Fitch Affirms 5 Russian Consumer Lenders; Revises Outlooks on 2 to Stable
The Outlooks on Tinkoff and SCB have been revised to Stable from Negative. The Outlooks on other banks remain unchanged: Stable on OTP, and Negative on HCFB and OEB. Fitch has also affirmed SB JSC Home Credit Kazakhstan (HCK) at 'B' with the Stable Outlook. A full list of rating actions is available at the end of this commentary.
Fitch has also published a new special report, 'Peer Report: Russian Consumer Finance Banks: Focused on Loss Limitation, Near-term Prospects Bleak', in which it comments on the Russian consumer finance sector and the relative credit metrics of the banks covered in this commentary. The report is available at www.fitchratings.com or by clicking on the link above.
KEY RATING DRIVERS - IDRs, VRs and NATIONAL RATINGS
RUSSIAN BANKS
The affirmation of the five Russian banks' ratings reflects moderate deterioration in their credit profiles over the last 12 months (only recently for OEB, OTP and HCFB) and already low rating levels. The deterioration reflects an overheating Russian consumer finance market, larger credit losses, negative bottom line profitability (except at SCB and Tinkoff) and pressured capitalisation (especially at OEB).
Fitch does not expect Russian consumer finance lending to recover in the near-term given the weak economic environment, high consumer indebtedness, rising unemployment and a drop in real disposable incomes due to currency devaluation and high inflation.
The revision of the Outlooks on Tinkoff and SCB to Stable from Negative reflects their still profitable performance despite larger credit losses and higher funding costs. This has been driven mainly by somewhat higher effective interest rates at Tinkoff, and by a combination of lower-risk borrowers and securities gains at SCB. Fitch expects these banks to remain profitable, even in case of further moderate deterioration of asset quality, due to a gradual reduction in funding costs following the Central Bank of Russia (CBR) rate cuts in 1H15.
On the contrary, HCFB and OEB remain on Negative Outlook, and while OTP's VR faces downward pressure, as these banks continue to suffer significant losses in 2015, eroding their capital bases. In 1H15 IFRS accounts, OEB lost 37% of end-2014 equity (the bank received an equity injection from its shareholders in June, preventing it from beaching regulatory capital ratios), HCFB 17% and OTP 13%. Although there are some early indicators of credit losses bottoming at these banks, as well as a return to break-even/modest profitability in October-November based on Russian regulatory accounts, the sustainability of this trend is uncertain.
In 1H15, the average credit losses of the reviewed banks (defined as loans 90 days overdue originated in the period divided by average performing loans) were a high 22% (annualised), up from 21% in 2014 and 16% in 2013. Credit losses were the largest at OEB and OTP in the peer group, at 29% and 24%, respectively in 1H15 (2014: 26% and 16%, respectively), with slightly lower ratios at HCFB (20%), Tinkoff (19%) and SCB (16%). All of the reviewed banks have reduced their risk appetite, and tightened underwriting standards and approval rates, which should lead to improved performance in recent loan vintages.
However, new loan issuance has been limited (as reflected by a decline in overall loans) and it will take time to replace older, weaker-quality loans, which have been the main source of heightened credit losses. Asset quality will also remain vulnerable to the weak economic environment and potential further shocks.
The main mitigating factor against credit losses is the banks' sizable pre-impairment profitability, although this weakened in 1H15 due to higher funding costs and lower fee generation, as loan issuance declined. Pre-impairment profitability was still solid and sufficient to cover credit losses in Tinkoff (20% of average performing loans in 1H15) and SCB (41%, although this was, to a large extent, attributable to significant one-off mark-to-market gains on the bank's large bond portfolio), but weaker and significantly below break-even levels at HCFB (10%), OTP (13%) and in particular OEB (15%).
Fitch expects pre-impairment profitability to improve by at least 3-4ppt in 2016, due to a gradual pick-up in new lending and a reduction in funding costs as expensive retail deposits collected during the market turbulence in December 2014 and 1Q15 mature and are replaced with cheaper accounts.
Capital buffers have remained solid in OTP and Tinkoff (in the former mainly due to deleveraging) with Fitch Core Capital (FCC)/risk weighted assets ratios of, respectively, 16% and 15%, at end-1H15. Their regulatory tier 1 capital adequacy ratios (CAR), although about 3pts lower from the previous year due to higher risk-weights and additional operational risk charges for consumer banks, are also acceptable. HCFB had a reasonable FCC ratio of 13.3% at end-1H15, although its regulatory tier 1 CAR was rather tight at 6.9% at end-3Q15.
SCB is more weakly capitalised, as reflected by an FCC ratio of 9.5% at end-1H15, which was likely to have decreased to 6%-7% in 3Q15 due to further growth of the bank's securities book and a bank acquisition. In assessing SCB's capitalisation, Fitch views positively the fairly robust quality of the securities book and the bank's significantly lower exposure (relative to capital) to consumer lending than peers. SCB's regulatory capital is supported by lower risk-weights on securities, as reflected by a reasonable 11% regulatory tier 1 CAR at end-3Q15.
Fitch views OEB's solvency as the weakest in the peer group, with an FCC ratio of 8% at end-1H15 and regulatory CARs only marginally above the minimum, exposing the bank to significant reliance on equity injections made by its majority shareholder, Baring Vostok Capital Partners. According to management, OEB may get a further RUB3bn equity injection by end-2015 (22% of end-1H15 equity), in addition to the RUB2.6bn already received in June 2015. OEB and HCFB also managed to ease capital pressure by means of de-leveraging, but further de-leveraging may hit profitability.
Market risk is generally limited for these banks, as loans are short-term and rouble- denominated, while funding dollarisation is moderate. However, significant market risk is present in SCB due to its large securities book (55% of end-3Q15 assets), as the bank has been pursuing carry trade strategies. Although the portfolio has fairly long average duration (around 2.5 years) and is exposed to significant fair value volatility, SCB may convert these bonds to held-to-maturity securities to protect itself from significant mark-to-market losses in case of stress. However, SCB would still be exposed to interest rate risks, as it largely funds the bond portfolio with shorter-term CBR funding. The credit quality of SCB's bond book is sound, with 90% of bonds at end-1H15 rated in the 'BB' category or above.
Funding and liquidity at each of the banks are supported by reasonable deposit collection capacity and strong cash generation of loan books. Loan-to-deposit ratios remain high (above 100%, except for SCB), but reliance on wholesale funding is falling, as the banks gradually replace this with retail deposits. The banks' liquidity profiles are supported by fast loan turnover and sizeable cushions of liquid assets, while refinancing needs are limited in the near term. At end-3Q15, liquidity buffers exceeded 20% of customer funding at all banks except for OTP (13%), which may benefit from access to parent funding in case of stress.
HCK
HCK's VR of 'b' is constrained by the cyclicality of the bank's performance and asset quality due to HCK's exposure to the potentially volatile unsecured consumer finance market in Kazakhstan. Its weak funding profile is also credit-negative, due to a high, albeit decreasing, reliance on parent group resources (21% of end-1H15 total liabilities) and concentrated deposit base (the 10 largest third-party depositors accounted for 23% of non-equity funding). Positively, the VR reflects HCK's reasonable asset quality and performance to date, and solid capital buffer.
HCK's credit losses were a moderate 15% in 1H15 (annualised), significantly below the bank's breakeven credit loss rate of 24%. This would be sufficient to absorb a moderate increase in loan impairments, as Fitch expects asset quality to weaken in the near-term due to the challenging economic environment and a potential drop in borrowers' real disposable incomes following the recent devaluation of the Kazakh tenge. HCK's profitability is sound, as reflected in a 24% ROAE in 1H15 (annualised).
HCK's capitalisation is strong, despite sizeable dividends paid to the parent bank, HCFB, in 9M15 (USD32m, almost equal to the bank's net income during the period). The bank's FCC ratio stood at a high 30% at end-1H15 and is unlikely to be consumed by loan growth in the near- term (HCK reported 2% loan growth in 2014 and an 8% contraction in 1H15). However, capital ratios may decrease if HCFB starts to upstream dividends from HCK more aggressively to offset its own capital pressures.
KEY RATING DRIVERS - SUPPORT RATINGS AND SUPPORT RATING FLOORS
OTP's IDRs, National Long-term Rating and Support Rating are driven by potential support, in case of need, from the parent bank, Hungary-based OTP Bank Plc. Fitch believes that the parent would have a high propensity to support OTP in light of its majority (98%) ownership, high level of integration, reputational damage for the parent from a default at OTP, and common branding. However, Fitch believes that the Russian subsidiary is unlikely to contribute to the group's results in the near future.
The '5' Support Ratings of HCFB, SCB, TCS and OEB reflect Fitch's view that support from the banks' shareholders, although possible, cannot be relied upon. The Support Ratings and Support Rating Floors of 'No Floor' also reflect that support from the Russian authorities, although possible given the banks' considerable deposit bases, cannot be relied upon due to the banks' still small size and lack of overall systemic importance. Accordingly, the four banks' IDRs are based on their intrinsic financial strength, as reflected by their VRs.
HCK's Support Rating of '4' reflects the limited probability of support which the bank may receive from its 100% parent, HCFB. In Fitch's view, HCFB's propensity to support HCK is high given the full ownership, the subsidiary's favourable performance to date, common branding and potential reputational damage for the broader Home Credit group in case of HCK's default. However HCFB's ability to provide support to HCK is constrained by its own financial strength, as expressed by its 'B+' IDR.
KEY RATING DRIVERS - SENIOR UNSECURED AND SUBORDINATED DEBT
The banks' senior unsecured debt, where rated, is affirmed at the same level as their Long-term IDRs and National Ratings, reflecting Fitch's view of average recovery prospects, in case of default.
Tinkoff's and HCFB's senior unsecured debt ratings have been withdrawn as they are no longer considered to be relevant to the agency's coverage. Tinkoff's senior unsecured debt ratings have been withdrawn as only a minimal amount of the bank's senior debt issue remains outstanding following the exercise by most bondholders of a put option, while HCFB's rating has been withdrawn as it now has no senior unsecured debt issues outstanding under its programme.
The subordinated debt ratings of HCFB and TCS are notched down one level from their VRs (the banks' VRs are in line with their IDRs), in line with Fitch's criteria for rating these instruments.
RATING SENSITIVITIES
RUSSIAN BANKS
Limited progress in asset-quality improvement, or further deterioration, leading to continued weak performance and capital erosion may result in negative rating actions. These risks are lower for Tinkoff and SCB due to stronger performance and better asset quality to date, which drive the Stable Outlooks on the ratings.
Further deterioration in the broader economy could result in additional pressure on all banks' credit profiles. Any positive rating actions would be contingent on a meaningful improvement of the operating environment, which Fitch views as unlikely in the near-term.
Changes to OTP's IDRs are also possible if Fitch changes its view on the parent's ability and propensity to support its Russian subsidiary.
HCK
HCK's VR could be downgraded in case of either a significant deterioration of the operating environment in Kazakhstan, or weaker asset quality leading to earnings losses and capital erosion. A downgrade of HCK's VR would not result in the downgrade of the bank's IDRs, which would still reflect potential support from HCFB.
An upgrade of HCK's IDRs would rely on (i) an extended track record of solid asset quality and performance in the challenging Kazakh operating environment and increased funding diversification; or (ii) an upgrade of the parent, reflecting an improved ability to provide support to HCK.
The rating actions are as follows:
Tinkoff
Long-term foreign and local currency IDRs: affirmed at 'B+'; Outlooks revised to Stable from Negative
Short-term foreign currency IDR: affirmed at 'B'
National Long-term Rating: affirmed at 'A(rus)'; Outlook revised to Stable from Negative
Viability Rating: affirmed at 'b+'
Support Rating: affirmed at '5'
Support Rating Floor: affirmed at 'No Floor'
Senior unsecured debt Long-term rating: affirmed at 'B+'; Recovery Rating 'RR4', and withdrawn
Subordinated debt (issued by TCS Finance Limited) Long-term rating: affirmed at 'B'; Recovery Rating 'RR5'
SCB
Long-term foreign and local currency IDRs: affirmed at 'B+'; Outlooks revised to Stable from Negative
Short-term foreign currency IDR: affirmed at 'B'
National Long-term Rating: affirmed at 'A(rus)'; Outlook revised to Stable from Negative
Viability Rating: affirmed at 'b+'
Support Rating: affirmed at '5'
Support Rating Floor: affirmed at 'No Floor'
OTP
Long-term foreign and local currency IDRs: affirmed at 'BB', Outlooks Stable
Short-term foreign currency IDR: affirmed at 'B'
National Long-term Rating: affirmed at 'AA-(rus)', Outlook Stable
Viability Rating: affirmed at 'b+'
Support Rating: affirmed at '3'
HCFB
Long-term foreign and local currency IDRs: affirmed at 'B+'; Outlooks Negative
Short-term foreign currency IDR: affirmed at 'B'
Viability Rating: affirmed at 'b+'
Support Rating: affirmed at '5'
Support Rating Floor: affirmed at 'No Floor'
Senior unsecured debt: affirmed at 'B+', Recovery Rating 'RR4', and withdrawn
Subordinated debt (issued by Eurasia Capital SA) Long-term rating: affirmed at 'B', Recovery Rating 'RR5'
HCK
Long-term foreign and local currency IDRs: affirmed at 'B'; Outlooks Stable
Short-term foreign currency IDR: affirmed at 'B'
National Long-term Rating: affirmed at 'BB+ (kaz)'; Outlook Stable
Viability Rating: affirmed at 'b'
Support Rating: affirmed at '4'
Senior unsecured debt Long-term rating: affirmed at 'B', Recovery Rating 'RR4'
Senior unsecured debt National Long-term rating: affirmed at 'BB+ (kaz)'
OEB
Long-term foreign and local currency IDRs: affirmed at 'B-'; Outlooks Negative
Short-term foreign currency IDR: affirmed at 'B'
National Long-term Rating: affirmed at 'BB-(rus)'; Outlook Negative
Viability Rating: affirmed at 'b-'
Support Rating: affirmed at '5'
Support Rating Floor: affirmed at 'No Floor'.
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