turning to slide 6. Home sales have stabilized at a relatively high level. The effect of from housing for the evacuees contributed to the change in the mindset of homebuyers who were sitting on the fence before the outbreak of the war. Prices are now up by some 6% year to date. Turning to slide 7. The budget deficit now stands at 7.9% of GDP in the last 12 months. Tax receipts are still growing nicely, but the burden of running the war is overshadowing the income side. The government has improved the fiscal plan for the next year with a deficit target of 4.3%-4.8% of GDP, across the board, cutting expenses, freezing of public sector wages, and increase in some taxes. The proposal need to be approved by the parliament, of course. The majority of the deficit is financed in the local market, and thanks to the high private saving rate, yield gap with the US Treasury have actually narrowed. As inflation environment is still high, including short-term expectations which are close to the upper limit of the target, the market anticipates a stable interest rate in the near future. Back to you, Ram. Thank you, Victor. Well said. I am continuing on slide 8. The bank is consistently delivering strong results. This quarter, we reported again a high level of net income and return on equity for both the quarter and nine months. The return on equity in the quarter was impacted by our reserve build to reflect the continuation and expansion of the war, as well as possible effects of the war on the real estate sector, and by approximately ILS 300 million loss from realization of bonds as part of the management of the balance sheet position. On the other hand, return on equity benefited from the relatively high CPI and the growth in activity. Let's turn to slide 9 to discuss the drivers of profitability. Total income this quarter was positively impacted by the growth in income from regular financing activity, which grew 3.1% versus the last quarter and 10.2% year-on-year. Income from regular financing activity was influenced by the relatively high CPI, which contributed ILS 556 million in the quarter, and by the growth in activity. On the other hand, on income from non-regular financing activity, we recorded an ILS 88 million loss from the aforementioned bond realization. I am moving to slide 10 to discuss expenses. Total expenses in the quarter were down 2.1% and almost unchanged versus the corresponding quarter, mainly as performance-based bonuses were lower. When reviewing the nine-month salary and related expenses, bear in mind that the comparable figure included an approximately ILS 200 million bonus in respect of the collective wage agreement signed last year. The cost income ratio stayed very low at 36.6% for the quarter and 37.7% for the nine-month period. On slide 11 and 12, we present our credit book. We grew our credit book by 3.4% this quarter, and by 6.4% in the last 12 months to ILS 430 billion. We believe that this growth is a result of suppressed demand for credit that had built up in recent months due to the war and the high level of uncertainty, and was released as people and businesses adjusted to the situation. The growth was diversified in terms of segments, but mostly in corporate credit. As we always highlight, it is important for us to grow our book without compromising on risk. Indeed, the quality of the book remained high and even improved in some parameters. As I mentioned before, despite the background of the war, households and businesses are still demonstrating resilience, hence, specifics provisions remain low. In addition, deferrals granted during the war materially decreased and are now only 0.6% of the book. However, taking into account the continuation and expansion of the war, as I mentioned before, coupled with the potential effects of the war on some segments, led us to build more reserves this quarter. On the bottom line, this was reflected in a ILS 406 million provision for credit losses, constituting 0.38% of total credit. More on our strong credit quality on slide 14. On the right-hand side, NPLs continued to decline so that the NPL ratio is also down to 0.71%. Total problematic debts increased slightly since the beginning of the year. Despite the strong credit quality parameters and the good financial position of our customers, we increased the collective allowance this quarter, now standing at ILS 7.4 billion balance out of the total credit loss allowance of ILS 8 billion. This brings the allowance buffer to 1.81% of total credit. Maybe more impressive is the ratio of the balance sheet allowance to NPL, which increased to 224%, meaning that the NPLs are more than doubly covered. As I mentioned before, a substantial part of the reserve build was allocated to the real estate sector. Our starting point in this sector is robust, as we are presenting on slide 15. Let's start from the right-hand side of the slide. All underwriting parameters of financing rates and absorption capacity point to our very tight underwriting approach. On the left-hand side, you can see that most of our exposure in real estate book is to housing construction, a very solid and growing sector in Israel. Still, we built a decent 2.48% allowance as a buffer for any future developments in the real estate sector. Our deposit base, on slide 16, continued to be strong, with 58% of total deposits attributed to the retail segment. Retail deposits slightly decreased this quarter, but grew by 4.6% in the last year. Liquidity ratios continued to be well above targets, and the LDR is 76%. I am moving to slide 17. The CET1 capital ratio stood at 11.9%, while our minimum internal target is 10.5% and the minimum regulatory requirement is 10.23%. The capital buffer will serve various objectives, including growth and the potential for further capital distributions, as well as buffers for negative scenarios and more. Our solid capital position derives from strong organic capital generation capabilities. The comprehensive income of the last four quarters reflects organic capital generation of 202 basis points in CET1 ratio terms. This is the reason for the 13.7% growth in shareholders' equity in the last 12 months. In addition, both the total capital ratio and the leverage ratio are comfortably above minimum requirements. I'm moving to slide 18. As you know, last quarter, we announced a ILS 1 billion share buyback plan. The first tranche of ILS 250 million was successfully executed, and today the board approved the second tranche. This quarter, the board declared a ILS 512 million cash dividend, which together with the ILS 250 million share buyback, sums up to a total of ILS 762 million, or 40% of the third quarter net profit. This is in line with the Bank of Israel conservative guidance regarding capital distributions. In respect of the last four quarters' profits, total dividends paid or declared is ILS 2.3 billion, reflecting a 4.7% dividend yield, which, along with the ILS 500 million buyback, provides our shareholders with high returns. Lastly, on slide 19, Bit, our payment app, introduced two new developments. The first is an important milestone for our innovative app, which has gained 3.3 million active customers as of today. Starting in 2025, a 0.6% fee will apply to commercial customers who receive funds of more than ILS 25,000 per year through the P2P service in the app. The second step is that starting this month, all Bit customers will be able to hold and manage stored funds through a payment account in the app. Alongside the great value it gives our customers, the bank will benefit from the expected reduction in clearing fees and from the expansion of its deposit base. I will now summarize the key takeaways in slide 20. The bank is consistently delivering double-digit return on equity and a low cost-income ratio. We recorded strong credit growth in the quarter as the bank succeeded in translating the release of suppressed demand into broad-based growth across all segments. We also recorded an increase in income from regular financing activity, even excluding the CPI effect, due to the growth of our book. At the same time, credit quality indicators continue to be strong. The NPL ratio is down to 0.71%, and the NPL coverage ratio is 224%. On capital, our strong organic capital generation creates a large capital buffer and allows for a total distribution of 40% of net profit. Lastly, on Bit, we have introduced two new developments, an important milestone in the evolution of our app, which has already gained 3.3 million active users. With that said, let's open the call for your questions. Back to you, operator. Thank you. Ladies and gentlemen, at this time, we will begin the question and answer session. If you have a question, please press star one. If you wish to cancel your request, please press star two. If you are using speaker equipment, kindly lift the handset before pressing the numbers. Your questions will be polled in the order they are received. Please stand by while we poll for your questions. The first question is from Tavy Rosner of Barclays. Please go ahead. Hi, good afternoon. Thank you for taking my questions. First, I wanted to ask about modeling assumptions for the coming quarters. As you think about the current environment remaining stable, how should we think of loan growth and provisions in the next couple of quarters? That would be helpful. Hi, Tavi, and thank you for your question. I will split the answer and I will talk about, let's say, growth and then provisions. When we look at growth, it is hard to predict what will be in the future, it is obvious, and you can see in the numbers, the strong and significant growth in the third quarter, which is much higher than the first half, the first couple of quarters. The reason was kind of behavioral reason. The first two quarters were quarters of the beginning of the war with behavioral effects, some shock. Some corporates and even consumer waited with transactions. Some suppressed demand moved to the third quarter, and we see higher demand for credit in the third quarter. We were ready to answer this demand, and you see the diversified growth in different segments. When looking at the fourth quarter, it really depends on the geopolitical situation. It is reasonable to assume that the elements that characterize the first half will be different. I am not sure that, let's say, the growth of the third quarter characterized the fourth quarter, but it is reasonable to assume that the fourth quarter, the demand would be higher than the first half due to the reason that I mentioned that characterized the first half. That is for the growth. Provisioning is a little bit different question. We at Bank Hapoalim adopting a conservative approach to what provisioning. That means is that we evaluate the information data and prefer to provide on time and relatively early, to be prepared for any scenario. We saw at the third quarter, we did not see any material change in the condition of the customers and borrowers, but we saw the continuation of the war, the extension of the war in the northern front. Obviously, some dialogue that the Bank of Israel had with overall the sector, and we thought that it is the right time to be conservative and increase the collective allowance. So most of the credit loss expense in this quarter are due to collective allowance or reserve build. It is hard to say what will be in the upcoming quarters because it depends on the geopolitical situation. Let's say if there will be some deterioration in the situation, so obviously will affect the provisions. If there is no change, but it is hard to say there is no change at all because there are a lot of inputs and variables that can affect. Theoretically, if there is no change, theoretically, there shouldn't be any material increase in provisions. But it is hard to say, because there is no variable that is steady, and we see change from quarter, full quarter. Obviously, if there is an improvement in the situation or let's say a new equilibrium with lower extent of conflict, then gradual improvement or release is reasonable to assume, but the pattern is hard to estimate or predict. Yeah, thank you. That is very helpful. Unrelated, there is an initiative by the Bank of Israel to promote insurance company entering the banking market and allowing them to take deposits and so on. Is that something that you should be concerned about, or you do not really see it as a threat? Yes, thank you. We look at that and monitor that. It is too early to evaluate, and the reason is very simple. There is not much detail. There is a headline about it or initial thoughts while the purpose is competition. As we all know, deposit is very important element for customers and in stability of financial system. So managing it or giving, let us say, license to other corporates to hold deposits may create some risk to, let us say, customers or to institutions themselves. So the regulator must take this into account. We assume will put some balances or requirements so that the final outcome and the evaluation of the effect depends on the requirements from these parties, the conditions, the definition, and the overall supervision. It is hard to estimate the effect. Obviously, we monitor it closely. Thank you. The last one for me, on Bit, you talked about some monetizing initiatives on your prepared remarks. You have not given much data, but Bit, you provided a number of users. I am not going to ask about the financials since you have not published them. Just conceptually, Ram Gev, when do you think you will start breaking out financial, whether it being revenue contribution, profit contribution? Is that a 2025 event, or is that something beyond 2025? Thank you. You mentioned correctly, Bit has a very strong, let us say, value proposition for customers, and we achieved a very good market share of about 70% with 3.3 million active customers. That is very impressive. We have a plan. Obviously, we do not disclose it is not public, of continuous improvements and expanding the activity. This quarter, and after the end of the quarter, two elements that I mentioned are very important. The first one was the introduction that commercial customers with receive funds of more than ILS 25,000 per year, will pay a fee of 0.6%. The second step is, that Bit customer will be able to hold the managed store funds through payment account. We think it will create value for the customers. Obviously, it will benefit the bottom line and, let us say, lower the expenses that we have today on the application, on the app. We have a plan. Obviously, we don't share the information. But these two elements are very important steps towards achieving our goals. We will publish or introduce new services when it will be the time. Thank you. The next question is from Micha Goldberg of Psagot. Please go ahead. Hi, thank you very much. Congratulations on a strong quarter. I have a question regarding your group provisions. You adequately explained that most of the entire year provision this quarter were group provision. I'm just wondering why they're so volatile. In Q1, I remember you communicated that you had some releases coming through. In Q2, the numbers weren't that significant, and now they're quite significant. Is the economic outlook so much worse now than it was a couple of months ago? Is there something else happening? Is the Bank of Israel pressuring more now than it was in the past? Why is it such a significant change vis-à-vis the first two quarters? Thank you, Micha. This is a very good question. In order to answer, we have to look back at the start of the war. What we did at the beginning of the war, it was when we published our Q3 results of 2023. We saw the war, and we decided to provide conservatively and at the beginning. So collective provisioning characterized Q3 2023 and Q4 2023. The already-made provisions allowed us to be at Q1 and Q2 2024 without material change in the collective allowance. The reason was very simple. We saw that the, let's say, trend or pattern of the war aligned with our estimations, and the economy was resilient and acted well. What was in Q3, and mainly at the end of Q3, is the expansion of the war, more materially with the northern frontier, the continuation of the war into Q4. I think we, and Bank of Israel as well, looked at those elements and felt that is the right time to, let's say, increase the provisions. Nevertheless, we don't see a material change in the conditions of the customers or borrowers or defaults. So the reason is conservative approach when we saw, let's say, continuation of the war into the second year of the war and expansion in the northern front. Very clear. Thank you. So, if I extrapolate this to Q4, as we're almost in the end of November and the war continues both in the north and in other areas too, should we assume therefore that this conservative stance will continue in Q4 unless something drastically changes? Well, it depends on the geopolitical situation, what will be not only in Q4, but in January and February as well. When we will publish our report, we will have to estimate and evaluate the situation. If the war will continue or any deterioration will happen, then it's reasonable to assume that we evaluate the different scenarios and compare it to the current provision, and if there is a need to increase the provision, we will increase it to build reserve. If the situation will be improved, we'll evaluate whether there is opportunity maybe to gradually release, but it's hard to say from now. It's 3 months from now, and it really depends on the situation of the war. We hold up that the Israel economy will continue to reflect resilience, and there will be some improvements to a lower extent of conflict or better situation. Yes, we hope that. Thank you very much. A couple of small questions. I mean, why are fees down 3% or 4%? I mean, I saw credit card revenues were down like 20% over the quarter. What is driving that? I mean, many competitors reported a huge increase in credit card revenues. I am just wondering where that is coming from. Okay. Thank you, and you are right, mainly credit card. It is important to note that substantial part of credit card fees are related to Forex transaction or traveling or other elements that relate to consumptions of traveling and tourism. The situation affects the extent that Israeli travels abroad, and that has some effect on credit card fees. Okay? So that is the main element that affected credit card fees. As long as in the future we will see Israelis or tourism is back to normality, we should expect that there will be increase in that segment. Okay, thank you. I noticed other costs went up quite notably in this quarter by 6%-10% versus the last quarter and previous year. What is the main reason for that? As credit card has been down, I assume that too did not have an impact on other costs. Micha, can you repeat? You asking about- Yes cost or expense? I am asking about other expenses, which I think went up quite notably, both versus the second quarter in 2024 and even more significantly versus the third quarter in 2023 by 10%. Yeah. It is related to some legal procedures or provisions that we do with some legal procedures that we have from time to time, and some elements relate to benefits for customer or donations that we do and relate to the war. I understand. I also noticed you had a ILS 58 million loss in your equity-based investments, and I was wondering, what is that coming from? Yes, we evaluate every quarter, the book value compared with fair value or stock prices, if it is tradable holdings. We manage it according to accounting principles, and if we see a gap between the book value and the price, we depreciate the holdings, so that is the reason. Is that primarily public equities investments? Yes, mainly. Okay, I understand. My last question, I mean, you have recorded significant losses on your realization of bonds in this quarter. I see that you had the same less, I mean, in lesser magnitude in previous quarter, and I am just wondering, is this something that we should expect to continue to go on in a couple of quarters forward as well? I mean, everybody is not doing the same thing in their security performance. I am just wondering if we should continue to expect realization of more losses coming through. Thank you very much. Yes, you are right. This is one element that affected our results this quarter. By the way, if I exclude it is adding 1.3% to our return on equity. The reason we sell bonds and realize loss is very simple. We are managing our financial position, and we are adopting a very proactive approach in that. The meaning is very simple. The loss already recorded in the other comprehensive income due to increase in the last couple of years in yield curve. We are monitoring markets very closely, and we thought it, for the last quarter, it was a good opportunity to sell some bonds. You can see that there is classification of losses to the P&L from other income. It enabled us to replace those bonds, to extend maturity, and support increase in financing income in the future. It is an opportunity that we see. You are right that we did it in the last quarters. The effect on this quarter was ILS 300 million because of losses, but the purpose is to support increase in financing income in the future and to exercise opportunity that we see in markets. If you look at our, let us say, the unrealized losses relatively in Bank Hapoalim, it is a small amount. We have potential for further selling and, let us say, catching some opportunities in the market. The extent, most of it already realized, but we have some potential. Whether we will sell or not depends on market prices and opportunities that we will see with the pricing or the yield curve. Very clear. Thank you very much. My last question is, do you have any update on the insurance claim that is waiting from last year again, on the $35 million? Thank you. Yes. Thank you. There was supposed to be a discussion in this November, and it postponed, and we are waiting for a date for a new discussion. Like you mentioned, we have here about $100 million that we did not recognize. I am not sure, but I think it is postponed to the middle of the next year. July. July next year. That is the reason why we did not recognize the income from this compensation from insurers. The reason is the discussion that was postponed. Okay. Thank you very much, and good luck. Thank you, Micha, for your question. If there are any additional questions, please press star one. If you wish to cancel your request, please press star two. Please stand by while we poll for more questions. There are no further questions at this time. This concludes the Bank Hapoalim third quarter 2024 results conference call. 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