OREANDA-NEWS. August 03, 2009. Based on bank and country risks (BICRA) Kazakhstan transferred from group 8 to group 9, reported the press-centre of KASE.
                                                     
- Increased economic risks and structural weaknesses are putting pressure on the Kazakhstan economy and banking industry.

- Recapitalization and provisioning efforts, regulatory and supervisory upgrades, and business changes are insufficient to counterbalance the depth of the system erosion.

- We estimate that loans under stress, including restructured loans, represent at least 30%-35% of banking system loans and might get closer to the upper end of our long-standing assessment of gross problematic assets of 35%-50% in the next 12 months.

- We are revising downward to Group 9 from Group 8 the Banking Industry Country Risk Assessment of Kazakhstan.

Standard & Poor's Ratings Services said today that it revised downward to Group 9 from Group 8 its Banking Industry Country Risk Assessment (BICRA) on the Republic of Kazakhstan (foreign currency rating BBB-/Stable/A-3, local currency rating BBB/Stable/A-3).

Standard & Poor's BICRA rankings integrate our view of the strengths and weaknesses of a country's banking system compared with those of other countries. The scale ranges from Group 1 (strongest) to Group 10 (weakest). Banking systems ranking similarly to that of Kazakhstan in Group 9 include those of Belarus, Azerbaijan, and Georgia.

"The BICRA revision reflects fundamental and chronic--as opposed to incremental and purely cyclical--deterioration in the banking system financial metrics and insufficient bank recapitalization efforts," said Standard & Poor's credit analyst Ekaterina Trofimova. "These weaknesses have been exposed and fueled by the impact of the global financial crisis since August 2007 as well as regulation and supervision deficiencies."

These deficiencies were highlighted by the recent default of two systemically important banks. This crisis is the consequence of structural imbalances related to the rapid growth of Kazakh banks in the past decade; their high dependence on foreign financing, high concentration risks, and weak risk management; as well as the substantial unhedged dollarization of loans and deposits in Kazakhstan and insufficient regulatory responses.

The BICRA underpins all bank credit ratings in Kazakhstan. Although its revision will not automatically lead to rating changes, it could contribute to bank rating actions on a case-by-case basis.

The ongoing balance sheet shrinkage in the banking sector has significant repercussions on the economy and on the banks themselves. We foresee further deterioration in domestic bank performance, liquidity, and credit quality.

"We anticipate that banking sector recovery will be long and painful, especially because more deleveraging at banks, corporations, and households is needed, in our opinion," said Ms. Trofimova. "We think it will remain challenging for banks to refinance wholesale debts and achieve deposit stability, at least for the rest of 2009 and in 2010."

Although customer deposit volatility has so far been moderate, particularly for government-related deposits, a steeper drop in customer deposits could dramatically affect banks' liquidity. Upcoming sizable foreign debt repayments limit banks' capacity to cope with deposit outflows. Bank profits will remain under pressure from higher provisions, persistent problem loans, increasing funding costs, and lower business volumes, only partly compensated by efficiency enhancements and cost cutting.

"We estimate that loans under stress, including restructured loans,

represent at least 30%-35% of banking system loans and that the percentage will continue growing, exacerbated by high exposure to the depressed real estate market, the recent currency devaluation, and reduced economic activity," said Ms. Trofimova. "In the next 12 months, problem loans might get closer to the upper end of our long-standing assessment of gross problematic assets (GPAs) as a percentage of private sector credit in the range of 35%-50%."

For a more detailed discussion of BICRA methodology, see (S&P's Banking Industry Country Risk Assessments: Global Annual Roundup) published on August 9, 2007 (www.ratingsdirect.com). Comparable countries in the same 35%-50% GPA range are Thailand, China, Indonesia, Russia, Romania, and Ukraine.

"Public and investor confidence in the Kazakh banking system and in the quality of bank regulation and supervision in Kazakhstan has suffered in recent months," added Ms. Trofimova.

The nationalization of troubled BTA Bank (D/--/D), the largest in the system by assets, and chronic problems at another systemically important bank, Alliance Bank (D/--/D), were followed by the regulators' announcement of long-lasting fraud and reporting manipulation. In spring 2009,the two banks, as well as another top 20 bank, Astana Finance (not rated), defaulted on foreign debt obligations. There might be more bank defaults and debt restructurings in Kazakhstan in the coming months. Currently, the three defaulted banks are working to restructure their liabilities. These three defaulted banks together represent more than 35% of the Kazakh banking system by assets.

"These problematic cases strongly highlight weaknesses in the country's banking regulation and supervision, the upgrades of which failed to keep up with banking system growth and increased foreign debt and lending leverage," said Ms. Trofimova.

Despite our classification of Kazakhstan as "supportive" toward its banking system because of the government's propensity to intervene and support systemically important banks, the failures of BTA and Alliance have made it clear, in our view, that there are limits to the extent of support that the government is willing to offer banks to allow them to honor all their foreign and local currency debts in a timely manner. Moral hazard concerns and the strategic priority given to protecting the country's fiscal reserves have constrained Kazakhstan's commitment to support its banks, in our opinion. We note that the Kazakh government has provided funding and capital support to its major banks—more than US7 billion since the second half of 2008. But these actions were not sufficient to prevent the BTA and Alliance failures.

"While the near term will be difficult for the Kazakh banking system, we continue to consider that Kazakhstan has promising longer-term economic prospects, underpinned by a dynamic commodities sector, a relatively strong government fiscal position, and a trend of rising household wealth," said Ms.Trofimova. "However, Kazakh banks will only be able to reap sustainable fundamental benefits from these macroeconomic prospects if local funding, business practices, regulatory framework, risk management, and credit standards are enhanced substantially."

These improvements would also drive any potential upward revision in the Kazakhstan BICRA classification, although we do not envisage such a revision currently at least until the financial market pressure eases considerably. A further downward revision would most likely be triggered by significantly weaker long- term prospects for the Kazakh economy and could heighten pressure on our ratings on the individual Kazakh banks.