Fitch: Turkish Banks' Negative Outlooks Reflect Multiple Risks

The multiple risks to Turkish banks that led to widespread rating downgrades in July continue to threaten their credit profiles, Fitch Ratings says in a new report. Depreciation of the Turkish lira, higher interest rates and slowing economic growth pose significant risks to banks' performance, asset quality, capitalisation, funding and liquidity. We expect sector performance to deteriorate in 2018 and most of the banks' ratings are still on Negative Outlook or Rating Watch Negative.

Asset quality is at risk from exchange- and interest-rate pressures (particularly at banks with large or concentrated foreign-currency loan portfolios), high Stage 2 (watch list) loans (which have generally increased under IFRS 9), high restructured loans, single-name risks and exposure to risky sectors, for example, construction, energy and project finance.

Capital ratios are sensitive to lira depreciation, which inflates foreign-currency risk-weighted assets. We estimate that 10% lira depreciation against a basket comprising 70% US dollars and 30% euros would have reduced the sector's end-May capital adequacy ratio by 40bp to 15.6%. Higher interest rates, which reduce bond portfolio values, and weaker asset quality also pose risks to capital ratios.

Foreign-currency wholesale funding accounts for a high proportion of the sector's total funding (28% at end-May 2018) and most of this is short-term. Turkish banks' funding is therefore significantly exposed to investor sentiment and Turkish country risks. Funding costs have risen and demand for some instruments has fallen, although market access has generally remained reasonable. Most banks have sufficient foreign-currency liquid assets to cover foreign-currency wholesale funding liabilities due within a year, but prolonged market closure could put pressure on liquidity.