Kazakh Banks. Crisis or Correction?
The US subprime mortgage crisis that broke out in late August has not only alarmed investors but also shattered their confidence in developing markets. These moods could not help but reflect on our financial system too, because the active integration of Kazakh banks into international capital markets has made them fully dependent on foreign borrowings. As a result, the domestic banking market was diagnosed with a liquidity crisis, which the National Bank had to treat by issuing loans to commercial banks at a refinancing rate. For example, it provided them with liquidity worth about $10bn in August and $8bn in September. This made it possible to preserve liquidity in the banking system at an excessive level. According to the Financial Monitoring Agency, the composite coefficient of current liquidity was 1.36 (at a minimum of 0.3 for an individual bank), the coefficient of short-term liquidity was 0.99 (at a minimum of 0.5). Despite this, banks stopped issuing loans, including in the construction sector, which caused the government to react immediately.
At a government meeting on 18 September, Industry and Trade Minister Galym Orazbakov presented a set of measures which should keep the construction sector afloat. In particular, he proposed to set mortgage interest rates at no more than 16% with an initial payment not exceeding 20% of the mortgage. At the same time, banks were expected to keep issuing loans at a level of no less than 70% of the volume of mortgages they issued in May 2007. Many experts, including those at the National Bank and the Financial Monitoring Agency, expressed an opinion that it was impossible to support the construction sector with only the means of commercial banks. Banks treated these measures as an attempt to regulate loaning administratively, which does not quite correspond to market-economy principles.
Bankers themselves offered various ways of solving liquidity problems. For example, they said that it was high time the National Bank eased minimum reserve requirements. However, experts were mainly worried about where this freed-up liquidity would be channelled into. Despite an extreme growth in assets, the quality of loan portfolios, which was a big topic in the run-up to the crisis, did not practically change. Moreover, experts believe that it will be worsening in the future and even if certain banks are still going to face losses due to a wrongly-built risk-management system, the government should not get involved in this process, because then the financial crisis, or “the market correction” as it is preferred to be described by financiers themselves, will not teach our banks a proper lesson. Already now we can see a relative growth in doubtful loans. For example, according to the Financial Monitoring Agency, the share of standard loans in the commercial banks’ loan portfolios fell from 52.7% to 40.3% in the first nine months of this year, while doubtful loans increased from 45.7% to 58.5% and the loan losses stood at 1.2%.
Liquidity problems pushed the shares of Kazakh banks down on both international capital markets and the Kazakh Stock Exchange (KASE). For example, Kazkommertsbank’s shares cost more than $22 in late August, while they had fallen to half that by November.
On 11 October, Kazakh President Nursultan Nazarbayev said that it was necessary to allocate $4bn from the central budget to support commercial banks. The following day, he ordered the government to study the possibility of buying out shares of Kazakh banks listed abroad for budget funds. Despite this statement, global depositary receipts of Kazakh banks floated on the LSE continued to fall in the second part of October. For instance, GDRs of Kazkommertsbank fell from $15.5 (on 12 October) to $11.79 (on 1 November), Halyk Bank from $20.18 to $17.52, while GDRs of Alliance Bank dropped from $7.95 to $6.7 in this period.
In general, the news of a possible buy-out of shares of banks by the government received a negative welcome from international experts. In particular, representatives of the European Bank for Reconstruction and Development said that European or US government had never done this in similar situations.
In turn, our experts do not directly link a fall in shares to the Kazakh government’s position. “We believe that the Kazakh authorities’ initiatives strengthen investors’ confidence that if the situation worsens in the banking sector, the government will ensure the fulfilment of obligations on international contracts and support banks’ liquidity through a number of instruments,” the managing director of Alliance Bank’s international relations department, Almira Akhmetkarimova, said.
Analysts at Russia’s Aton investment company believe that a fall in share prices in the second half of October was caused by the very same reasons as in August, namely, problems with refinancing Kazakh banks’ foreign debts. This circumstance limits the future development both of certain players and the country’s entire banking system. Investors also negatively assess the growing macroeconomic risks, such as the growing need to devalue the tenge and the high level of foreign debts, which has led to downgrading ratings of Kazakhstan’s major banks by the leading international rating agencies. A decrease in share prices on 1 November can be fully blamed on Moody’s downgrading of the ratings of six Kazakh banks.
… And Ratings Are Also Falling
The first clouds started to gather on 2 October, when Standard & Poor’s placed Kazakhstan’s ratings on CreditWatch with negative outlooks. Six days later, on 8 October, Standard & Poor’s downgraded the long-term rating on liabilities in the foreign currency from BBB to BBB-, and the long-term and short-term ratings on liabilities in the national currency from BBB+/A-2 to BBB/A-3. However, the ratings were excluded from CreditWatch with changing outlook to stable. At the same time, it confirmed the short-term rating on liabilities in the foreign currency at A-3 and on the national scale at kzAAA. In addition, Standard & Poor’s decreased the assessment of the risk of transferring and translating the foreign currency for Kazakh non-sovereign borrowers from BBB+ to BBB.
At the same time, the agency changed outlook from positive to stable on the ratings of two Kazakh banks – TuranAlem Bank and the Eurasian Bank – and the Eurasia insurance company. This decision was taken in connection with “the decrease of likelihood of increasing ratings of these issuers” because of unfavourable conditions emerged on the international capital market and the Kazakh financial system. Moody’s went even further. It put ratings of Kazkommertsbank on a watch list because of concerns over its rapid growth and the ability of the bank’s business model to remain robust on the volatile world market.
Finally, on 9 October, Fitch Ratings also revised outlook from positive to stable on the long-term issuer default ratings of the Development Bank of Kazakhstan, TuranAlem Bank, Halyk Bank and Kazkommertsbank. This move reflects Fitch’s view on the potentially high readiness of the government to come to support these banks if need be, bearing in mind their significance for the Kazakh banking market. However, the agency's analysts assess the likelihood of this support as moderate. According to the latest comments made by Fitch Ratings, individual ratings of Kazkommertsbank and TuranAlem Bank take into account a growth in loan risks both banks are facing now, their high dependence on foreign borrowings and a very complicated situation with securitisation. On the other hand, these ratings reflect the current low levels of the devaluation of loans of TuranAlem Bank and Kazkommertsbank, adequate liquidity, a moderate risk of refinancing and good financial indicators. The agency thinks that the capitalisation of Kazkommertsbank is appropriate and that that of TuranAlem Bank is good. The main source of a possible negative impact on the individual ratings of both banks is a potential increase in the devaluation of loans through the complicated situation on the loan market.
Advice of Non-strangers
It is fair to say that these problems did not touch all players in the banking sector. For example, Halyk Bank was on good form during the liquidity crisis because it based its stakes on domestic sources of funding and a moderate increase in assets. Its deputy chair, Marat Zairov, has said that in pursuing a moderate-conservative policy, the bank could work without problems in the current conditions because it has chosen a different system of funding. “I believe this has taught banks a particular lesson – that it is necessary to correctly build a strategy. Ours has justified itself... Over the past two months, the number of clients who came to us has quintupled,” he said.
Yekaterina Trofimova, of Standard & Poor’s, has said that initiatives put forward by the country’s financial regulators have caused a controversial reaction from commercial banks. For example, this includes their possible measures to support and buy out loans issued to construction companies, channel liquidity directly into banks and draft certain memorandums which will have to be signed by them. All this is being actively discussed, but, unfortunately, this is dragging out the solution to priority problems. The regulators should realise that acute problems should be solved as soon as possible. Ms Trofimova believes that toughening requirements for obtaining loans from foreign banks should stabilise the situation with excessive borrowing on the international capital markets. However, this measure may jeopardise the liquidity of our banks in the short-term, which is why requirements should be toughened with a great care to avoid fluctuations in liquidity and greater destabilisation.
Despite the uneasy situation, the financial regulator will be tough with banks. From 1 January 2008, the Financial Monitoring Agency intends to take a measure that is very unpopular with bankers. It will demand the further capitalisation of banks on a par with their foreign liabilities. Of course, this norm will not be introduced in the current difficult circumstances, but this will be done in the future when liquidity problems are solved. The deputy chair of the Financial Monitoring Agency, Yelena Bakhmutova, has said that the agency aims at more moderate growth rates for the next stage of the development of the banking system. However, the agency said that banks should refinance their liabilities. The National Bank, which wanted to increase the minimum size of reserve requirements, has postponed this twice in the second half of this year. As a result, the country’s chief bankers decided to introduce these measures in 2008.
“By the end of the year, we expect the process of foreign borrowing to stabilise, but much will depend on the situation on the international financial system and how quickly it will recover from this correction. The practice shows that investors close funding for developing countries quickly, but they also open it quickly,” the deputy chair of the National Bank, Daniyar Akishev, has said.
Some analysts suggest that the next spring when parts of the foreign debts are due to be paid will tell how Western investors will behave in the future. The director of the European Bank for Reconstruction and Development in Kazakhstan, Andre Kuusvek, believes that the spring payoff of debts is not the largest ($2.8bn). One thing is clear: that there will never be interest rates for our banks like those that were there before the crisis.
However, the risk of refinancing is not the only danger. Experts expect the quality of the loan portfolio to deteriorate further, which is quite logical considering the loan activity that was in the past. The deterioration of the quality of the loan portfolio will be followed by losses which in turn will have a negative impact on equity capital. Although unofficially banks admit problems with delays in payments, they are refraining from making official comments.
No analyst is currently capable of predicting when the situation will stabilise. Market players and investors will now be paying close attention to how banks will manage the deterioration of the quality of their loan portfolios. International experts believe that uncertainty on the market may drag on because the situation is so complicated that no one could say where the risks are, the scale of the risks and in which institutions.
Meanwhile, banks are worried about entering the capital markets because it is not clear on which interest rates they should borrow money. In turn, investors are worried of offering it, because they do not know how sufficient this price is for the risk. That is why a signal to real stabilisation will be sent only when both sides will express their willingness to move towards one another.
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