“New normal” has arrived in the CEE banking sector, reads a Raiffeisen Bank International (RBI) report published on Wednesday. There was also good progress noticed in Hungary and Romania and upside on some CE and SEE markets.
“It was foreseeable that 2014 would be a key year for the European banking sector and that banks with a presence in Central and Eastern Europe (CEE) (The Banking Sector Report defines Central and Eastern Europe (CEE) as consisting of the subregions Central Europe (CE) – the Czech Republic, Hungary, Poland, Slovakia and Slovenia; Southeastern Europe (SEE) – Albania, Bosnia and Herzegovina, Bulgaria, Croatia, Romania and Serbia; and Eastern Europe (EE) – Belarus, Russia and Ukraine.) would be tested. Back then our assessments were based on the stricter regulatory measures regarding capital strength and risk evaluation. However, the conflict between Russia and Ukraine, which worsened during the year, as well as the disappointing economic growth in the euro area were both factors that resulted in even bigger than expected pressure on the banking sector. At this point the “new normal” has arrived in the banking industry and all market players are at least partially forced to realign their business strategies. I therefore see 2015 as a transition year that is likely to result in banks closing down business segments or even exit entire markets. Nevertheless, it is still important and right to be present in CEE. I am convinced that the banking business, after this phase of realignment and even though under new conditions, will again contribute a significant share to the economic and social development of the entire region,” said Karl Sevelda, CEO of Raiffeisen Bank International AG (RBI).
His assessment is backed by the key findings of the latest edition of the annual CEE Banking Sector Report – a joint publication by the analysts of RBI / Raiffeisen Research and Raiffeisen Centrobank AG (RCB). The report was presented at a press conference in Vienna on June 10.
Hungary and Romania are making good progress
“We continue to consider Poland, the Czech Republic and Slovakia as high-growth markets, characterized by modest levels of financial intermediation and hence a fair chance that lending and asset growth can outpace GDP growth on a sustained basis. From a fundamental perspective, the turnaround markets of Hungary and Romania may be added to this group of countries. Both banking markets saw an economic and banking sector turnaround in recent years based on deleveraging, harsh one-off losses and NPL restructuring. However, at this point it is difficult to predict whether the restructuring of the past few years has been yet sufficient to start a decent upturn already in 2015,” explained Gunter Deuber, head of CEE Bond and Currency Research at RBI and one of the leading authors of the CEE Banking Sector Report.
NPL ratio: improvements in CE and SEE, downside in EE
Regarding the ratio of non-performing loans (NPL), 2014 was finally a turnaround year in the CE and SEE banking sectors and brought dropping ratios after years of increases. In Romania, the NPL ratio decreased from 21.9 percent in 2013 to 13.9 percent at year-end 2014 after the central bank implemented a range of measures to speed up the balance sheet clean-up. In CE, the positive regional NPL ratio trend got support from solid and / or improving asset quality and new lending activity in Poland, the Czech Republic and Slovakia. Asset quality was also finally improving in Hungary (NPL ratio down from 14 percent to 13.3 percent) and Slovenia (NPL ratio down from 22 percent to 16 percent). The overall NPL ratio in the CE region improved from 9.1 percent to 8.5 percent, the regional NPL ratio excluding Hungary dropped from 7.1 percent to 6.8 percent in 2014. Hence, on a regional level (whole CE aggregate) the NPL ratio dropped by 0.6 percentage points in 2014 following five consecutive years of a cumulative increase of 5.2 percentage points. It is likely that an even larger drop in the regional CE NPL ratio would have been possible, however, the Asset Quality Review (AQR) and stress testing by the European Central Bank (ECB) and the European Banking Authority (EBA) led to more cautious assessments of the asset quality.
“In 2015, we expect the NPL ratio in Russia to reach 8 percent or even 10 percent of total loans, depending on loan growth dynamics, while the overall restructured loans will surge as well. Based on previous experiences during crisis, this share may hit as high as 20 percent of loans. In the first quarter of 2015, we have already seen a substantial acceleration of NPL formation in Russia compared to the fourth quarter of 2014. In Ukraine, we see IFRS-based NPL ratios once again at around 40 percent, while the recent adverse conditions may add up to 15 percentage points to this already high NPL stock. The looming structural banking sector clean-up, as requested by the International Monetary Fund (IMF) support package, may also add to NPL formation in 2015. This may finally pave the way for a more sustained NPL resolution in 2016 and beyond,” said Elena Romanova, senior expert for CEE Banking at RBI and one of the leading authors of the CEE Banking Sector Report.
In total, the diverging NPL ratio trends in the three CEE subregions were still somewhat offsetting each other in 2014, resulting in a fairly stable overall CEE NPL ratio of 8.5 percent. However, in 2015 the developments in EE could overshadow the positive NPL trend in other CEE markets, a scenario that may lead to an increase of the total CEE NPL ratio to above 9 percent by year-end 2015.
Profitability: RoE in CEE at 6 percent with not much upside for 2015
Profitability in CEE banking was a mixed bag in 2014. The overall CEE banking Return on Equity (RoE) has reached its lowest level at some 6.9 percent since the year 2000. According to the report, this disappointing performance can be attributed to several factors. First, the lower RoE figures in the CEE area reflect the new European regulatory requirements that are pushing banks towards larger capital buffers.
Second, three CEE markets, namely Hungary, Romania and Ukraine, turned negative, which is a significant worsening compared to 2013, when only Slovenia made a loss. 2014 hence marks one of the worst years in CEE banking. Only in 2010-2011, the situation in the region was worse, with four loss-making banking markets. Although the current losses were partially related to one-off effects, the RoE readings in the three affected markets were deep in the red (Hungary: -11 percent; Romania: -12.5 percent; Ukraine: -30 percent). The Russian banking market experienced a noticeable drop in profitability in 2014, with its RoE down from 15 percent to around 8 percent and further down to 4.8 percent in the first quarter of 2015.
Up until 2016, there is no significant improvement of the economic situation in the EE subregion in sight. It will take extensive structural reforms to recover and to return to somewhat sustainable growth patterns.
Finally, in 2014, the overall profitability pressure was notable also in profitable CE markets, namely Poland, the Czech Republic and Slovakia and resulted in a further round of profit compression from already low levels by historical regional standards. The regional CE RoE dropped from 10.3 percent to 9.2 percent; excluding Hungary, it decreased from 12 percent to 11.7 percent. Due to the relative maturing of the CE markets, the risk premium in the region went down, supporting the downwards pressure on profitability. Nevertheless, it needs to be emphasized that the CE countries currently have the greatest potential for banking business in CEE.