GGAL - Grupo Financiero Galicia: Risk-On For Argentina's Largest Private Sector Bank Into 2024

2023-12-05 11:29:26 ET

Summary

• Grupo Financiero Galicia reported Q3 earnings highlighted by continued profitability despite the challenging macro environment in Argentina.
• The Presidential election victory of pro-markets Javier Milei could be positive for Grupo Financiero Galicia to consolidate its market share from government-owned banks.
• The stock is a good option to gain exposure to the high-level trends in Argentina where there is building optimism for its long-term outlook.

Grupo Financiero Galicia S.A. ( GGAL ) is recognized as one of Argentina's largest financial institutions with diversified operations across banking, insurance, and asset management. Despite the historically difficult economic environment in the country, GGAL has emerged as a surprising winner with shares more than doubling over the past year.

The setup considers that despite dealing with three-decade-high inflation and poor economic growth, Grupo Financiero Galicia continues to grow while navigating the complex interest rate environment. Indeed, we last covered GGAL back in 2019 with a bullish article highlighting some of these themes that have played out.

Our update today reaffirms a positive long-term outlook for the bank, noting that the recent Presidential election victory of pro-markets Libertarian Javier Milei should be positive for the group.

GGAL Earnings Recap

The key to understanding Grupo Galicia is that while the inflation rate in Argentina was last reported at an annual rate of 143%, the local Central Bank policy interest rate known as the "Leliq" was last hiked to 133%.

This means that for Galicia as a banking institution and operator within the local credit market, the name of the game is to earn the high interest from government securities on deposits and generate a spread on lending.

In Q3, the company reported a headline net income of Ps. 54.2 billion , up 103% from the period last year. For context, that level represents approximately $150 million in profit at the current exchange rate.

The result was driven by a 47% increase in operating income including a 390% increase in net interest, reflecting the higher interest rate environment. At the same time, the group has made an effort to control expenses with personnel and administrative expenses just 8% higher from Q3 2022.

Despite some volatility relative to Q2, performance indicators are up strongly over the past year. Firm-wide return on assets and return on equity are up, alongside a higher financial margin. Notably, non-performing loans at 2.75% are down from 3.1% in Q2 and roughly flat over the past year.

Keep in mind that these measures consolidate the various business lines including the fintech segment "Narjana X" which has dragged lower overall results as a cost center.

The trends at the core "Galicia" bank segment are even stronger, capturing a market share gain of loans to the private sector that has reached 11.7%, up 16 basis points from Q3 2022. A major theme for the bank has been ongoing digitization with 87% of clients accessing services through a digital channel. This has allowed the company to streamline its branch network.

There has also been success in credit card products and small-business solutions including merchant financing. We can also mention that the Galicia Seguros "Insurance" division, as well as the "Fondos FIMA" asset management arm, have also contributed to the growth with a climbing level of assets under custody.

What's Next For GGAL?

On the macro side, it's clear that Argentina faces some serious challenges from an expected recession through 2024 while inflation is expected to remain above triple digits. The problems the country faces extend from an ongoing wide fiscal and current accounts deficits that simply don't have short-term solutions.

That's the backdrop that plays a role in explaining the election victory of the "maverick" and politically unorthodox Javier Milei who ran a campaign defined by drastic policy proposals .

While there are few details in terms of a specific plan of action ahead of his inauguration on December 10th, talking points have been centered on slashing public spending, moving to shut down Argentina’s Central Bank, and even adopting the U.S. dollar as the national currency to solve the inflation crisis.

The understanding is that while some of these steps are technically possible and even supported by a theoretical framework, it's unclear how such goals would be implemented given the Congressional power structure and constitutional limits of power.

That said, what we do expect is an effort to reduce the importance of public institutions that would benefit private players. This is important when we look at the banking industry of Argentina where government-owned banks represent nearly 30% of lending and deposit market share.

As we see it playing out, Galicia is well-positioned to consolidate its market share, at the expense of public banks by "Banco de la Nación Argentina" and "Banco Provincia de Buenos Aires" that could become targets of a Milei administration overhaul.

We believe this line of thinking explains the strong performance in Argentine stocks over the past month, with a sense of improved risk sentiment. The idea here is that a more favorable pro-business and investing environment in Argentina can attract a return of international capital as a tailwind for the economy going forward.

In terms of the trade-off between fiscal spending cuts and the impact on economic growth, the other side to that equation would be the more the rebound of credit demand against lower taxes and easing trade restrictions. Even with the most optimistic view, it's clear a transition will take time, but we view Galicia as a major beneficiary of economic reforms over time.

Final Thoughts

Grupo Financiero Galicia is a good option for investors to gain exposure to the high-level macro themes in Argentina. The economy remains speculative with significant uncertainties, although we believe the risk-adjusted return potential for this leading local bank could be compelling. With the stock trading near a 3-year high, we see room for the rally to continue with the market repricing a more positive outlook.

In terms of risks, the first step here is to assume the eventual policy actions under a Milei administration are successful in both containing inflation and supporting long-term growth. A scenario where economic conditions deteriorate and Argentina spirals into a deeper recession would undermine any bullish outlook for shares of GGAL.

Over the next several quarters, beyond those key macro indicators, performance metrics including the bank's efficiency ratio and financial margins will be key monitoring points.

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