OREANDA-NEWS. Russia's 10 systemically important banks (SIBs), named by the Central Bank (CBR) last month, already meet initial Basel III capital requirements to be phased in from 2016. This is positive for the SIBs, which represent 60% of banking sector assets, because they are likely to find it more difficult to boost capital through retention of earnings given the increasingly tough operating environment, says Fitch Ratings.

The list of SIBs includes four state banks (Sberbank, VTB, Gazprombank, RusAg), three private banks (Alfa, Otkritie, Promsvyaz) and three foreign-owned subsidiaries (Unicredit, Rosbank, Raiffeisen).

Our sector outlook for Russian banks is negative and most banks, with the notable exception of the national leader, Sberbank, were loss-making in 1H15. Results would have been even weaker if certain losses had been charged through the profit and loss account and not deducted directly from equity. Financial aid from shareholders was also included in revenue rather than treated as a normal capital injection and banking sector profits as a whole were boosted because dividend income from local bank subsidiaries is double counted. The first half of 2015 saw weaker profitability throughout the banking sector. Retail lending contracted by 5%, corporate credit was stagnant and doubtful and loss loans increased, reaching 8.2% of total loans at end-May, up from 6.8% at end-2014. Net deposit inflows were low.

Core tier 1 capital adequacy ratios for the SIBs comply with, and in almost all cases are well above, the Basel III targets announced by the CBR. New regulations, effective January 2016, will be phased in by January 2019, in line with Basel III's standard timetable.

Russian banks must also meet three Basel capital buffers over and above the minimum 5% core Tier 1 capital ratio. All banks must comply with a capital conservation buffer, initially set at 0.625% of risk weighted assets (RWA), rising to 2.5% by January 2019. The capital conservation buffer is to offset losses incurred during a period of financial instability, which, arguably, Russia is facing now. Banks must establish a countercyclical buffer when regulators judge that credit growth is resulting in an unacceptable level of systemic risk. This has been set at 0% of RWA, which we agree with, given that lending in the sector is contracting. A further buffer is set for SIBs, at 0.15% of RWA from January 2016, increasing to 1% by January 2019.

Breaching a buffer will trigger a limitation on dividend distributions and bonus payments, which should act as a strong motivation for banks to remain compliant.

The new regulations mean that SIBs will need to maintain a core Tier 1 ratio of 5.775% from January 2016, rising to 8.5% by 2019. For other banks, the figures are 5.625% and 7.5%. As of 1 July 2015, all nominated Russian SIBs complied with the 2016 requirement: Sberbank (8.6%), VTB (10.3%), Gazprombank (7.5%), RusAg (10.0%), Alfa (7.5%), Otkritie (7.4%), Promsvyaz (6.1%), Unicredit (10.2%), Rosbank (8.5%), Raiffeisen (9.5%).

The capital ratios of at least four SIBs benefit from exchange rate forbearance permitted by CBR, but we estimate that the uplift is limited at between 60bp and 80bp. The unwinding of forbearance planned for October 2015 should not impact their ability to meet the new capital requirements.

The SIBs may be able to make capital savings once the CBR allows them to use Basel II's advanced internal ratings-based (AIRB) approach to credit risk assessment. Banks will be able to apply for using these models in 2016 but we believe approvals may take time to come through. Larger Russian banks have been working on their AIRB models over the last two or three years, while foreign subsidiaries already use them for parent reporting purposes.

SIBs will have to meet a minimum 60% Basel III short-term liquidity coverage ratio by October 2015. We will assess the impact of this liquidity requirement when banks publish their regulatory reports.