Western banks - the big elephant in CEE


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Western banks - the big elephant in CEE

  1. 1. Emerging MarketsWestern banks – the big elephant in CEEWith the western banking system in trouble Western worries …with liquidity and capital sufficiency, Central The situation in Western Europe has worsenedand Eastern Europe are also facing risks of recently with the banks being in focus again – thetighter liquidity and longer-term capital pressure intensifies with the confrontation of awithdrawal. potential 50% (or larger) write-off on Greek debt holdings and the need to strengthen capital ratios toQuarterly results and anecdotal evidence 9% by next summer. According to preliminarysuggest that the key players in the CEE estimates around EUR 100bn will need to be raisedregion – Unicredit, Erste, Commerzbank, to comply with the new capital adequacyKBC … - are having trouble which may requirement. Low long-term interest rates coupledprompt banks to take some balance sheet with increasing refinancing costs hamper theaction. profitability of banks. On top of that the Western banks will face the tougher Basel III requirements,Southern Europe – Bulgaria, Romania and which only add to the current concerns.Croatia – is most exposed to the crisis withtheir large exposure to Greek and Italian The stress in the Western European banking systembanks. Hungary remains the weak link in poses threats to Emerging Markets, and inCentral Europe. particular the Central and Eastern European region (CEE), as among EM it has the largest dependencyEven the relatively strong markets – Poland on cross-border banking, relying primarily onand Russia – will not escape unscathed if the Western European banks (90% of total foreigncrisis escalates, as Moody’s move to claims are from Western Europe). Over the decadedowngrade both banking sector outlooks western banks have been expanding in the region,suggests. acquiring local banks and today account for 70% of the bank assets of the eastern EU members, withIf the European bank sector tensions persist eastern daughters depending to a great extent onthe growth risks of the CEE increase western mothers for funding. Viewed in isolationsubstantially. If the solution is found promptly the CEE region looks better today in relative terms.only the “weakest links” may have trouble. Looking at the debt-to-GDP ratio, even Hungary with the highest ratio of nearly 80% is in aTo avoid capital outflows the CEE countries relatively better situation than the Westernmay increase the use of protectionist European counterparts. Cyclical fundamentals havemeasures such as restrictions on capital also improved – since Lehman many countries haveflows from subsidiaries to parent companies managed to reduce their current account deficits.in the West, with some nationalisations offailed banks also likely, as last week’s Less foreign financing exposure nowepisode with Lithuania’s bank Snorassuggests.Renewal of the Vienna Initiative on a pan-European scale may be needed if thesituation gets worse, yet as a voluntaryagreement it will not be a panacea. Somecountries like Hungary may need toturn/return to the IMF. Source: Reuters EcoWin, Nordea Markets
  2. 2. The banks present in CEE have built up their For today, judging from consolidated assets indeposit bases in the past few years and are judging CEE, the biggest EU- based players in the CEEfrom loan-to-deposit ratios, on average, not region are UniCredit, Erste, Raiffeisen, SocGen andoverleveraged. Foreign exchange reserves have KBC.been rebuilt and in many countries actually exceedthe pre-Lehman sums. Top lenders by consolidated assets in CEE UniCreditYet, while the foreign banks did maintain their Erst eexposure largely in 2008-2009, and the CEE Raiff eisenfundamentals are relatively better today, the SocGenconcern is that this crisis, now stemming not from KBCthe US mortgage market but the fundamental Int esa Sanpaolosovereign problems in the Euro area, may havemuch more serious implications on the CEE. OTP ING… with different exposures … CommerzbankThe exposure of the CEE region to western banks is NLBnot uniform. The largest proportion of the foreign Sant anderownership in banking sector assets – exceeding EFG Eurobank80% – is in the South Eastern region). In the HGAACentral Eastern European economies foreign Volksbankownership in the banking sector amounts to around BCP70-75%. Meanwhile, in Russia, Belarus and BLBUkraine (the CIS part of Europe) foreign banks NBGonly account for just under 20% of bank assets. Alpha GroupBIS data show that the Italian and Austrian banks 0 50 100 150are the biggest lenders in the CEE region, followed Source: RBI, Nordea Marketsby French and German banks. The exposure variesfrom country to country – the Balkan countries are Case by case observations reveal that some banksmost exposed to the Greek banks. Swedish banks are suffering more than others. In the top of thedominate in the Baltic States. Austrian and Italian league in terms of presence in CEE is Italianbanks are relatively evenly spread across CEE. Unicredit, which controls Bank Pekao – Poland’s second-largest bank. Its Q3 results published lastLess foreign financing exposure now week were disastrous, as the bank incurred huge CEE liabilities to Western banks, as % of total foreign liabilities losses. The plans to raise EUR 7.5bn drown in the 100% 90% total amount of assets reported at EUR 950bn. The 80% second-largest loss of EUR 1.6bn was recorded by 70% KBC, the fifth biggest lender in CEE. The third big 60% 50% player in CEE - Austrian bank Erste – also 40% announced a net loss of EUR 973 million in the 30% first three quarters after it took extraordinary 20% 10% charges, with CEO Treichl commenting that the 0% bank has problems in Hungary and Romania, and RO HR CZ HU RS UA BG PL LT LV TR EE BY RU AT BE FR DE GR IT NL PT ES SE CH GB that the drastic action on its balance sheet is needed (Reuters, 10 October). The key western banks are Source: BIS, Nordea Markets already voicing concerns over equity. Commerzbank, Germany’s second-largest bank, inThe landscape has changed after the Lehman crisis. response to the new stricter rules of capitalSpanish Santander has been strengthening its requirements, recently said they will temporarilypresence in Poland. Russia’s largest state bank suspend new lending outside their core markets –Sberbank bought Volksbank International, eyed the Germany and Poland – and implement “acceleratedTurkish subsidiary of Dexia and voiced the strategy reduction” on non-strategic assets (Reuters, 10to further expand in CEE. Consolidation is to October).remain the key trend.
  3. 3. Raiffeisen International, another major lender in After the Lehman collapse in many parts of EasternCEE, also faces the biggest shortfall among the Europe the cash-strapped western banks wereAustria banks to meet the new 9% capital engaged in the practice of raising deposit rates torequirement, which may prompt the bank for some unsustainably high rates and “siphoning” domesticbalance sheet action down the road. KBC and BCP depositors’ saving back to the distressed parents,have announced plans to further divest from which distorted domestic financial systems. SimilarCEE.The tensions in the Baltics have again practices emerge now again –anecdotal evidenceincreased after last week’s surprise state takeover of suggests that subsidiaries of western banks transferBank Snoras - its third-largest deposit taker in large loans to their Euro-zone parents. For example,Lithuania. The nationalisation increased fears of in Russia, where the domestic liquidity situationbank runs in the region. The activities of the has worsened most since August, with the westernLatvian “Latvias Krajbanka” controlled by Snoras banks taking much blame – from what is knownwere suspended for a month, with the plan to raise publicly, Italian UniCredit alone transferred USDmore in equity capital. 5.5bn in Q3. In the worst-case scenario of a full- blown European banking crisis, the western banksWith the biggest banks already facing trouble it is may completely shut down funding to theirnot unlikely that other banks present in CEE may subsidiaries which, needless to say, would result inalso face headwinds in the coming quarters. And substantial liquidity pressures in the domesticthis will no doubt have the effects in CEE. The markets. There is no doubt that in case of tighteningsituation would be further aggravated if the liquidity, the western parent banks will first of allsovereigns have trouble – even France and Austria aim to secure their home market needs.are currently at risk of losing their AAA rating.Among the sovereigns France, Greece, Belgium, … and concern over capitalSweden and the Netherlands have hugest exposures Apart from the immediate liquidity impact on CEEto CEE relative to their GDP. from the western bank tensions there is also is a risk of longer-term capital outflows. There is aSome sovereigns overlent to CEE growing concern over a potential withdrawal of60 60 % of GDP CEE outstanding debt % of GDP equity capital and a sell-off of assets by the western50 50 banks in CEE in order to comply with the new capital requirements. Many Western European40 40 banks have already sent signals they consider to run 2008-Q230 Current 30 down or get rid of “non-core”/”non-strategic” assets. Which of the assets will banks choose to sell20 20 is a difficult question – on the one hand the largest holdings are at risk, but on the other hand the “non-10 10 core” may as well be insignificant exposures. 0 0 AT GR BE SE NL IT FR CH DE ES PT GB Less foreign financing exposure now Source: Reuters EcoWin, Nordea Markets Western Europe banks exposure to Emerging Europe, as a %  100% of total CEE exposure 90% 80%… Eastern liquidity pressures 70%The CEE region has big short-term liabilities that 60%need to be rolled over regularly, so funding stress in 50% 40%the western markets would result in funding 30%concerns in CEE just as in 2008-2009. Firstly, 20%liquidity may worsen, especially in the countries 10% 0%most exposed to funding in the USD – the ultimate AT BE FR DE GR IT NL PT ES SE CH GBliquidity currency in times of stress. Among the CZ RO HU HR PL UA RS BG TR LT LV EE BY RUCEE countries it is primarily dollarized Russia, Source: BIS, Nordea MarketsUkraine and Belarus. But the rest of the region willalso be affected. As IMF’s Lagarde put it last week, The key problem is that the western banks maythe “big fault lines” still remain in the Eastern actually be forced to do this, with the requirementEuropean banking system which is still burdened imposed from the states. If the parent banks needby external debt and huge shares in FX loans. support from the state – capital injections – from
  4. 4. their governments or the European Financial in the Euro zone stalls in earnest, growth prospectsStability Fund, this will probably automatically of the CEE region may be even bleaker.involve some restructuring requirements, whichwould apply to the group as a whole, that is, The weakest linksincluding subsidiaries. Or, worse yet, the latter may Which CEE markets will be hit the most? Theend up in an even more precarious situation if the western banks’ capital allocation decisions will bewestern governments constrain the parents’ support based on the assessment of potential risk-adjustedto their subsidiaries. In case the western world faces returns. Hence, the CEE markets facing the highesta worst-case scenario with, say, Greek debt risks of a slowdown will be the first in line to berestructuring, some kind of support package will be considered when rationing liquidity and assets. In aarranged for the western banks, but it will likely worst-case scenario it creates a vicious circle whereinclude some provisions including the required sale the banks reduce presence due to low growthof assets abroad. This is not unprecedented – after prospects, which in turn actually reduces thethe Lehman crisis some western banks like KBC of growth potential. Currently Poland and RussiaBelgium or AIB of Ireland, both large investors in seem the most lucrative markets in terms of purelyCEE who received state support, had to divest in growth potential, while Hungary and the southernthe CEE countries. European economies are the least attractive destinations in this respect. Apart from the potentialOf course, the plans to divest do not automatically for growth, the western banks will also consider theresult in capital outflows and hurt the banking risks of doing business.system. If the buyer is a stronger bank it may aswell help improve the financial stability. For Among the countries in the region the bestexample, Russia’s largest state bank Sberbank has capitalised banks with the lowest loan-to-depositbeen active recently – bought the international unit ratios are in Poland, the Czech Republic, Slovakia,of the Austrian Volksbanken and said Sberbank has Russia. On the other side of the league, the loan-to-a “strategic interest” in Poland and Turkey. But deposit ratios are highest in Latvia (280%), thehow many strong buyers as Sberbank are left today Ukraine (160%) and Hungary (150%), whichin the European financial system? means further deleveraging may be needed.… resulting in growth risks Hungary, but also Ukraine, Serbia are alsoWithdrawal of funding, resulting in tightening straddled with the highest and still growing non-liquidity (more expensive and less available funds) performing loans which put further pressure onand overall reduction in the presence of the growth.Western European banks in CEE, will result inreduced lending in the region. Longer-term Non-performing loan ratios still highreduction in balance sheets will have a negative 45effect on growth in the region. Lending growth in % Non‐performing loans, as % of total % 40the CEE region slowed post-Lehman crisis and still 35remains lower than prior to the Lehman collapse. 30With the current tensions in the European banking 25system, lending rates will probably remain subdued 20– mostly in single digits – in Eastern Europe (with 15some exceptions like Russia, Poland). 10 5Broadly there has been a pattern of foreign banks -reducing loan-to-deposit rates and increasing local UA RS HU BG RO HR PL CZ RUdeposit bases as a funding source rather thanforeign funding. With deposits becoming the key When visiting Bulgaria, Serbia and Croatia thefunding source for banks, the overall loan growth other week, local concerns about the banking sectorrate will be more linked to growth in the deposit were very low (see Trip notes frombase, which in turn will depend on the overall Bulgaria/Serbia/Croatia – a tale of threegrowth in the CEE region. Hence, the prospect of economies for more information). The keythe slowdown we are facing Europe-wide will arguments were the high capital buffers and that thelikely negatively affect lending potential which, in majority of banks are subsidiaries under localturn, will negatively affect growth. In case growth
  5. 5. regulations, among others. Yet given the huge Albania is discussing a new initiative to give theexposures and the relatively worst situation in central bank power to require transform the foreignGreece, the Balkan countries – Bulgaria, Romania, banks’ subsidiaries into local entities. In a worst-and Serbia – are the most vulnerable at this point. If case scenario we may see a round of nationalisationthe crisis hits Italy then Croatia and the rest of the as in Lithuania last week, with Romania, Bulgaria,CEE economies will be affected. Serbia with their sizeable exposures to Greece, being among the most likely victims.Hungary is the weakest link in the central Europe.The FX loans are also a sore point - Hungary has On a European scale the authorities may relaunchover 50% of total debt in FX, with primarily CHF the Vienna Initiative, which was initiated at themortgage loans remaining the issue for households. height of the financial crisis to stop theIn Hungary, words have been hard from especially uncoordinated withdrawal of banks from the region,Austrian banks that have the largest market shares with the commitment from parent companies toafter the local banks, saying that they will be keep exposure and recapitalise the subsidiaries. It isunprofitable in Hungary in the next couple of years, a voluntary agreement – hence, not a panaceaas the country forces lenders into losses on FX against capital outflows – but it could at leastloans, “part of Premier Viktor Orban’s fight prevent a collapse. Finally, in a worst-case scenarioagainst “debt slavery.”” the countries could rely on support from the IMF just as in 2008-2009. Latvia, Poland, Romania andThe Hungarian FX mortgage payback programme Serbia are still in some sort of the deal with thehas been a key issue for the rating agencies, and is IMF. Hungary also announced last week that theythe primary reason behind the risk of a downgrade are willing to reestablish the cooperation, asking forto junk. CDS spreads have surged and the HUF has “extra insurance”. Unfortunately, that insurance isweakened to the lowest levels vs. EUR since the never free lunch – it requires tough measures andLehman crisis. Hungary’s long-term foreign puts on a “stigma” on a country asking for help.currency rating is currently just one notch abovejunk from all rating agencies. The recently resumed Markets don’t liedialogue with the IMF may eventually put an end to With the European debt crisis escalating and thethe negative spiral. worries about the western banks growing, the markets have already priced in much of the risks.While some CEE countries are better than others in Bank stocks have dropped sharply, credit premiumsterms of fundamentals, even growth potential and – CDS – have widened both for banks and forgood capitalisation is no guarantee of security. sovereigns outside Germany. The CEE currenciesEven the Russian and Polish markets, which are have depreciated since August.relatively well capitalised and have the highestpotential to grow in the region have recently been If the crisis in the West worsens, the CEE marketshit by the rating agencies, as over the past month will come under further pressure, as capitalMoody’s has changed the outlook for the banking outflows may cause higher credit premiums, thussystems to negative. This suggests that the systemic increasing bond yields, further currency weaknessrisks are a threat to all the CEE banking systems and widening cross currency basis. In 2008 evenwith no exception. the Czech markets were hit hard in unison with the CEE – even though the country had a relativelyProtectionism may increase again strong banking system, low government debt andMoreover, strict national regulations with potential current account deficit, and no problems with FXfurther restrictions should prevent the massive loans in the household sector. If the psychology ofexodus of capital from CEE. Some countries have contagion hits the markets then there will be no safealready announced preventative measures. havens, if history is any guide.Romanian and Polish authorities have imposedrestrictions, limiting capital transfers from Aurelija Augulytėsubsidiaries to foreign parents. The Russian aurelija.augulyte@nordea.com +45 3333 6437authorities just last week proposed to limit themaximum deposit rate. Elisabeth Andreew elisabeth.andreew@nordea.com +45 3333 1725
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