OREANDA-NEWS. Growth prospects for Russian mortgage lending will depend on the authorities' measures to subsidize rates and/or further policy rate cuts, as significantly higher bank funding costs have made unsubsidized rates unaffordable for most borrowers, Fitch Ratings says.

Segment asset quality is sound and significant rouble depreciation will have only a limited impact on major lenders, as they are less exposed to FX mortgages than some smaller banks. The Central Bank of Russia's (CBR) recommendation that banks convert FX mortgages into roubles at the end-3Q14 exchange rate is unlikely to be followed or enforced, as it could wipe out the equity of some banks.

The Russian authorities are planning to support mortgage growth by subsidizing interest rates for up to RUB400bn of new loans in 2015; this compares to a current mortgage loan stock of RUB3.7trn. State banks are likely to be the main providers under this programme, given their 70% share of total mortgages outstanding. We also expect that banks will issue about RUB300bn of unsubsidized mortgages this year. Net of repayments this will translate into mortgage loan growth of 5% (compared to a 3%-5% contraction without the subsidy programme), down sharply from 33% in 2014. However, as we expect car and unsecured cash loans to contract by at least 5%, mortgages will increase their share of total retail loans to above 35% at end-2015 from 32% at end-2014.

Growth beyond 2015 is uncertain, as it is unclear whether macroeconomic stability will allow authorities to reduce the policy rate relatively quickly or otherwise whether the government would be prepared to extend the subsidy programme due to its cost, which we estimate at a maximum of RUB22bn per year. This is calculated as a 5.5% subsidy (the difference between the 12% rate for borrowers under the programme and current bank rates capped at the CBR base rate of 14%, plus 3.5%), multiplied by the RUB400bn programme limit.

Mortgage loan quality is good, with non-performing loans (NPLs) at only 2% at end-2014, but may deteriorate moderately because of the recession, rouble depreciation, and seasoning of the previously fast-growing loan books. However, banks' ultimate credit losses would be limited due to decent collateral coverage. The average loan-to-value ratio is 65%, providing a reasonable buffer in case property prices decline.

Rouble depreciation is not a big risk for the sector because FX-denominated mortgages (4% of the total) comprise only RUB132bn, or 2% of sector equity, and banks have virtually stopped their issuance. Sberbank, VTB24 and Gazprombank account for RUB25bn of total FX mortgages, which is small relative to their equity (less than 6% for VTB24 and around 1% for Sberbank and Gazprombank). However, this means concentrations and risks could be greater in smaller banks. Among Fitch-rated banks, Rosbank's subsidiary DeltaCredit and Moskommertsbank (MKB) are the most exposed, with FX-denominated mortgage loan books equalling 2x and 1.9x their end-2014 equity, respectively.

The bulk of FX mortgages in DeltaCredit are seasoned with an average current loan-to-value ratio of about 60%, resulting in an NPL ratio for this book of 2.5%. MKB's FX mortgage book NPL ratio is much higher and the bank launched a restructuring programme for these loans. However this only moderately reduces asset quality risks. Weak loan quality is already reflected in MKB's 'ccc' Viability Rating (VR).

The CBR recently recommended that banks convert existing dollar-denominated mortgages into roubles at 39.4RUB/USD (about 30% below the current rate) to support borrowers. Banks have not followed the recommendation, as it would lead to losses and potential capital-requirement breaches for some of them. It therefore seems unlikely that the CBR will enforce this.

The biggest impact of such a conversion would be for DeltaCredit, where an estimated RUB10bn loss would erode almost all of its equity. For MKB, the theoretical loss would exceed 65% of end-2014 equity. For VTB24 and Rosbank the losses would be more manageable at around RUB5.6bn (2% of equity) and RUB3.1bn (3% of equity) respectively. Sberbank and Gazprombank would feel only a minor impact.