Moody's: Outlook stays negative for Ukraine's banking system

Unchanged since 2009, the banking system outlook is negative for Ukraine (Ca negative), reflecting extremely difficult operating conditions for banks, very likely asset-quality erosion, depletion of capital buffers and highly volatile funding conditions, says Moody's Investors Service.

The new report "Banking System Outlook: Ukraine", is now available on www.moodys.com. Moody's subscribers can access this report via the link provided at the end of this press release.

"Ukraine continues to face a very serious economic, financial and political crisis. The highly stressed operating environment will continue to cause deep erosion in banks' asset quality and capital buffers, and system-wide problem loans could rise to as much as 60% of gross credit exposure from 45% at the end of 1 April 2015," says Elena Redko, a Moody's Assistant Vice President - Analyst, and author of the report.

Moody's says that around one-half of the aggregate loan book is foreign-currency denominated, a significant part of which is to companies that do not generate foreign-currency revenues. "Besides the burden of loan-portfolio credit risks, Ukrainian banks also face very sizable risks related to their holdings of Ukrainian government bonds, which are equal to almost the entirety of regulatory capital at end-Q1 2015. Our scenario analysis indicates that banks would need to create additional loan-loss provisions of 15% of gross loans, on top of already existing loan loss provisions, in order to fully cover expected losses. If applied, incremental provisioning would result in a negative capital adequacy ratio for the banking system," adds Ms. Redko.

"The vulnerability of deposit-based funding means that Ukrainian banks continue to face significant liquidity risks, and, unsurprisingly, depositor confidence is yet to stabilise. After suffering withdrawals in 2014, the Ukrainian banking system lost another 5% of local-currency deposits and 13% of foreign-currency deposits in the first three months of this year. Banks will have difficulty repaying their overseas borrowings that come due in 2015 and 2016, requiring further distressed exchanges to extend maturities," explains Ms. Redko.

Moody's says that the banking system will be loss-making for several years, with many credit losses deferred given their size and the impact on capital levels if all losses were immediately recognised. On a pre-provision basis, contracting margins and the need to adjust operating expenses in line with accelerating inflation will depress profitability.