High levels of foreign borrowing caused the National Bank to impose higher capital adequacy ratios, but the jury is split as to whether such intervention is needed, or wanted. Will more banks turn to IPOs to raise the capital they need to satisfy growing retail lending demand? This demand has encouraged purchases of Kazkah banks by foreign banks, looking to capitalise on the predicted retail boom. Julian Evans reports.
The Kazakh banking sector has long earned praise from the global banking community for its enlightened regulation and fast rates of growth. Adel Kambar, CEO of Renaissance Capitals Kazakhstan office, says: "Kazakhstan has by far the most advanced banking sector in the CIS in terms of market penetration. It is closer to South Africa or Israel than its central Asian peers."
Its rates of growth are still impressive. Last year, the banking assets to GDP ratio grew at a record rate of 97%, to end the year with assets at 91% of GDP, which is in line with the most penetrated central European countries, such as Hungary, Poland and Slovakia.
This year, that ratio is set to grow to 116%. But the growth in assets could level off soon. Jason Hurwitz, head of research at Visor Capital, says: "Our forecasts show about two more years of extraordinary growth before reaching a plateau at about 140% by around 2009."
But other factors are likely to pick up the slack in growth particularly retail loans, which were only at 15% of GDP at the end of last year, compared to over 100% in developed economies; and retail deposits, which were only around 60% of GDP at the moment, and are set to rise to around 70% in the next 12 months, according to Visor.
Foreign borrowing: cause for concern?
Kazakh banks have been borrowing a lot to support the fast growth in corporate and retail lending, as well as lending to the real estate market. Banks borrowed around $18bn last year on the external debt market, which helped to drive retail lending to close to triple digit growth rates.
The extent of Kazakh banks foreign borrowing has caused some alarm among international rating agencies and multilaterals. The IMF, in particular, expressed concern about how much Kazakh banks were borrowing in its global financial stability report of April 2007.
The report said: "A reduction in external creditors appetite for Kazakhstan exposure, or a sharp decline in the quality of loan portfolios were the credit cycle to turn, could disrupt banking activity and carry consequences for the real economy. Thus, policy measures to lower inflation and mitigate banking sector risks are needed to ensure a continued favourable macroeconomic outlook."
Standard & Poors and then Fitch agreed, saying that raising capital adequacy levels for banks would help protect the sovereign credit rating currently BBB/Baa2/BBB which was vulnerable from the high level of banks foreign borrowing.
The bankruptcy in mid-2006 of Valut Transzit Bank, a small bank with a 1.7% market share, caused further concerns. The bank got into trouble because of its consumer credit portfolio, and resorted to strong-arm tactics in an attempt to get its money back.
These concerns were reflected in the performance of Kazakh banks debt. In the last month, the bonds of the biggest Kazakh financial issuers have widened by around 150bp, while more conservative issuers like Halyk Bank or Bank CentreCredit have widened by 50bp. Some of this is because of global market conditions, but analysts say oversupply is also an issue. Olga Fedotova, an analyst at HSBC, says: "Banks have issued more than $5bn in bonds in the first quarter of 2007, almost equal to 2006 supply, with each 2007 issue at a premium. We believe short term volatility is likely to remain."
The National Bank of Kazakhstan moved to deal with the problem in April 2007, when it increased the amount of capital that banks have to set aside to cover external borrowing from 8% of the amount borrowed to 10%. At the same time, it lowered reserves for local borrowing from 6% to 5%. It is also considering increasing the reserve requirement for consumer loans up to 150% from 100%.
The argument for intervention
Banks are predictably sceptical about these moves.Bahit Jolaman, member of the board of Temir Bank, says: "Obviously the moves are prudent, as far as pre-empting a surge in inflation and lowering FX risk. On the other hand, the inevitable evil is dampening the pace of growth and development, and a gradual raising of the cost of retail loans."
Jolaman thinks the moves were not necessary: "There is nothing in the indicators here to show any even potential deterioration of asset quality. As for the concerns of the IMF and rating agencies you dont have to go too far back to find situations where both have been proved wrong."
Some analysts, meanwhile, express concerns that the banking lobby is too strong banks shareholders are some of the most powerful businessmen and politicians in the country and that the National Banks proposals have not gone far enough. "The latest official attempts to restrain explosive bank lending growth appear once again underwhelming," says Morgan Stanley eastern Europe research analyst Oliver Weeks. He and other analysts would like to see the raising of capital adequacy levels for consumer loans too.
The government is also trying other methods to manage the credit boom. The Financial Supervisory Agency of Kazakhstan (AFN) has been working to create one of the first credit history databases in the CIS, a project that has been moving slowly since 2005. Arman Dunaev, chairman of the AFN, says that only one bank Alliance Bank has yet to hand over its data, and it has already agreed to do so.
It may be that external market conditions act as a more persuasive deterrent to excessive external borrowing than official steps. The US housing markets woes and problems in the Western leveraged buy-out market have made things difficult for all emerging markets, and Kazakh banks have been particularly badly affected, with spreads widening on the credit default swaps of Bank TuranAlem, for example, by 300bp in a month.
On top of that, the national banks new regulations have added a further 50bp on to banks cost of external funding, according to Bank CentreCredit.
Global volatility strikes
Could the tough global conditions prove a serious challenge for Kazakh banks dependent on external borrowing? Morgan Stanley estimates that around $6bn in loans and bonds from banks is scheduled to mature this year. "Were banks unable to roll over this debt an extend borrowing, the balance of payments impact would be significant," says Weeks at Morgan Stanley. Roland Nash, head of equity strategy at Renaissance Capital, says: "Clearly the market thinks the weaker issuers will struggle to refinance their debt."
However, Timur Ishmurator, head of international banking at Bank CentreCredit says: "Kazakh banks are liquid enough that I dont think there will be any problems with refinancing."
Bank TuranAlem has been one of the most aggressive borrowers over the last three years, using the $3bn it raised in 2006 to continue its aggressive expansion around the CIS. But its chairman, Roman Solodchenko, is not concerned about volatility in the global debt markets.
"What if access to external markets were blocked?," he says. "Each bank has its own strategy. We have a commitment from our shareholders that theyll support us if this situation occurs."
If two of the probable consequences of the new capital adequacy laws is an increase in the cost of retail loans and a slowdown in consumption, another likely consequence is the further infusion of foreign capital into the Kazakh banking sector. HSBCs Fedotova says: "We believe that 2007 will be a year of capital raising and industry reorganisation. While external borrowing is still likely to be the major source of funding, banks will increasingly be looking at equity."
IPOs a barometer for sector health
In the last 12 months, we have already seen IPOs by Halyk Bank, Kazkommertsbank and Alliance Bank, which have raised a total of $2.5bn in capital. The KazKommertsBank and Halyk Bank deals, in November and December respectively, were oversubscribed and particularly successful. However, none of the banks shares have really performed well since flotation, which might make future deals harder.
ATF Bank, meanwhile, managed to sell around 85% of itself to UniCredit Group, reportedly for around five times book value, earlier this year. The deal is the first acquisition of a controlling stake in a Kazakh bank by a foreign bank. It is likely to open the way to further deals.
Timur Ishmuratov, head of international banking says: "We see a few strategic investors very actively looking for local banks to buy, particularly French and Austrian banks. Raiffeisen has said it wants to buy a Kazakh bank [some have suggested it is in negotiations with Bank CentreCredit.] We also see investors from South Korea and the Middle East looking for acquisitions. I think you will see other strategic sales soon, involving perhaps Temir Bank, Tesna Bank, or perhaps even ourselves."
Temir Bank is partly owned by Bank TuranAlem, which is reportedly planning to buy the whole bank, and then sell it to Vneshtorgbank of Russia.
Bank TuranAlem itself managed to attract new equity investors when Raiffeisen sold its 7.7% stake in the bank for around $200m to a consortium of investors led by East Capitals CIS Financial Institutions Fund. Jyrki Talvitie, manager of the fund, says: "We were eager to invest into the Kazakh banking sector. We like Bank TuranAlem in particular because of its CIS expansion strategy, which will give it an edge as the banking market slows down in Kazakhstan."
Almaty hub a distant prospect
As the domestic market nears maturity, other banks may follow Bank TuranAlems lead and look for acquisitions around the CIS.
Many banks have been critical of BTAs strategy in the past. Three years ago, EuroWeek raised doubts about the wisdom of the banks acquisition strategy. But the doubters appear to have been proven wrong.
"Weve been criticised all the way for our CIS expansion," says BTAs chairman of the board Roman Solodchenko. "Certainly, its not an easy task to consolidate all the CIS assets, but that is what were now working to do, with the help of Ernst & Young."
At the end of this process, which BTA thinks will take around two years, the first genuinely pan-CIS bank will have been created, which will be quite an achievement.
The government, finally, is intending to turn Almaty into a pan-CIS financial services hub. There is certainly growing interest among investment banks in setting up Almaty branches. Renaissance Capital, one of the leading brokerages in Russia, has just invested around $1bn in setting up an official Kazakh subsidiary, headed by Adel Kambar. It has also been busy trying to lure local fund management talent from other banks, much to their chagrin.
Arken Arystanov, chairman of the regional financial centre of Almaty, says: "Every week we see offers to open offices in Almaty. Ive discussed it recently with Morgan Stanley, and with Washington Square, an investment boutique, as well as with Korean and Malaysian brokerages."
But the local securities market has yet really to take off, through a lack of liquidity and a lack of local issuance. The one big locally listed IPO so far was KazMunaiGaz E&P. As state holding companies like Samruk prepare more companies for local listings, we may see more activity on the Almaty stock exchange. But so far, the project to create a financial centre has several years of hard work ahead of it.