S&P Maintains Kazakhstan BICRA at Group “8”
Friday 30 March 2012
(Standard & Poors) – The banking industry of the Republic of Kazakhstan (BBB+/Stable/A-2) has experienced a pronounced boom and bust cycle over the past decade. After several years of rapid expansion in the mid-2000s, the banking industry collapsed in 2008. Several large banking groups, including BTA Bank J.S.C. and Alliance Bank, defaulted soon after. Since then, the industry has shrunk and been restructured, with system-wide loans dropping to 39% of GDP in 2011 from 59% in 2007.
- Although the Russian and Kazakh banking systems share several common features, there are also some fundamental differences. Banks in Kazakhstan have experienced a lengthy period of political stability and economic growth. Together with a rational approach to banking and finance policy, this has helped push Kazakhstan’s banking system to a higher level of development. Banking technology and personnel qualifications alike are stronger in Kazakhstan than in Russia.
On the negative side, past stability in Kazakhstan arose from the concentration of virtually all political power in the hands of a single individual – the key factor in any assessment of system or country risk. The potential is there for serious disturbances if and when authority passes into new hands.
Decision-making at the next highest level – in the sphere of business and economics – is somewhat more flexible. Power is distributed among several competing groups, with banks among their various assets.
Political risks aside, the financial health of Kazakhstan’s banks appears quite strong, and their business prospects are not necessarily tied to their owners’ current political standing.
More than 30% of Kazakh banks’ loan portfolios were overdue by more than 90 days at year-end 2011. During the crisis years, the government intervened substantially, but did not bail out all banks, we understand due to the sizable losses and the large degree of fraud behind some of the problems.
S&P revised its industry risk score for Kazakhstan because in their view system-wide funding has improved to high risk from very high risk previously, as our criteria define these terms. On Sept. 30, 2011, the Kazakh banking system was in a net external asset position of US $5.5 billion, compared with a net external debt position of $15.7 billion at year-end 2008. This reflected a decrease in banks’ aggregate cross-border debt to $16 billion at year-end 2011 from a peak of $40 billion at year-end 2008. The improvement was largely due to the write-off of the majority of foreign debts of three defaulted and restructured banks (BTA, Alliance, and Temirbank ) in 2010, the repayment of foreign debts by other banks, and the sharp reduction of new cross-border debt issues by Kazakh banks since 2008. S&P doesn’t expect Kazakh banks to significantly increase borrowing in international capital markets in 2012-2013, owing to high costs and restricted access to these markets.
S&P’s economic risk score of “8” reflects that they have maintained their assessment of high risk in economic resilience and economic imbalances, and extremely high risk in credit risk in the economy.
Kazakhstan’s economy is concentrated in the hydrocarbons sector. S&P expects economic growth to remain high over the medium term, due to increased oil and gas production. High political risk derives from uncertainty relating to presidential succession. In the opinion of S&P, the Kazakh banking sector is still in a correction phase, during which nonperforming and restructured loans will remain high as banks work out problem loans, particularly to the construction industry.
S&P anticipates the country’s current account to remain in surplus in the short to medium term and the narrow net external debt position to reduce further. Their view of credit risk in Kazakhstan’s economy takes into account what they regard as Kazakh banks’ aggressive lending practices and relaxed underwriting standards, as well as the country’s weak payment culture and rule of law. Although banks curtailed lending during the crisis in 2008-2011, a new aggressive expansionary cycle could begin when the industry recovers.
S&P’s revised industry risk score for Kazakhstan is “7”. This reflects that they have maintained their assessment of very high risk in the institutional framework, high risk in competitive dynamics, and changed their assessment of system-wide funding to high risk. In the S&P’s view, the Kazakh banking sector is characterized by weak governance and transparency and appears to have a high incidence of corruption and fraud. While regulators aim to impose stricter and more proactive regulation, it remains to be seen whether they will have the capacity and authority to prevent future problems. The banking industry’s performance and stability have been weak over the past decade. Although average operating margins were wide in absolute terms, banks’ ability to price risks proved poor, in S&P’s view, and led to dramatic fluctuations in earnings.
System-wide funding reflects structural deficiencies, including the short-term nature of funding and underdeveloped domestic capital markets. Reliance on cross-border resources has reduced markedly over the past three years, partly due to the write-off of most of the foreign debt of the banks that defaulted. The sustainability of deposits of the government and government-supported industries remains critical for the liquidity of the banking system.
S&P continues to classify the Kazakh government as supportive toward the domestic banking system. This classification recognizes the government’s track record of providing support to the banking system during the 2008-2011 crisis by:
- Recapitalizing systemically important banks,
- Providing banks with liquidity facilities and loan guarantees,
- Directing state-related entities to place their deposits with commercial banks, and
- Offering real estate assistance.
The government did not, however, prevent BTA and Alliance Bank from defaulting on their foreign debts. In 2009, BTA, the third largest bank in the country and currently 81% owned by the government, defaulted partly we understand because of its owners’ fraudulent acts. Since then, BTA has missed a coupon payment on its Eurobonds. Therefore, in S&P’s opinion, BTA defaulted a second time in January 2012.They view BTA as an atypical case.
S&P believes that the Kazakhstan government has the capacity and willingness to support domestic banks with high and moderate systemic importance. It remains committed to BTA’s restoration and has publically stated that it would recapitalize BTA after agreeing the terms of debt restructuring. In our opinion, the government has decided to seek a second restructuring of BTA because the bank’s financial standing had materially deteriorated in 2011 and the level of its problem assets and operating expenses had been underestimated at the time of the first restructuring.