CIB - Bancolombia: Unfairly Penalized

Summary

• Bancolombia has underperformed YTD on political concerns.
• Post-election policymaking has been more pragmatic, though, signaling a more benign regulatory environment ahead.
• Recent hikes by the BanRep offer additional tailwinds to the NIM expansion path.
• With the stock still at a wide discount to book, Bancolombia offers compelling value.

Bancolombia ( CIB ), Colombia's largest banking group, may have seen its stock decline significantly YTD, but the fundamentals tell a completely different story. Supported by rising interest rates, CIB has delivered multi-year highs in its underlying profitability, with its most recent quarterly outperformance resulting in a trailing ROE of ~20% (~19% for Q3). With the Colombian central bank (BanRep) again hiking rates at this month's meeting and signaling more hikes next year, CIB is poised to see further margin expansion. While concerns about a macro slowdown are warranted, the bank's favorable funding mix and solid capital position should limit the asset quality impact. Yet, due mostly to the political uncertainty post-election, the stock trades at a historically discounted ~0.8x P?B valuation, which strikes me as overblown following the limited impact of recent policy reforms.

Taxes Hiked; Policy Risks Moderated

As expected, the new Petro administration has focused on shoring up the fiscal position post-election, with proposed reforms spanning increased revenue collection to fund the fiscal gap and social spending requirements. Somewhat surprisingly, however, recent initiatives indicate the tax reform may not be as aggressive as initially feared. The latest tax reform approval, for instance, included a "temporary surtax" for financial institutions through 2027, with the statutory tax rate increased to 40% (from 35% previously). The higher tax only applies to its Colombian operations, though, so CIB will see its effective tax rate increase to ~35% since its ex-Colombian operations will be unaffected. Given management had already guided to higher FY23 taxes at its last quarterly update, the news has likely already been priced in by the market.

More broadly, the moderated policy risks in Colombia are in line with similar changes in governments in the LatAm region. The elections of the Castillo and Obrador governments in Peru and Mexico, respectively, are a case in point - despite promising disruptive reforms such as bank fee caps pre-election, actual measures proved to be more pragmatic, mainly covering tax reforms. If recent developments are anything to go by, I expect a similar scenario to play out in Colombia in the coming months. The market remains skeptical, so further news on the upcoming reforms will be worth monitoring - watered-down proposals to shore up business and investor confidence could support a re-rating for CIB stock.

More Rate Hikes to Support ROEs at Multi-Year Highs

Coming off a strong quarter, CIB management has maintained its ROE guidance of 20% for the full year. The ROE is guided to decline slightly, however, to ~19% over the next year, based on expectations of a tougher macro backdrop. Per management, it has incorporated a conservative GDP growth assumption of 0.9% in 2023, a significant drop-off from the 7.8% assumption in 2022. As a result, the FY23 guidance also reflects a deceleration in loan growth to ~5%, reflecting the lower GDP expectations in Colombia. The P&L will get some relief, though, from a continued net interest margin ((NIM)) expansion through H1 2023 amid the higher interest rates. Yet, guidance for NIM to then contract in H2 2023 alongside the steep decline in GDP and loan growth seems punitive.

Thus far, BanRep's policy path supports a more benign outcome. The central bank opted to hike its key rate by 100bps in December, and all signals point to an additional ~50bps rate hike at the January meeting, so the NIM expansion runway remains extensive. Depending on how inflation trends from the latest >12% print in November , there may be even more hikes through FY23 before the BanRep can even consider cutting rates. While growth is a factor as well (BanRep cited leading indicators pointing to an economic slowdown post-conference), the more pressing issue is the inflationary pressures, in my view, particularly following the recent ~16% minimum wage adjustment.

Unfairly Penalized

Throughout the uncertainty in recent years, CIB has maintained sound asset quality and best-in-class ROEs. Despite delivering decade-high profitability in its latest quarter on interest rate tailwinds, the stock is trading at a significant discount to its underlying book. Some of the overhang is perhaps warranted due to concerns about the political environment post-election, but the market appears to be ignoring the near-term tailwinds. Earlier this month, the BanRep signaled more rate hikes in 2023, while the recent tax reform indicates a less disruptive than expected impact from the new government. Further, the unsuccessful tender offers by the Abu Dhabi-backed Grupo Gilinski indicate a low probability of a change of control scenario at key CIB shareholder Grupo Sura. All in all, the stock looks poised for a re-rating in the coming months.

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