The global financial crisis was, in relative terms, a non-issue for Turkish financial institutions. Because they had not invested heavily in risky US sub-prime securities — like German banks did, for example — they remained more or less stable throughout the global meltdown, with the help of the central bank.
When external demand began to slow after the collapse of Lehman Brothers in 2008, Turkey adopted a loose policy framework, with easy
access to external funding for banks. Credit growth was rapid as a result
— Turkey’s bank credit to GDP ratio increased by 24 percentage points
between 2009 and 2013, hitting 65%.
As the global cycle turns, the country is now facing a high external
financing need against a backdrop of tighter global financial conditions
and slowing growth, say analysts at BNP Paribas.
Turkish banks have been busy innovating, bringing out new credit products such as mortgages and credit cards, which may seem commonplace elsewhere but have little purchase in Turkey. This domestic growth, especially in the face of turmoil overseas, has helped spur demand for Turkish paper among bond investors, as banks look to modify their funding structure to suit their new lending habits.
“Turkish banks used to fund themselves mostly through the syndicated loan market, in 12 month maturities,” says a DCM banker specialising in the CEEMEA region. “Bond issuance is really a phenomenon that has happened over the past 18 months or so — banks have realised in the post-crisis era that they need to term out their maturities and recalibrate their assets and liabilities.
“The mortgage market is nascent in Turkey but as it continues to grow, alongside increased demand from corporate clients and consumers, banks will look to optimise their balance sheets in terms of maturity profile.”
Upgrade unlocks investors
This new interest in the bond market has been helped along by Turkey’s sovereign upgrade, which gave many investors the push they needed to finally get involved in the country’s private sector, says Müge Eksi, managing director in charge of capital markets advisory at Yapı Kredi Yatırım in Istanbul.
“Turkey was upgraded so it now has two investment grade ratings, and that helped get some investors over the line,” she says. “US investors have been long term investors in Turkey but until about three years ago they didn’t have private sector access.
“But Turkey has seen strong growth and non-sovereign issuance over the past few years and there are now issuers with established yield curves and proven track records.”
Institutions like Işbank, Yapı Kredi, Garanti Bank and VakıfBank were present in the US dollar senior unsecured market throughout 2013, generally in mid-term tenors like five years. They’ve quickly built a loyal following — and now they’re muscling in on the private placement market.
All four lenders set up MTN programmes in 2013, with Garanti coming first and Yapı Kredi last, launching its $1.2bn platform on September 20. Yapı Kredi might have been last to the party — although more Turkish banks will certainly join the club in 2014 — but it has already begun to blaze a trail for structured MTNs.
It sold a puttable MTN in November, and while this is quite vanilla compared to the exotic flavours on offer elsewhere in the MTN market, the bank has expressed its desire to court investors that are interested in funkier structures.
They may be new on the scene, but Turkish banks are already acting like they’ve been there for a while, says Rajiv Shah, a vice-president in CEEMEA debt capital markets at BNP Paribas.
“The majority of MTN issuance has been shorter dated and in US dollars, but maturities are slowly increasing as that market becomes more mature for Turkish banks and investors get more comfortable with Turkish risk,” he says.
“Since Garanti established its programme in April, another three issuers have set up programmes, and they are now posting weekly levels — it’s very similar to how the high grade FIG market works.
“The private placement market is a much more niche investor base. A lot of demand has been coming from Asia recently.”
Meanwhile, in the public benchmark space where supply is more or less constrained to US dollars and the occasional domestic Turkish lira bond, the time may be coming for Turkey’s banks to finally start issuing in euros.
This development is still in its very early stage. Most Turkish banks have little need for euro funding and they know that they have a loyal following in US dollars — but that could all change. A favourable basis swap between dollars and euros could give issuers a pricing benefit, and they may soon have a natural need for euros, says Shah.
“There is the potential for currency diversification — we could see euros coming in, for example,” he says. “There are two reasons for that — firstly, the basis swap means the arbitrage is starting to make sense in euros, and secondly, some of the new project finance loans in Turkey may end up being denominated in euros, so Turkish banks may have a direct use for the currency.”
The Swiss franc market is also an arbitrage option for Turkish banks, says the DCM banker specialising in CEEMEA.
“Turkish banks should be able to tap things like Swiss francs on an
opportunistic basis,” he says. “The Swiss market makes sense because of the arbitrage — they can do smaller deals than dollar benchmarks and they can price them inside the dollar curve on a fully swapped basis.”
Basel III capital driver
Turkish banks will have to access a whole new type of investor base over the next few years, however, as Basel III comes into force and they begin to raise regulatory capital.
There were few tier two bonds from Turkish banks in 2013 compared to 2012 — although Işbank did launch a drive-by tier two deal in December, which some have viewed as confusing.
It was confusing to some because old-style Basel II-compliant instruments, as Işbank’s deal was, will only be fully grandfathered throughout 2014, before being progressively phased out from 2015. In order to comply with Basel III, deals printed from 2014 onwards will need to build point of non-viability loss absorption (PONV) into their terms.
This debate raged in Europe for much of 2013, until it became clear that PONV — shorthand for the recognition that subordinated debt can be written down if the regulator decides the issuer is no longer viable — would be dealt with on a statutory basis, by the incoming European Bank Recovery and Resolution Directive (BRRD). Turkey will not have a statutory recovery and resolution framework, so to comply with Basel III, Turkish banks will need to specify in the terms and conditions of their subordinated bonds that the regulator can choose to write them down under certain conditions. This is known as contractual PONV.
Whether or not, in philosophical terms, there should be a pricing differential between statutory and contractual PONV, bankers envisage there will be one.
“When this debate started over the summer, the differential was about 100bp, with contractual PONV pricing wider,” says a bank capital specialist. “It is shrinking though. Some investors feel there is more risk in a discretionary decision by the regulator and that they might be more inclined to write bonds down if it is already in their terms, but that concern is diminishing. In Europe, even deals without PONV language built in, we have seen writedowns. The differential will probably end up at about 50bp.”
“Turkish banks are well capitalised, and because of the country’s relative immunity to the financial crisis, they haven’t really had to dip into their reserves to recapitalise themselves. Even so, we should see capital issuance in 2014,” says Shah. “It could take a while for new style Basel III-compliant bank capital issuances to filter through as they will require additional work and investor education but we will see some capital issuance this year.”
Gerald Podobnik, head of capital solutions at Deutsche Bank, is similarly optimistic, although he points out that the real test of appetite for Turkish bank capital instruments is still to come.
“We will see these deals in 2014,” he says. “Turkish banks are very well capitalised, with high CET1 ratios, so I don’t believe there will be an avalanche of issuance, but there will be some.
“The big question is when Turkish banks will start issuing additional tier one paper. That is a concept that has never really been tested in Turkey, having been introduced a couple of years ago.”
In the meantime, Turkish banks will have a couple of things to contend with — the first being the Federal Reserve’s tapering of quantitative easing, which could affect demand for emerging markets paper, and the second being its own regulator’s attempts to keep credit growth in check.
“Fed tapering could translate into spread widening and put banks’ immediate issuance plans on hold, but I suspect that once markets settle down into the new normal, financial institutions should continue to find demand for their paper,” says the CEEMEA specialist.
“Another challenge is that the central bank is already introducing laws to curb short term lending to consumers and credit cards. They want to make sure that consumer debt doesn’t become a problem, which could then in turn affect the banks.”
Predictably, the banks dislike the new rules, because of their potential to constrain banks’ growth prospects. But consumer credit is a young market in Turkey, and as the saying goes, you can’t miss what you haven’t got — and most bankers agree that short term pain is long term gain.
Indeed, the central bank’s eagerness to keep consumer credit growth from bubbling out of control may be credit positive for many investors in Turkish bank paper. Either way, it looks like these issues are only minor obstacles to Turkish banks growing their presence in the international bank finance market.