Thursday, August 13 2020 16:02
Karine Melikyan

FinRating ArmInfo: Growth of non-performing loans resumed in Armenian  banks

FinRating ArmInfo: Growth of non-performing loans resumed in Armenian  banks

ArmInfo.The growth of non-performing loans resumed in the banking system of Armenia. Thus, the share of NPL in the loan portfolio changed in Q2 from 8% to 8.3%,  and in assets from 5.2% to 6.3%, against 9.2% and 5.9%, respectively,  recorded a year earlier. This was observed against the backdrop of  accelerating y-o-y growth in loan investments from 11% to 19% and a  slowdown in asset growth from 17% to 14%, with strongly weakened  quarterly growth in both cases.

These indicators are given from the Financial Rating of Banks of  Armenia as of June 30, 2020, prepared by ArmInfo IC based on  financial reports, which include a new format for presenting credit  risk (according to IFRS9), which does not fully reflect the real  picture of the quality of the loan portfolio and the presence of  toxic loans (NPL). However, ArmInfo IC requests the necessary data  from banks, which allow calculating the total volume of overdue loans  and, consequently, their share in the loan portfolio and banks'  assets.

The rise in toxic loans, in turn, has prevented profits from  accelerating growth. Thus, net profit, amounting to 40.6 billion  drams ($ 84.2 million) in the first half of the year, increased by 6%  per annum, similar to the rate of a year ago, which was observed  against the background of an increase in the volume of overdue loans  by 8.2% (with a quarterly growth of 10.1%). And this was accompanied  by a decline in the value of healthy (standard) loans for the  reporting quarter by 0.5% (from 5.1% growth in the first quarter)  with a y- o-y growth of 15.3%, presumably to a greater extent due to  the renegotiation of contracts during payment holidays (from March 13  to June) and active participation in the 1st and 2nd anti-crisis  state programs.

Consumer loans and trade ''stuck'' in high toxicity 

Doubtful and bad loan risk groups account for about 56% of NPL, and  the latter retains a tangible dominant. In terms of industries, over  34% of overdue loans are consumer loans (including mortgages), with a  y-o-y increase in the volume of non-performing loans by 33% with a  slightly less modest growth in performing loans (by 28%). Moreover,  half of the total volume of consumer loans are doubtful and bad ones,  the latter prevail.

The retail sector is ahead of consumer loans in terms of NPL share,  which amounts to 35%, with a y-o-y growth of their volume by 3%, but  with an increase in performing loans by 19%.

The share of NPL in loans to the industrial sector is somewhat more  modest - about 28%, with a y-o-y growth of 23% with a moderate  increase in performing loans (by 10%). The volume of non-performing  loans in the agricultural sector significantly slowed down the y-o-y  growth to 5%, while the growth of performing loans accelerated to  17%. Among the loans to the construction sector, volume of NPL fell  by 1% year over year, while performing loans increased 38%. And in  the field of catering and services, on the contrary, the volume of  NPL increased - by 31% per annum with a meager 3% growth in  performing loans.

It is noteworthy that these same sectors also dominate in terms of  the volume of credit investments:  consumer loans - 28.7%, trade -  17%, industrial sector - 14%. The mortgage accounts for 10%. The  share of lending to the catering / service sector was 7%, the  agricultural and construction sectors - 5-6%.

The volume of consumer loans slowed down the y-o-y growth from 38% to  28%, while the mortgage remained in growth at 36%. Lending to the  catering / services sector sharply slowed down growth from 34% to 8%,  the retail sector accelerated growth from 13% to 16%, and the  industrial sector came out of the 14% decline by 12% growth.  Investments in the construction sector (from 7% to 31%) and in the  agricultural sector (from 5% to 14%) also registered growth with a  sharp acceleration in pace. At the same time, the volume of lending  to SMEs continues to lose growth, slowing down from 15% to 5%.

By July 1, 2020, the total loan portfolio of Armenian banks exceeded  4 trillion drams ($ 8.3 million), and assets reached 6 trillion drams  ($ 12.4 million), and the acceleration of the annual growth of the  former, while the growth of the latter slowed, increased the share of  loans in assets from 64.3% last year to 67.1%.

Hiding portfolio toxicity amid the crisis decreases profit

Analysts of the national rating agency AmRating note that the  transparency of the banking system, with the transition to the new  reporting under IFRS9, has decreased due to the "concealment" of the  structure of the quality of loans, namely the classification of the  portfolio by risk groups. Independent analysts are most concerned  about the absence in the new format of the most formidable and  dangerous article for assessing the reliability of banks - bad loans.  And the above 56% does not reveal the full picture of portfolio  toxicity.  However, despite this, weak growth in interest income from  lending (which was stagnant during the quarter) and deceleration of  profit growth for the second year in a row at the same low rate  speaks of the "significant" presence of bad loans. According to  analysts' forecasts, the process of write-offs of bad loans from the  balance sheets after the payment holidays will continue, thereby  decreasing the level of profitability of the banking sector, at least  until the moment when the maximum debt ratio is applied, designed to  exclude over-borrowing of borrowers, with an accompanying real  recovery of the loan portfolio. In the meantime, according to the  agency's analysts, low interest rates, a significant decrease in  margins and weak growth in interest income restrain expectations for  the ROA and ROE ratios to reach a high level: by the end of the first  half of 2020, the return on assets (ROA) of the banking system fell  to 1.4 %, and the return on equity (ROE) - to 9.4%. In 2020, all this  is complicated by the economic and social consequences of the  outbreak of the coronavirus pandemic with uncertain forecasts on the  timing of overcoming the current situation, and the forecasted  undulating course of the epidemic may even worsen the prospects for  economic recovery in 2021.

The Central Bank fulfills Basel requirements with restraint in order  to preserve buffers According to the requirements of Basel III, a  number of new standards were to come into force as early as 2020, but  the pandemic crisis has made adjustments to the timing of their  implementation. Moreover, the Central Bank reacted to these  innovations very restrainedly in order to ensure a smooth transition  to the new regulatory field in the interests of preserving the formed  capital and liquidity buffers. So, since 2020, after a 12-year break  (then at the level of min 8%), the capital adequacy ratio came into  force again, reduced in May from a minimum 10% to 9%, which was used  on a par with the current total capital adequacy ratio at the level  min 12%. The countercyclical capital buffer (CCyB) introduced in  accordance with the Basel requirements of 0% of risk-weighted assets  was left at this level. And the Central Bank, making this decision,  was guided by the goal of mitigating the possible negative  consequences of the spread of the coronavirus on the financial  system, as well as promoting the continuity of the process of lending  to the Armenian economy. In addition to this buffer, it was planned  to introduce two more: a capital adequacy buffer (0.5% with a phased  increase to 2.5%) and a buffer for systemically important banks (0.5%  with an annual increase to 1.5%). Thus, the Central Bank sent  appropriate signals to banks to use the built-up capital buffers to  ensure the continuity of banking operations, to withstand stress  situations and absorb losses during the economic downturn. Similar  instruments are capital buffers set in addition to capital adequacy  ratios and designed to contain risks (including systemic ones)  inherent in a stressful period. In addition, the Central Bank for the  smooth implementation by banks of financing the real sector of the  economy, postponed the implementation of two new liquidity standards  established by Basel III - the liquidity coverage ratio (LCR) and the  net stable funding ratio (NSFR), which will come into force in  January 2021. At the same time, the general and current liquidity  ratios that regulate banks' liquidity risk continue to operate as  usual at the level of min 15% and 60%, respectively.  As of July 1,  2020, on average in the banking market, the level of total capital  adequacy amounted to 27.13%, which is lower than a year ago (28.88%),  and the level of capital adequacy was 27.56% (against 30.6% for April  1 this year). The level of total liquidity in the banking market on  average amounted to 31.05%, and current liquidity - 167.72%, and in  both cases, comparison with the indicators of a year ago records a  decrease from 31.94% and 172.88%, respectively.

Forecasts for the economy are becoming more negative

On June 8, the World Bank updated the forecast of global economic  outlook, adjusting the expectations for country GDP for 2020 towards  a decline, in particular in Armenia, predicting a decline in GDP by  2.8%, and in neighboring countries and the EAEU - a more significant  decline. Moreover, in Russia, the World Bank predicts a decline in  GDP in 2020 by 6%, in Georgia- by 4.8%, and for the economies of the  USA and the Eurozone, the projected decline is even higher - 6.1% and  9.1%, respectively. The updated forecast took into account the  situation around the coronavirus pandemic and related disruptions to  services and supply chains. "This impact will be most severe in  countries that are highly dependent on tourism and commodity exports,  capital flows, and those deeply integrated into global value chains.  The risk of a full- fledged financial crisis could weaken foreign  direct investment and remittance flows, which will be due to the  growth of unemployment in the recipient countries, " the World Bank  notes.

The Central Bank of Armenia, which previously predicted a slowdown in  GDP growth in 2020 to stagnant 0.7%, in June revised this forecast  towards a decline by 4% (from 7.6% growth in 2019), expecting the  largest decline in the construction sector - by 11.2%, as well as in  the service sector - by 4.3%, in the industrial sector - by 2.2%, and  in the agricultural sector - by 0.4%. In parallel, the Central Bank  of Armenia has worsened the forecast towards a decline in a number of  macroeconomic indicators: for exports - by 12-15% (from 10.3% growth  in 2019), for imports - by 15-17% (from 9.1% growth in 2019), on the  inflow of private transfers - by 22-25% (from 9.7% growth in 2019),  on the ratio of the current account deficit to GDP - 6-7%, on the  ratio of the budget deficit to GDP - deepening to 5% (from 1% in  2019), unemployment - 20.4% (from an average annual 18.9% in 2019).

Considering the fact that the lion's share of remittances comes to  Armenia from Russia (54% in 2019), Russia also holds the lead in  foreign trade turnover (27-28% in 2019 for exports and imports), in  terms of investments, Russia also holds the lead (34, 3% in the total  volume and 65.2% in the FDI volume), therefore, as a recipient  country, Armenia will suffer especially painfully from the  deteriorating economic situation in donor countries, since the latter  threatens to strike simultaneously from different directions.

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