Latin America’s most stable market, Chile has recorded average annual economic growth of 6% for the past three years, its unemployment levels are low and inflation was only 1.5% in 2012, according to the country’s central bank. Furthermore, the country's gross domestic product (GDP) growth is projected to be between 4.25% and 5.25% in 2013, a healthy figure considering the lingering global economic malaise stalling growth in many other parts of the world.
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Part of Chile's success is down to its natural riches. The country has benefited from high commodities prices – especially copper – sustained demand from China and good levels of domestic investment in its mining sector. But an equally important factor aiding the country's economic development is its attractive framework for foreign investments.
Pro-business environment
“Foreigners hold a larger proportion of the stock market capitalisation of Chilean companies than the local pension funds," says Fernando Larrain, chief executive of investment bank Larrain Vial.
Clear rules and open market policies that have been passed on and respected by subsequent governments are at the core of Chile's pro-business environment, and it is hard to find a more investor-friendly market in Latin America.
“One of the features of Chile that is very useful for any foreign investor is that it is a very rule-based economy,” says Raimundo Monge, CEO of Santander Chile, the country’s largest bank by both assets and Tier 1 capital. “[Investors] don't need to know who is in charge of the government – as long as they follow the rules, it is ok with [the Chilean government].”
The Chilean banking sector is another source of stability and growth. Its lenders are well capitalised and the level of banking penetration is significantly higher than in other Latin American countries. The market is split between international players – Spain-based Santander and BBVA, and Canada-based Scotiabank all feature in the country’s top 10 largest banks – and local lenders – Banco de Chile is the second largest bank by both Tier 1 capital and assets, and Banco de Credito e Inversiones (BCI) is third in terms of Tier 1 and fourth in terms of assets.
Supermarket sweep
One of the most interesting growth stories is that of Corpbanca, a local lender which is the country’s fifth largest bank in terms of both Tier 1 capital and assets. In 2012, it took over two lenders in Colombia: the local operations of Santander and Colombia-based Helm Bank.
“We realised that Chile was getting too small for us; so we looked at Colombia,” says Corpbanca’s chairman Jorge Andrés Saieh. “There was an opportunity with Santander and we took it. Then with Helm, we realised that would put us in a position to have 7% of the market. And that’s why we went ahead and did both in less than one year.”
Corpbanca has also been gaining ground in its domestic market. Part of a larger group that also owns a supermarket chain, it is targeting a larger market share by adding banking services to its retail stores, many of which operate in areas without a bank branch.
By installing terminals in retail stores, Corpbanca will enable its customers to apply for a small loan, receive the answer instantly and cash the amount at the till. Customers will also be able to pay some bills and even buy bus and airplane tickets, thanks to the bank's partnerships with suppliers, transport companies and LAN, Chile’s airline. Security risks are low as the bank and retail stores are part of the same group, and costs for managing stores’ daily cash will be dramatically reduced.
New customers are likely to be added to Corpbanca’s network as a result of the new initiative, and invaluable data on customers' purchasing habits and risk profiles will also be made available to the bank. Mr Saieh predicts that Corpbanca will become the largest retail bank in the Chilean market as a result of the new scheme.
“The supermarket has more than 600 branches and we have about 700 [bank branches]. Beside that, [the service] will be seven days a week, 12 hours a day, and stores are in several cities where they don’t even have banks. Everybody eats but they don’t really need to have banks. This is a huge penetration and gives us competitive advantage," he says.
The downsides
To assume that Chile's economy is completely healthy, however, would be to overlook two areas of concern. One is the problem of rising real estate prices. Although this is not a serious worry at the moment, Chile’s central bank is keeping a close eye on the sector, according to the bank’s governor Rodrigo Vergara. Lenders are being vigilant, too.
Mr Monge says that maintaining the right risk profile in a real estate portfolio is crucial. “The policy at Santander is that the vast majority of our mortgages, 95%, are for first houses,” he says. “Then you have a completely [different] risk profile." He reasons that consumers think a lot more carefully about mortgages that are on properties that are going to be their primary home, as there is more at stake if they fail to keep up payments.
Another area of concern, especially since it was at the centre of a recent scandal, is the activities of non-banks. In 2011, retail chain La Polar revealed accounting irregularities in its financial arm, which was active in the credit card and loans sectors. The case caused a 91% fall in the stock price at the time.
The incident prompted the government to propose a regulation that would lower the ceiling on consumer loan rates and to announce the creation of a consumer protection agency specifically tailored for the financial services industry. While the latter was welcomed by banks, the former has been seen by many as an imposition on the market.
Adding up
Currently, banks and credit card operators are allowed to charge up to 51.4% a year for peso loans of up to 90 days, worth less than 200 unidades de fomento, the local inflation-adjusted accounting unit, or about $8700, according to official sources. New rules would lower the ceiling from 1.5 to 1.35 times the average market interest rate on those loans, and it is estimated that the rate may fall to less than 40%.
A rate of more than 50% a year is obviously high but bankers say that imposing a lower figure is not the way to tackle the underlying problem, which has to do with the cost of existing regulation and uneven loan information on loans and credit card services provided by non-banks. Despite its good intentions, many say that the government-imposed maximum rate would ultimately result in less credit being available to the lower customer segments.
“Regulators tried to reduce the number of differences between banks and non-banks, which is good, but at the same time they have overreacted,” says Mr Monge. “Reducing the maximum rate would be detrimental for the people they want to protect.”
Currently, non-banks cover half of the Chilean consumer lending space and also offer opportunities for customers outside of the banking network. Eugenio von Chrismar, BCI’s head of corporate and investment banking, says that consumer lending is seen as a key growth area by BCI, despite the higher risk profile associated to this product.
Other banks agree. Despite commercial banking services and products representing more than 60% of Chile's GDP, much still needs to be done. Because about 80% of income is held by the upper 40% of the population, bankers say that expanding the percentage of income held by this top tier would not directly translate into larger demand for banking products, since those individuals are very likely already fully served. Increasing the number of people entering the financial network or growing their banking needs is what would make a difference.
“Chile has a relatively concentrated income; this can be a problem [for banks],” says Mr Monge. “Even if you double the income for the upper end of the consumer market, for example, you don’t have a proportional increase in demand for banking products. This is why a key strategy of Santander has been to promote banking penetration – the middle and low end of consumer business and the low end of corporate business.”
Wrought by regulation
The La Polar case shook the world of non-bank lenders and, indirectly, the world of banking too, since government measures have created short-term regulatory uncertainty and a potential distortion in the banking market.
“We’d have preferred to tackle what was triggering higher prices," says Mr Monge. "That had to do with a lot of regulation, which was a burden for banks and lack of consolidated information. You have information on what clients do with banks, but with non-banks, you don’t have information.”
James Callahan, CEO of Scotiabank Chile, sees the increase in local regulation as part of a bigger trend in the global regulatory landscape. “Everywhere in the world, an increasing amount of management time is dedicated to regulatory issues; this government [in Chile], in particular, has been very active in pushing consumer protection legislation,” he says.
In addition to local regulation, Chilean banks have started to deal with international capital rules. A push towards adapting to new requirements came from authorities only recently, but experts believe that many local banks would be Basel III-compliant without much effort. For the international players that are already operating in the new regulatory framework, this is good news. Appetite for long-term risk is affected by whether a lender operates in a Basel III environment or not.
“The Chilean banking system is very well capitalised but essentially is in Basel I, and Basel I and a half; Basel III implementation wasn’t on the radar until very recently,” says Mr Callahan. “Canada is already Basel III-compliant, so Scotiabank is operating within a different set of rules to [its Chilean] competitors. I suspect others are too. There is an unlevel playing field which demonstrates itself in different appetites for long-term risk, which have higher capital requirements.”
Due an upgrade
Another asymmetry that is currently being balanced out is in Chile’s capital markets. Despite having one of Latin America’s most sophisticated markets, with large and active pension funds, Chile’s capital market infrastructure is still underdeveloped. “The infrastructure of the market is not as sophisticated as the players; the expression I use is that you see Ferraris driving on dirt roads," says Mr Larrain.
Enter MILA, the Mercado Integrado Latinoamericano, which aims to integrate the Chilean stock exchange with the exchanges in Peru and Colombia, and, at a later stage, Mexico. The project will facilitate capital flows between institutional investors and issuers across this economic area, with the hope of making it more visible and attractive to international investors too.
“What MILA has captured is a phenomenon that has been taking place for 20 years,” says Mr Larrain. “Initially it was Chilean companies investing in Peru and then Colombia and, [in the past] 10 years, Peruvian and Colombian companies have also been investing in the three countries, [making it] an economic region.”
What is driving this integration is the similar structural reforms that the three countries have undertaken and the capital market structure that they all have in common. Following Chile's lead, Peru and Colombia have also started to develop their pension funds systems.
Big ambition
The growth of Chile’s capital markets is also apparent when looking at the new international issuers and of the capabilities of local bookrunners. Celfin Capital, which is now owned by Brazil’s BTG Pactual, is proud to have raised funds for Banco Pine, a Brazilian mid-sized bank, in the Chilean market.
“[Celfin Capital] got to Banco Pine through BTG Pactual, but what [the firm was] offering was its ability to give them [cheaper] financing than in Brazil,” says Juan Andrés Camus, president of Celfin Capital. “The $73m bond was not big but there was receptivity for it, and this is the very first Brazilian issuer in the Chilean market.”
Small in terms of geography and population – a sliver of land inhabited by less than 18 million people – nevertheless, Chile is growing in its ambitions, and is looking to catch up with Latin America’s economic giant, Brazil.
“Chile is way ahead in terms of structural reforms, much more open to the world’s economy than Brazil is, and so are its capital markets. MILA is just a software, but what it has created, in my view, is a new asset class in Latin America,” says Mr Larrain. “When you speak of Latin America outside of Latin America, everybody understands Brazil, for obvious reasons, since it is the biggest economy. Now people say, well, there is Brazil and there is MILA.”
