Banco Popular ready to face Covid-19-fueled recession
Popular Inc. CEO says bank has sufficient reserves for ‘dramatic’ downturn
SAN JUAN – The head of Popular Inc.—the holding company of Banco Popular de Puerto Rico, the largest island-based bank—said his institution has built up enough reserves to endure losses resulting from the Covid-19 pandemic-induced deep recession expected in coming months.
Popular Inc. President and CEO Ignacio Álvarez told reporters during a recent virtual roundtable that the bank, which last year posted record core earnings, has almost doubled its reserves since December in anticipation of the economic impact of the novel coronavirus.
Even before the Covid-19 crisis, Banco Popular, as other U.S. banks, last year was required to switch its loss accounting methodology to Current Expected Credit Losses (CECL) accounting methodology.
CECL requires banks to forecast losses on the life of a loan as soon as they originate and record it on their balance sheet. Previously, banks did not record losses until an event persuaded them that a borrower may not be able to make loan payments in full. The new methodology requires shored up reserves but can cut into banks’ profitability.
Popular Inc. reported net income of $34.3 million for the first quarter of 2020, ended March 31, compared with net income of $166.8 million for the quarter ended Dec. 31, 2019. The provision for credit losses for the loans and investments portfolios, which reflects the adoption of CECL, was $189.7 million, including $134 million in incremental reserves due to the expected economic impact of Covid-19, according to Popular’s earnings report.
Gov. Wanda Vázquez’s implementation of the curfew/lockdown order on March 15 to curb the spread of Severe Acute Respiratory Syndrome Coronavirus 2 (SARS-CoV-2), the virus strain that causes Coronavirus Disease 2019 (Covid-19), impacted the revenue streams of Popular Inc., according to the report, which listed the reduced consumer transaction activity, the waiver of certain late fees and service charges, including ATM transaction fees, as well as the suspension in mortgage origination and related securitization and loan sale activities.
“In March, everything changed negatively,” Álvarez said during the roundtable, noting that the bank had to reduce business hours and channel most transactions to bank branch Autobanco drive-through windows. “That impact was not felt 100 percent in the operational part because our interest from income was greater. We had lower costs and we had quite solid operational results, taking into consideration that the second half of March was almost totally lost.”
‘Dramatic’ contraction, W-shaped recovery
The CEO said he expects a “dramatic” fall in Puerto Rico’s gross domestic product (GDP) in the second quarter, followed by a recovery progressing in fits and starts. The deep recession Puerto Rico and the states are sinking into will not be a typical economic downturn because of the nature of the crisis, Álvarez said.
“None of us have experienced something of this nature in our lives. We experienced the force of [Hurricane] Maria but we have had hurricanes before,” the executive said. “It is difficult to forecast how long the recovery will take because fundamentally this is a health problem. How fast the economy can reopen and how deep that recovery can be will depend greatly on advances in the field of health. If we have advances that are faster than expected, the economic impact will not be so bad, but if they take time, it will get worse.”
Álvarez said he is expecting a roller-coaster-like recovery due to the uncertainties surrounding the spread of Covid-19, which has yet to be contained.
“We see this more like a W-shaped recovery,” he said. “There will be a sharp fall in the economy in the second quarter, in the double digits in Puerto Rico as well as the states. It will be a dramatic fall—the biggest we have seen in our lives. What we foresee is that it will fall dramatically in the second quarter, rise a bit in the third quarter, fall again in the fourth quarter, and then go up again. This will not be a V-shaped recovery because it will take time.”
Despite the daunting economic fortunes ahead, Álvarez is confident that Banco Popular will come out ahead.
“That is why we have taken our reserves, and, obviously, our profitability will be affected. But even in these difficult times we think that even though we will be less profitable than normal, we will have earnings,” he said. “Thank God that we are in this situation with a level of capital we never had before. In effect, we almost doubled our reserves since December. We are very prepared, but, obviously, there is a lot of uncertainty.”
There are growing concerns that any economic recovery later this year could prove short-lived because of a possible resurgence of Covid-19 and a late spike in bankruptcies and defaults. Businesses and households that barely survived the current lockdown could go under later in the year.
In fact, Banco Popular has seen an influx of tens of thousands of requests for moratoriums from borrowers to put off monthly payments. Álvarez said the bank received more than 128,000 moratorium requests for loans in its portfolio, plus another 27,000 third-party mortgages involving entities such as the Federal National Mortgage Association (Fannie Mae).
The biggest portion of the moratorium requests involves auto loans (50,786), followed by mortgages (38,941), consumer credit borrowing involving credit cards and personal loans (34,665), and commercial loans (3,649), the bank executive said. The moratoriums allow customers to put off monthly installments for six months, while moratoriums for other loans allow for a four-month delay in payments.
“We have processed 78 percent of these requests. I think the number will be similar to what we had after [Hurricane] Maria,” Álvarez said.
Reopening of economy needed
Without presenting specific numbers to justify her decision, Gov. Vázquez announced last week an executive order to allow the reopening of much of the economic activity stopped a month and a half ago as the main measure to avoid the spread of Covid-19 on the island. Álvarez said such a lifting of restrictions on business is necessary because small and midsize enterprises (SMEs) cannot withstand the lockdown any longer. He acknowledged, however, that future Covid-19 contagion flare-ups could merit lockdown measures to be reinstated.
“Unfortunately we will have to learn to live with this virus for quite a long time,” he said, noting that the governor’s measures to control the spread of the virus deserved an “A-plus.”
“There will not be a vaccine for at least a year, and that would be a record in the history of vaccines,” the bank executive said. “We can’t close for a year because then we will all die of hunger. The question is how we can get out gradually, experimenting with and measuring the impact of these openings. And it is possible, if not probable, that we will have to open up a little, then close a little, then open back up again, until we better understand how this virus works.”
Álvarez said hard-hit SMEs cannot endure months-long lockdown measures.
“There has to be a balance between health and economic concerns,” he said, calling on the government to educate and “provide the tools” to Covid-19-proof workspaces. “You just can’t tell a 55-year-old small-business owner to keep his place shut and endure for health’s sake because it will not be so easy for him to recover. He could be impacted for the rest of his life.”
Sees silver lining in pandemic-ravaged economy
Certain industries will recover faster than others, Álvarez said, noting that he expects a slow recovery in the tourism, restaurant, movie and cruise industries, while the construction and manufacturing industries will bounce back faster.
Nevertheless, Álvarez said he remained optimistic about Puerto Rico’s long-term economic prospects due to the expected influx of federal aid money, which includes supplemental unemployment benefits that will often exceed worker earnings. The reshuffling of the global supply chains as a result of the pandemic will also open opportunities for the island, he said.
“There will be things that will help; there is a lot of federal stimulus money from Maria that has not been spent yet and has been obligated. There have been advances with that money,” he said.
The “dire impact on the economy” from Great Depression-era unemployment rates could be mitigated by the federal supplemental unemployment aid provided by the $2.2 trillion Coronavirus Aid, Relief and Economic Security Act (Cares Act), Álvarez said.
“In the United States, more than 50 percent of the people receiving unemployment will get more than they were paid while working. In Puerto Rico that number will be much higher,” he said. “People here who qualify for $150 a week in unemployment benefits, for example, will get $750,” he said. “That is something we have not figured out how to put into the economy model. Unemployment today, at least until the end of June, will not represent the same thing as traditional unemployment, which paid a fraction of what you earned.”
Álvarez said Puerto Rico has a “tremendous opportunity to leverage this crisis” and become a global hub not only for manufacturing and transportation, but also as a “safe” and “cheap” location for office workers and tourism.
“Something that will occur with this pandemic, and that had been occurring with the trade war with China, is that the global supply chains will never be the same for a long time. I think every country will determine that there are certain industries that are important for their national security, be it from the military or health point of view, that must be within their borders,” he said, adding that Puerto Rico’s manufacturing hub of pharmaceutical and medical device plants puts it in a good position to reap the benefits of this new outlook. “These manufacturing plants are already in Puerto Rico and it is easier for them to expand an existing facility than create a new plant. The dependence on China for these products will drop due to practical reasons the companies have or to government restrictions.”
Moreover, Álvarez said, the increase in remote office work could offer an opportunity to Puerto Rico to promote itself as a hospitable place that has a cost of living that is “not as high as in New York, Los Angeles or Miami.”
“That is going to be very interesting because work patterns are going to change,” he said.
And despite the current bleak prospects for tourism in a pandemic-ravaged world, Puerto Rico could still leverage its proximity and relative safety to attract stateside tourists once the crisis ends, Álvarez said.
“When this is over, people will be afraid of travelling too far; they will not want to be on a plane for 11 or 13 hours straight to go to Japan or China, especially with a face mask on,” he said. “If Puerto Rico promotes itself as a safe place, where [people in the states] can arrive here in three or four hours, this could work out for us. But that will take us longer because I think all type of travel will be limited. I have no doubt that people will begin to travel again, but it will take some time.”
He added: “After [the Sept. 11, 2001, terrorist attacks] people were saying that the world would never be the same and no one would travel, but after that people were travelling more than ever. As soon as a vaccine is out, people will want to travel again as they did before.”