The banking sector in Puerto Rico reached a Pre-Tax Return on Assets of 1.54% in the first half of 2023. This profitability level was substantially above the profitability shown during the 2009-2017 period when the banking sector experienced an operational transformation. This transformation included a consolidation process and multiple de-risking initiatives to face the economic difficulties and the regulatory oversight. As a result, both the delinquency and efficiency levels of the banking sector improved substantially. In the first half of 2023, the non-performing loans ratio reached 2.2% compared to the 2009-17 period when it remained above 8% every year. Likewise, the efficiency ratio in the first half of 2023 was 59.3% compared to above 65% ratios in six of the nine years of the 2009-2017 period.
Thanks to this transformation, the banking sector profitability surpassed the profitability of the US peers in 2018 and subsequent years. Since 2018, the industry pre-tax ROA has remained stable with a slight decrease in the first half of 2023. FirstBank and Oriental have been able to successfully integrate the operations of Santander and Scotiabank respectively and to maintain their cost to income below 55%. Both banks showed Pre-Tax Return on Assets above 2% in the first half of 2023.
The banking loan portfolio increased by 6.1% during 2022 and by 2.7% during the first half of 2023, driven by commercial, auto and consumer lending activity. Despite the large increases in interest rates, consumption has remained robust compared to pre-pandemic levels, with the exception of home purchases. While personal and auto loan originations in the first half of 2023 were 3% and 8% above 2019 respectively, the mortgage originations were 30% below 2019.
The higher interest rates and the economic uncertainties in the global economy, including a potential slowdown of the US economy, could have an impact on consumer consumption and business confidence, which will affect the capacity of banks to grow their lending portfolio. On the positive side, the higher interest rate environment should be positive for banks profitability particularly in Puerto Rico where private deposits betas are low.
Banks are also experiencing competitive pressure in various segments of their consumer base. US Banks offer highly attractive credit card products to Puerto Rico residents, and it is more common nowadays for Puerto Ricans to open savings accounts and CDs in US banks and fintechs with attractive rates. On the middle and lower-income segments and outside the metropolitan areas, credit unions have been able to grow their business in recent years taking advantage of the banking consolidation and footprint reduction.
In the following sections we will analyze the growth of Puerto Rico credit unions in recent years. For more detailed information on the banks’ performance in the first half of 2023 and in previous years, refer to the V2A banking report dashboard above.
The growth of the Puerto Rico credit unions sector in recent years
The main depository institutions with presence in Puerto Rico that provide retail banking services to local residents are the three surviving banks (Banco Popular, FirstBank and Oriental Bank) and the credit unions. The credit unions sector has experienced a considerable growth in the past years and is an important source of depository and financing services for Puerto Ricans, particularly for medium and low-income residents and in non-metropolitan areas.
As can be observed in Figure 1, the number of credit union members has increased by 17% between December 2015 and June 2023. This increase is remarkable considering that the Puerto Rico population decreased by 12% during that period of time. As a result, 37% of the Puerto Rico residents are currently members of a credit union compared to 28% in 2015. The number of employees working in local credit unions has increased by 5% between December 2015 and June 2023. During that period, total employment in banks in Puerto Rico reduced from 12,393 to 11,572 (7% reduction).
Total deposit and loan volume in the credit unions sector increased by more than 40% between December 2015 and June 2023. In other words, not only did credit unions increase their deposit base thanks in part to the Hurricane María and Covid relief funds, but they also channeled those deposits to finance the consumption needs of their members. During that period, the Puerto Rico banking sector experienced a reduction of 7.5% in the domestic lending portfolio.
Figure 1: Credit Unions growth based on selected metrics (2015-2023)
Which products drove the overall lending growth of credit unions? As can be observed in Figures 2 and 3, the mortgage and Auto loan portfolios were the main contributors in terms of dollar amounts. The mortgage portfolio increased by 30% between December 2015 and June 2023, while the banking sector experienced a 30% reduction.
The credit unions sector also showed the larger loan portfolio increase in the Auto business. Their auto loan portfolio almost tripled between December 2015 and June 2023.
Figure 2 and 3:
Regarding the unsecured business, Puerto Rico credit unions were able to maintain their dominance in the personal loan business. Their loan portfolio increased by 12% in the 2015-2023 period compared to an increase of 2% by the local banks. The credit card business represents an important opportunity for growth for the credit unions sector. Total credit card balances, which only represent 1.5% of the credit unions lending balances, reduced by 3% between December 2015 and June 2023. There is fierce competition from local and US banks in terms of credit card offering. However, credit unions know their customer base better than any competitor and could adapt their credit card offering to their needs.
Figure 4, 5 and 6:
Finally, the commercial lending activity represents a small portion of the credit unions’ lending business. However, the larger credit unions in Puerto Rico have been able to increase their commercial customer base. Total commercial loan balances in the credit unions sector have more than doubled during the 2015-2023 period.
After the impact of Hurricane María on their operations, credit unions have been able to steadily increase their profitability. The Return on Assets reached bottom in 2017 (0.29%) and has since increased year after year reaching 1.31% in the first half of 2023, the highest level in the past 13 years. The profitability improvement has coincided with a steep decline in the delinquency rates (from 5.61% in December 2017 to 1.99% in June 2023). The delinquency rate reduction is the result of the higher liquidity of families and businesses in Puerto Rico after the arrival of the covid relief funds. As these and other infrastructure related funds reduce in the coming years, credit unions and banks will need to closely monitor the evolution of the credit risk of their portfolios.
Figure 7 and 8:
In summary, the three remaining banks in Puerto Rico continue to be, overwhelmingly, the main suppliers of banking services in Puerto Rico. And they operate with very healthy profitability levels. However, there are geographies and customer segments where other players can provide a closer, more personalized service. Some of these players, like the local credit unions, have taken advantage of their close relationship with their members as well as of their preferential tax treatment and the fact that are less regulated than banks, particularly at the federal level.
Additionally, banks face the progressive elimination of one of the biggest entry barriers of the sector, the brick-and-mortar branch infrastructure. As more and more customers rely on digital channels to perform their banking operations, new and existing digital banks will look into Puerto Rico to introduce their operations.
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