Fitch Affirms 3 Turkish State-Owned Commercial Banks at 'BBB-'; Outlook Negative
The banks are either fully or majority state-owned and represent a combined share of roughly 30% of Turkey's banking sector assets, loans and deposits.
KEY RATING DRIVERS
VRs, IDRS, SENIOR DEBT
The IDRs and senior debt ratings of Ziraat, Halk and Vakifbank are underpinned both by their 'bbb-' Viability Ratings (VRs) and by their 'BBB-' Support Rating Floors (SRFs). The Negative Outlooks reflect the potential for both their VRs and SRFs to be downgraded and revised downward respectively in case of a sovereign downgrade. They also reflect the downside risk to the banks' credit profiles resulting from a significant weakening of the operating environment.
The affirmation of the VRs reflects the banks' strong franchises and generally sound financial metrics, notwithstanding recent rapid growth and a challenging Turkish operating environment. However, the VRs could be downgraded in light of downside risks to asset quality, profitability and capitalisation, as a result of slowing GDP growth and potential further currency and interest rate volatility. In addition, significant foreign currency wholesale funding - much of which remains short-term - heightens refinancing risk, leaving the banks exposed to potential changes in investor sentiment.
Ziraat is the largest domestic bank, with market shares of 13%-14% in sector assets and deposits at end-1H16, and a policy role as the sole provider of subsidised agricultural loans in Turkey (end-1H16: around 15% of gross loans). Halk and Vakif are the sixth - and seventh - largest banks in Turkey in assets and deposits (end-1H16: market shares of 8%-10%). Halk also benefits from its policy role as the sole provider of subsidised loans to small businesses through cooperatives (end-1H16: 14% of gross loans).
All three banks benefit from significant and stable state-related funding which, excluding budgetary funds, at end-1H16 equaled to 12%, 13% and 21% of total funding at Ziraat, Halk and Vakifbank, respectively.
Asset quality at the three banks is reasonable and is underpinned by low non-performing loan (NPL) ratios in subsidised agricultural and SME lending (at Ziraat and Halk); loans to payroll customers and pensioners, which account for a large proportion of the three banks' unsecured consumer loan portfolios; and mortgage lending.
Concentration risks are manageable with the largest exposures, which are frequently in foreign currency, typically to prime corporates with diverse businesses and access to foreign currency revenues. Specific reserves coverage of NPLs (defined as loans overdue by 90+ days) is strong at Ziraat and adequate at Halk and Vakif. Consequently, net NPLs relative to Fitch Core Capital are low at all three banks.
At end-1H16, NPLs stood at 1.6% at Ziraat, 3.1% at Halk and 4.1% at Vakifbank. Including regulatory group 2 watch list loans, which at end-1H16 accounted for 2.1%, 2.8% and 4.8% of gross loans at Ziraat, Halk and Vakifbank, respectively, asset quality was still generally reasonable. However, the share of higher-risk restructured group 2 loans rose at each of the banks, suggesting moderate deterioration in asset quality. NPL ratios at state-owned banks are not fully comparable with the sector NPL ratio since they do not typically write off or sell problem loans.
Downside risks to asset quality exist for the three banks, as for the whole sector. Exposure to SMEs - a segment that is highly sensitive to the slower growth environment - accounted for 37%, 40% and 27% of gross loans at Ziraat, Halk and Vakifbank, respectively, at end-1H16.
The banks' exposure to troubled sectors such as tourism and energy is moderate. Many energy loans are long-term, foreign currency project finance loans, although the currency risk in this portfolio is partly hedged due to energy prices being US-dollar linked. Some projects also relate to renewable projects that benefit from a government guaranteed floor price set in US dollars.
Total FX lending (on a consolidated basis, including FX-indexed loans) ranged from 26% to 31% of the banks' gross loans at end-1H16, below the sector average. This is nevertheless high, particularly given the potential for further depreciation of the Turkish lira. However, the typically long-term, amortising and quarterly or semi-annual repayment structures of foreign currency loans mean that asset quality problems would feed through only gradually.
Fitch believes that the banks' capital bases, which consist mainly of common equity tier 1, remain sufficient to absorb a further moderate increases in credit losses or withstand moderate shocks. At end-1H16 the banks' Fitch Core Capital ratios stood at 12.8% (Ziraat), 12.1% (Halk) and 11.4% (Vakifbank). The release of general provisions relating to consumer loans, due to a change in regulation, could provide moderate uplift to Ziraat's and Vakifbank's capital ratios in Q416 (Halk released these provisions in 2015).
Capitalisation is underpinned by internal capital generation, which has been consistently sound at Ziraat (1H16: 16.2%) and more moderate, but still reasonable, at Halk (14.3%) and Vakifbank (12.1%). In all cases internal capital generation is broadly in line with the banks' loan growth targets. However, volatility in performance ratios is possible given heightened operating environment pressures.
Ziraat's profitability has been somewhat better than peers in recent periods, due to the bank's pricing power, economies of scale, stronger cost efficiency and superior asset quality record. In 1H16 it reported a return on equity (ROE) of 20.1% compared with 14.9% and 12.6% at Halk and Vakif, respectively, and a sector average of 14.6%.
Capital ratios at all three banks have been eroded in recent years by fairly rapid loan growth and the depreciation of the Turkish lira. They remain sensitive to further potential local currency depreciation or sovereign downgrades, which would result in higher risk weightings on foreign currency reserves and government debt.
The phase-in of Basel III tier 1 buffers by 2019 - including the systemically important financial institution (SIFI) buffer (an additional 2% for Ziraat and 1% for Halk and Vakifbank) and the 2.5% capital conservation buffer - will reduce the banks' capital flexibility over the medium term (due to a rise in minimum capital ratio thresholds).
All three banks are primarily customer deposit-funded (ranging from 65% to 70% of total funding) and foreign currency wholesale funding is below the sector average, but still significant. At end-1H16 foreign currency wholesale funding represented a moderate 16% of total funding at Ziraat and a higher 20% at Halk and Vakifbank, respectively.
The banks have been seeking to lengthen their maturity funding profiles through longer-term debt issuance but a significant share of foreign currency non-customer liabilities are nevertheless due within one year. Mitigating the refinancing risk is the banks' record of market access to date and broad investor bases.
Fitch views foreign currency liquidity buffers (defined as cash, placements in foreign banks, unpledged government foreign currency securities, placements in the central bank's reserve option mechanism (ROM) and net receivables under foreign currency swaps) as generally adequate at all three banks. Fitch's calculates that these buffers at end-1Q16 broadly covered the banks' short-term foreign currency non-deposit liabilities due within a year. Nevertheless, foreign currency liquidity could come under pressure in the event of prolonged marked closure.
SUPPORT RATINGS and SUPPORT RATING FLOORS
The banks' '2' Support Ratings and 'BBB-' Support Rating Floors reflect Fitch's view of a high probability of support from the Turkish authorities in case of need. The SRFs are aligned with the sovereign's Long-Term Foreign Currency IDR and reflect the banks' (i) ownership structures (ii) policy roles (Ziraat, Halk) (iii) systemic importance, and (iv) significant state-related deposits.
Nevertheless, Fitch believes that the state's ability to provide extraordinary foreign currency support, if required, may be somewhat constrained given limited central bank reserves (net of placements from banks) and the banking sector's sizable external debt. However, in light of the adequate liquidity buffers of Ziraat, Halk and Vakifbank, foreign currency liquidity needs should be manageable for the sovereign even in quite extreme scenarios.
A sovereign downgrade would likely result in a downward revision of the SRFs of Ziraat, Halk and Vakifbank due to the diminished ability of the sovereign to provide support.
VAKIFBANK SUBORDINATED DEBT
Vakifbank's 'BB+' subordinated debt rating is notched down once from the bank's 'bbb-' VR to reflect below-average recovery prospects in case of default.
NATIONAL RATINGS
The affirmation of the banks' National Ratings with Stable Outlooks reflects Fitch's view that their creditworthiness relative to one another and to other Turkish issuers remains unchanged.
RATING SENSITIVITIES
IDRS, NATIONAL RATINGS AND SENIOR DEBT
The Negative Outlooks on the IDRs reflect the potential both for their VRs to be downgraded in case of a significant weakening of the operating environment and for their SRFs to be revised downwards if the sovereign is downgraded. A stabilisation of the sovereign credit profile and the country's economic prospects would reduce downward pressure on the ratings.
VR downgrades could result from (i) bank-specific deterioration of asset quality; (ii) further erosion of capital ratios due to continued lira depreciation; or (iii) a weakening of foreign currency liquidity positions. However, a downgrade of the VR would only result in negative action on banks' IDRs if at the same time Fitch believes the ability or propensity of the Turkish authorities to provide support - as reflected in their SRFs - has weakened.
Changes in SRs and SRFs would likely be linked to changes in the sovereign's ratings. These ratings could also be downgraded and revised downward respectively if either (i) the banks' foreign currency positions deteriorate to an extent that might limit the sovereign's ability to provide them with sufficient extraordinary support in foreign currency; (ii) Fitch believes the ability of the sovereign to provide support in case of need has markedly reduced; or (iii) Fitch believes the sovereign's propensity to support the banks has reduced.
A change of ownership at the banks, or the introduction of bank resolution legislation in Turkey aimed at limiting sovereign support for failed banks, could also negatively impact Fitch's view of support propensity, and hence the banks' SRs and SRFs, although such developments are not expected in the near term.
Vakifbank's subordinated debt rating is sensitive to a change in the bank's VR. The notes' rating is also sensitive to a change in notching due to a change in Fitch's assessment of the probability of the notes' non-performance risk relative to the risk captured in Vakifbank's VR, or in its assessment of loss severity in case of non-performance.
The rating actions are as follows:
T. C. Ziraat Bankasi A. S., Turkiye Halk Bankasi A. S. and Turkiye Vakiflar Bankasi T. A.O.
Long-Term Foreign and Local Currency IDRs affirmed at 'BBB-'; Outlook Negative
Short-Term Foreign and Local Currency IDRs affirmed at 'F3'
Viability Ratings affirmed at 'bbb-'
Support Ratings affirmed at '2'
Support Rating Floors affirmed at 'BBB-'
Long-term senior unsecured ratings affirmed at 'BBB-'
Short-term senior unsecured ratings (Ziraat and Vakifbank) affirmed at 'F3'
Subordinated debt rating (Vakifbank): affirmed at 'BB+'
National Long-Term Ratings affirmed at 'AAA(tur)'; Outlook Stable
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