The local banking industry kicked off the year with a strong performance in the first quarter of 2019, posting an industry-wide Pre-Tax ROE of 14.9%, the highest level of profitability since 2005. Popular led the way with the highest level of profitability, achieving a Pre-Tax ROE of 21.0%, followed by Oriental (14.6%), FirstBank (10.9%), Santander (8.9%), and Scotia (6.3%). Furthermore, the capital position of the industry is exceedingly strong, posting a Tier 1 Risk-Based Capital Ratio of 21.8%, credit quality metrics continue to improve, registering a nonperforming loans ratio of 6.3%, deposits continue to surge, and the industry-wide credit portfolio is stable. Local banks, which have learned to effectively navigate through turbulent economic waters, are well positioned to seize opportunities during the post-disaster reconstruction period. The pace of disbursements of the $45 - $50 billion in federal disaster relief funds which have been allocated thus far has been very slow, resulting in a lackluster effect on the local economy. In this issue, we review the latest trends of loan originations and outstanding credit portfolio, both in terms of growth and loan type mix. The mortgage lending business has reduced significantly and is likely to continue this downward trend given demographic changes, lower rates of household formation, and higher interest rates. As a result, banks may have to rethink their mortgage business going forward, including their mortgage servicing business. On the other hand, the consumer and commercial loan segments may help compensate for the drop in mortgage activity given the most recent consumption and economic activity indicators.

The Puerto Rico banking industry closed the year 2018 on a high note, registering a Pre-Tax ROE of 14%, the highest level of profitability since 2005. The divergence between the profitability of local banks and US commercial banks narrowed significantly in 2018 with US commercial banks reporting a Pre-Tax ROE of 15.1%. The local banking industry has become increasingly concentrated with Popular holding $37.9 billion (58%) in assets of an industry total of $65.9 billion, and the three largest banks, i.e. Popular, FirstBank and Oriental, accounting for 84% of the total. The industry-wide cost to income reached 55.9% in 2018, the lowest level since prior to the onset of the economic downturn of 2006. With few opportunities to deploy excess capital, capital levels continue to strengthen with an industry level Tier 1 Risk-Based Capital Ratio of 21.7% in 2018, compared to less than 10% in 2008. Asset quality has also been moving in the right direction, with the industry closing 2018 with a nonperforming loans ratio of 6.8%. Concerns over post-hurricane asset quality deterioration have largely dissipated. The strong profitability performance of banks in 2018 was accompanied by a strengthening of their balance sheets with total assets increasing by 5.7%, deposits by 7.9% and the industry credit portfolio by 2.8%. Given the latest trends in profitability levers, upcoming recovery funds and economic forecasts, we expect a similar or even stronger performance in 2019.

The positive momentum in the local banking industry continued to build in the third quarter of 2018, following the historic and highly disruptive 2017 Atlantic hurricane season. The industry-wide Pre-Tax ROE in Q3 2018 reached 13.7%, following a strong first half of 2018 (Pre-Tax ROE of 8.3% in Q1 2018 and 17.4% in Q2 2018), yielding a YTD 2018 Pre-Tax ROE of 13.1%. These profitability levels have not been seen since 2005, prior to the onset of the prolonged and deep economic downturn. Concerns over the deterioration of asset quality have further abated given the latest quarterly delinquency levels. The Q3 2018 industry-wide nonperforming loans ratio stood at 7.6% from a peak of 9.2% in the wake of the hurricanes. Furthermore, after the temporal and non-recurring impact of Hurricanes Irma and Maria on the banks' income and expenses, banking productivity levels improved materially, reaching a cost to income ratio of 56.5% in YTD 2018 from 63.8% in 2017. Capital buffers remain exceedingly strong, with a consolidated Tier 1 Risk-Based Capital ratio of 20.9%. Going forward, strong banking performance is expected to continue given the billions of dollars in public and private post-disaster reconstruction funds that will be increasingly flowing through the economy and financial system. Lastly, in this issue, we benchmarked the profitability performance of local banks against that of similar-sized United States peer banks since 2015, also breaking down profitability by income and expense levers to help explain what drove the differences in YTD 2018.

The local banking industry's profitability on a consolidated basis has rebounded strongly in the wake of Hurricanes Irma and Maria, reaching a Pre-Tax ROE of 17.4% in Q2 2018, making it the highest quarterly profitability level in a decade. The liquidity position of local banks, particularly of Popular, has experienced a material improvement, with total deposits reaching $54.1 billion as of the end of Q2 2018 from $48.8 billion in Q3 2017, a $5.3 billion or 10.9% increase. Hurricane-related private insurance claims paid out to policyholders and post-disaster federal assistance funds deposited in private banks have largely driven this surge in deposits. This newfound liquidity will need to be put to productive use, either through increased lending or investments. The unadjusted nonperforming loans ratio showed some improvement in Q2 2018, decreasing from 9.2% to 8.8%, temporarily appeasing concerns of a spike in delinquencies. Capital positions of banks continue exceedingly strong, reporting an industry-wide Tier 1 Risk-Based Capital Ratio of 21.5%. The deployment of excess capital through organic and inorganic growth opportunities (e.g. Popular's Reliable purchase), stock repurchases or dividend payments to shareholders must be strategically pondered. Moreover, in this revamped issue we analyze Post-Hurricane Maria foreclosure relief efforts and their impact on banks and the housing market.