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Morningstar | Santander Chile Benefits from Higher Inflation and an Improving Chilean Economy

During the third quarter, narrow-moat Santander Chile benefited from higher interest rates and inflation seeing net interest income and fees rise 10.4% from the previous quarter. Despite this increase in net interest income, the bank’s net income actually fell 5.5% from last year’s third quarter to CLP 129.7 billion. This is largely attributable to a nearly 34% increase in loan loss provisions. This shouldn’t alarm investors, Santander Chile along with its peers, took a one-time catch-up provision as a result of a new credit loss model. If it weren’t for this change in methodology, operating income would have been comparable to the previous year. Through the first three quarters of the year, Santander Chile has mostly performed within our expectations in 2018. Nevertheless, despite recent improvements, we’re still cautious on the Chilean economy and believe credit provisions will eventually normalize at higher level. We’ll be maintaining our fair value estimate at $19.50 per ADR share.

Currently, shares trade at more than a 50% premium to our fair value estimate. We continue to regard Santander Chile as a well-run bank. However, it’s hard for us to rationalize paying 3 times book for a mature bank whose growth is mostly dependent upon the underlying economy.

For the third quarter, Santander Chile realized accelerated loan growth of 2.4% which translates into an annualized rate of nearly 10%. During its call, rival Banco de Chile, forecast similar banking system loan growth of 10% in 2019. Though some of this credit demand is a result of the rebound in the Chilean economy, we worry competition is becoming more intense. During its call, management stated they had seen no changes in competitive intensity. Other than accelerated loan growth, we have no other evidence banks have lowered underwriting standards, but it’s a risk that worries us.

Mortgage loans were a big contributor to this quarter’s loan growth, expanding 3.1% from the previous quarter. Over the past five years, Santander Chile’s mortgage portfolio has grown at a compounded rate exceeding 11%. Even in 2017, as the Chile’s economy slowed, mortgages still grew by 5.5%. So long as mortgages grow at this accelerated rate and inflation remains stable, we don’t anticipate Santander Chile will achieve significant improvements in net interest margin.