Fitch Ratings, one of the three global rating agencies, published reports this week on the state of play in Russia. The government of Russia’s BBB rating was affirmed, but the Outlook for the rating (i.e., where the rating is likely to go in the next two years) remains negative. Russia has been more negatively affected by the global downturn than other Emerging Markets (with GDP down over 10% annualized in the first half of this year). Fitch quotes these reasons why:
“First, it [Russia] was highly exposed to the shocks to global commodity prices and cross-border capital flows, which were of the order of 25% of GDP. Second, monetary policy was overly loose, external borrowing and domestic credit growth was excessive, and the economy was overheating prior to the crisis. Third, vulnerabilities were exacerbated by structural weaknesses including an undiversified economy, a weak banking sector, high inflation, FX mismatches on private sector balance sheets, weak institutions and a difficult business climate – which the authorities failed to address sufficiently during the boom years.”
In addition, Fitch banking analysts expect non-performing loans at Russia’s banks to top off at 25% of total loans, up from 14% in June. Under its “pessimistic” scenario, Russia’s NPLs rise to 40% and losses amount to 24% of total loans. Press releases on the Sovereign and the banks are below.
” Fitch Affirms Russia at ‘BBB’; Outlook Negative 04 Aug 2009 7:12 AM (EDT)
“The Russian economy and sovereign balance sheet have been severely affected by the global financial crisis and, despite signs of economic and financial stabilisation since March, risks to creditworthiness remain on the downside,” says Edward Parker, Head of Emerging Europe in Fitch’s Sovereigns team.
Russian GDP contracted 10.1% y-o-y in H109, a far worse performance than in other larger emerging markets, and foreign exchange reserves (FXR) have fallen by around USD200bn over the past 12 months. The severe impact of the global crisis on Russia reflects three sets of factors. First, it was highly exposed to the shocks to global commodity prices and cross-border capital flows, which were of the order of 25% of GDP. Second, monetary policy was overly loose, external borrowing and domestic credit growth was excessive, and the economy was overheating prior to the crisis. Third, vulnerabilities were exacerbated by structural weaknesses including an undiversified economy, a weak banking sector, high inflation, FX mismatches on private sector balance sheets, weak institutions and a difficult business climate – which the authorities failed to address sufficiently during the boom years.
Fitch forecasts Russia’s real GDP to decline 7% in 2009, before increasing 3.5% in 2010, helped by the inventory cycle, base effects, higher oil prices and a large fiscal stimulus. However, the length and depth of the recession is a downside risk and will have implications for bank asset quality, public finances and, potentially, political pressures on the Russian authorities. Fitch views the banking sector as a key credit weakness. In its base case, the agency projects impaired loans to increase to 25% of total loans by end-2009, requiring recapitalisation of at least USD22bn in addition to the USD24bn injected since Q308. The central bank faces a challenge in providing sufficient liquidity to the banking sector, while reducing inflation to single-digits and avoiding excessive rouble volatility.
The Russian private sector faces maturing external debt payments of USD137bn this year, which may be difficult to refinance in current market conditions. Fitch estimates the roll-over rate was 64% in Q109. Capital outflows and the dollarisation of household bank deposits have eased since the completion of the rouble devaluation process in February, but could re-emerge in the event of renewed financial stress. Nevertheless, overall the country has a strong external liquidity position, with FXR of over USD400bn, and it is a net external creditor to the tune of 17% of GDP at end-2008, compared with a net debtor position for the ‘BBB’ range ten-year median of 13%.
Public finances are a key sovereign rating strength. General government debt was only 8% of GDP at end-2008, well below the ‘BBB’ range 10-year median of 35%. Moreover, Russia has an aggregate USD184bn in its Reserve Fund (RF) and National Wealth Fund (at end-June, equivalent to around 15% of projected 2009 GDP) providing a strong liquidity position to finance budget deficits and to run counter-cyclical fiscal policy. However, Fitch forecasts the recession, fall in oil prices and anti-crisis measures to cause the federal budget to swing from a surplus of 4.1% of GDP in 2008 to a deficit of 8.5% in 2009 and 6% in 2010. Even with a return to the eurobond market next year, this will cause the RF to be depleted in 2010 and require significant fiscal consolidation over the medium-term.
A renewed deterioration in global economic prospects, oil prices and risk appetite leading to a material weakening in the sovereign balance sheet or macroeconomic instability could result in another downgrade (Fitch downgraded Russia’s ratings by one notch on 4 February 2009). Negative shocks from the banking sector or elevated financial pressures from low roll-over rates on external debt or large-scale capital flight would also be negative for the ratings. Furthermore, a failure to narrow the budget deficit, and a consequent rapid increase in government debt and depletion of the sovereign wealth funds could lead to downward pressure on the ratings in the medium-term. In contrast, a material easing of a combination of these risks could see the Outlooks revised to Stable.
Contacts: Edward Parker, London, Tel: +44 (0)20 7417 6340; David Heslam, +44 (0)20 7417 4384.
Media Relations: Peter Fitzpatrick, London, Tel: + 44 (0)20 7417 4364, Email: [email protected].”
“Fitch Ranks 57 Russian Banks by Loss Absorption Capacity
14 Aug 2009 5:07 AM (EDT)
The extent of Russian banks’ asset quality deterioration, their loss absorption capacity and contingency recapitalisation plans are likely to be the main drivers of rating actions over the next 12 to 18 months. Fitch-rated banks reported an average 14% impaired loans (5% non-performing and 9% restructured) at 1 June 2009, up from 10% (3% and 7%) at 1 March.
“However, management figures prepared at a still relatively early stage of the credit downturn are unlikely to fully capture the eventual full extent of asset quality problems,” says Alexander Danilov, Senior Director, Fitch’s Financial Institutions group in Moscow. “The gradual deterioration of banks’ asset quality metrics is likely to continue during the second half of 2009 and into 2010.”
Fitch had previously stated that it expects impaired loans at Russian banks to reach 25% in a base case scenario, resulting in ultimate loan losses of 12.5%. Under a more pessimistic scenario, impaired loans could reach 40% resulting in loan losses of 24%.
Fitch ranked the loan loss absorption capacity of the 57 rated Russian banks to demonstrate their relative vulnerability to loan losses. The agency assessed the banks’ loss absorption based on the maximum reserves to loans ratio they could have sustained at 1 June 2009 without breaching minimum regulatory capital requirements. However, Fitch notes that a lower or higher loss absorption capacity, as defined by this measure, does not automatically mean that a bank is more or less vulnerable to potential loan impairment, as credit losses at individual banks may significantly diverge from Fitch’s average sector assumptions.
For 10 of the 57 banks – VTB24, Rossiya, Bank of Moscow, Swedbank (Russia), VTB, Moscow Bank for Reconstruction and Development, AK Bars, Rosbank, Orgresbank and Unicredit (Russia) – the maximum reserves/loans ratio is below 10%, and Fitch thus regards these banks’ loss absorption capacity as currently weak. However, Fitch notes that the capacity of two of these banks – Bank of Moscow and VTB – should strengthen significantly as a result of upcoming equity injections, and that most of the other eight banks also have relatively strong shareholders, which the agency would expect to contribute new capital in case of need. Fourteen of the banks reviewed had moderate loan loss absorption capacity (a maximum reserves/loans ratio of 10%-15%), while capacity was significant at 14 banks (15%-20%), solid at 11 (20%-32%) and strong at eight (more than 32%).
Banks’ loss absorption capacity has increased significantly in recent quarters as they have received new capital, albeit mainly in the form of subordinated debt, and cut back on loan growth. However, this capacity still remains moderate on a sector basis relative to potential credit losses.
“The recently approved government programme to support banks’ tier 1 capital, if successfully implemented, could help to make recapitalisation a manageable process,” says James Watson, Managing Director, Fitch’s Financial Institutions group, “Defaults would still be possible, in particular at banks with major asset quality or corporate governance failures, although recent government actions suggest a determination to avoid destabilising, unmanaged failures at larger institutions.”
The report, entitled ‘Russian Banks: Measuring Their Loss Absorption Capacity’, focuses mainly on asset quality deterioration trends and banks’ loss absorption capacity. It follows and expands on the July 2009 presentation, entitled ‘Asset Quality Problems Weigh on Russian Bank Ratings’, which provided a summary of Fitch’s sector wide credit loss expectations and recapitalisation requirements. The report and presentation are available at www.fitchratings.com.
Contacts: Alexander Danilov, James Watson, Moscow, Tel: +7 495 956 9901.
Media Relations: Marina Moshkina, Moscow, Tel: +7 495 956 9901, Email: [email protected]; Hannah Warrington, London, Tel: +44 (0) 207 417 6298, Email: [email protected].”
