CEE Households Wealth and Debt Monitor

Transcription

1 NOVEMBER 2007 CEE Households Wealth and Debt Monitor Estonia Latvia Lithuania Russia Poland Czech Republic Slovakia Hungary Slovenia Croatia Romania Bulgaria In cooperation with Turkey ANALYSIS BY THE UNICREDIT GROUP NEW EUROPE RESEARCH NETWORK

2 For authors see last page Imprint Published by UniCredit Group/Bank Austria Creditanstalt Aktiengesellschaft Edited by CEE Research Department Bernhard Sinhuber, Tel. +43 (0) Produced by BA-CA Identity & Communications Department, Editorial Desk Printed by Gutenberg Layout: Horvath Grafik-Design Disclaimer This document (the Document ) has been prepared by UniCredit Group. The Document is for information purposes only and is not intended as (i) an offer, or solicitation of an offer, to sell or to buy any financial instrument and/or (ii) a professional advice in relation to any investment decision. The Document is being distributed by electronic and ordinary mail to professional investors and may not be redistributed, reproduced, disclosed or published in whole or in part. Information, opinions, estimates and forecasts contained herein have been obtained from or are based upon sources believed by the UniCredit Group to be reliable but no representation or warranty, express or implied, is made and no responsibility, liability and/or indemnification obligation shall be borne by the UniCredit Group vis-à-vis any recipient of the present Document and/or any third party as to the accuracy, completeness and/or correctness of any information contained in the Document. The UniCredit Group is involved in several businesses and transactions that may relate directly or indirectly to the content of the Document. Accordingly, the UniCredit Group may hold a position or act as market maker in any financial instrument mentioned in the Document. Information, which is not reflected in the Document, may therefore be available to persons connected with the UniCredit Group. The Document has been approved for distribution in UK by the London branch of UniCredit Banca Mobiliare S.p.A., regulated by the FSA for the conduct of investment business in the UK. It has not been approved for distribution to or for the use of private customers, as defined by the rules of the FSA. The Document may not be distributed in USA, Canada, Japan or Australia. 2 CEE Households Wealth and Debt Monitor, November 2007

3 Contents Global Trends in the Dynamic of Households Wealth and Debt...4 CEE Household Financial Behaviour: Current Trends and Outlook Portfolio Investments and Indebtedness of CEE Households: Current Trends and Outlook Special Focus: The Baltic States...18 Bulgaria...21 Croatia...24 Czech Republic...27 Hungary...30 Poland...33 Romania...36 Russia...39 Slovakia...42 Slovenia...45 Turkey...48 UniCredit Group CEE banking network...51 CEE Households Wealth and Debt Monitor, November

4 Global Trends in the Dynamic of Households Wealth and Debt Global Trends in the Dynamic of Households Wealth and Debt Households are increasingly taking direct financial responsibility for their present and future well-being in response to the relative decline of public retirement provisions and other features of the welfare system. Thus, the growth of net household wealth and the quality of asset diversification play a key role in the social and economic equilibrium in both developed countries and developing countries. Consequently, the role of financial intermediaries and asset managers is also extremely important. The recent credit crunch has raised fears that household debt might be overstretched in some countries and that the future growth of household wealth may be unsustainable. While financial markets are typically subject to cyclical swings and excesses, we believe there is a good basis for continued sustainable growth in the medium term. Household financial wealth reached approximately EUR 70.6 tn in 2006 in developed markets 1, which, overall, represents 88 % of global household wealth. Almost half of this wealth is located in the North American markets, 16 % in Japan and Australia and 35 % in Western Europe. Over the last 12 years, household financial assets in developed markets have increased, although not uniformly, by around 6 % CAGR. Generally, the period is considered the high growth period (with the exclusion of Japan), when strong equity markets sustained the dynamic performance of assets and made households more confident about risky investments. Note: (1) PGAM estimation based on OECD and Central Banks statistics. Developed markets include North America (US and Canada), Western Europe (Austria, Belgium, Denmark, Finland, France, Germany, Greece, Italy, Netherlands, Norway, Portugal, Spain, Sweden, Switzerland and UK), Japan and Australia. In , the so-called bounce back phase following the crisis, even stronger growth occurred. Stimulated by a 15 % annual growth rate for the MSCI world index, total house- Household Financial Assets in Developed Markets E 2006 EUR 70.6 tn Household Assets Growth 34.3 North America North Western Japan & Developed MSCI (CAGR) America Europe Australia Countries World Western Europe Japan & Australia The growth phase 8.9 % 8.9 % 2.5 % 7.3 % 13 % The bubble bursts 5.6 % 2.1 % 1.6 % 3.8 % 20 % The bounce back 9.6 % 7.4 % 3.9 % 7.7 % 15 % E The trend ahead 6.7 % 6.5 % 3.7 % 6.5 % 8 % Source: Pioneer Investments PGAM Economic Research 4 CEE Households Wealth and Debt Monitor, November 2007

5 hold financial assets showed a 7.7 % CAGR, compared to 7.3 % in North America strongly contributed to this result, posting a 9.6 % CAGR, thanks to the higher level of household equity investment (either directly or indirectly through mutual funds, 401K plans and other pension and insurance instruments). Thanks to strong new inflows, Western Europe also saw vigorous growth (7.4 %), which can be broken down into a 4 % increase due to the growth of household financial assets and a 3.4 % increase due to market performance. However, Japan was the bigger surprise, showing 3.3 % growth in , as households finally started showing signs of a change in their behaviour and started moving money out of deposits (from 55 % of Household Financial Assets (HFA) to 47 %) and into mutual funds and managed instruments. Despite the much lower capitalisation level, financial wealth creation has also increased in the CEE region 2 since the beginning of the decade, largely outpacing the level of growth observed in other regions of the world, increasing by an average of 15 % a year over the last 6 years. Looking ahead, we expect the accumulation of financial wealth to cool down, with North America and Western Europe showing 6.7 % and 6.5 % CAGRs in , respectively. Thus, we expect similar growth levels for the U.S. and Western Europe, but for different reasons. Under normal circumstances, the higher exposure to equities should allow the U.S. markets to benefit from Note: (2) Unless otherwise stated, CEE aggregate includes Bulgaria, Croatia, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania, Russia, Slovakia, Slovenia and Turkey the equity risk premium. Moreover, the new U.S. Pension Protection Act should help new households enter the savings market. In Western Europe, on the other hand, investment portfolios are more conservative while savings rates are higher and expected to remain high. Western Europe should also benefit from the increasing participation of households in financial markets, thanks to the growth of defined contribution savings schemes. We expect Japan and Australia to grow at a 3.7 % CAGR, with Japanese households continuing to make their investment portfolios more sophisticated. Despite a more volatile external environment, good economic prospects and quickly developing financial markets in the CEE region are expected to hold the accumulation of financial wealth at a sustained level. The growth of household wealth will accelerate compared to the recent past, increasing by an average of 21 % a year in Concerning asset allocation, we expect the share of managed assets to continue rising, thanks to the growth of defined contribution pension schemes, life insurance policies (especially in the unit-linked area), hedge funds and private equity funds. Thus, the growth rate for this segment will continue to be impressive. In E, the total managed assets in developed markets should see a 8 % CAGR, thanks to a 4 6 % market performance, new financial savings at % on AUM and a 1 2 % switch effect from unmanaged to managed assets. Managed Assets 1 in Developed and Emerging Markets E CEE 2006 EUR tn Managed Assets Growth (CAGR) 2 Japan & Australia Europe North America North Western Japan & CEE 3 MSCI America Europe Australia World The growth phase 11.2 % 13.2 % 4.1 % na 13 % The bubble bursts 5.2 % 2.1 % 0.5 % 60.8 % 20 % The bounce back 12 % 9 % 5.8 % 35.6 % 15 % E The trend ahead 8.2 % 8.2 % 8.7 % 23.2 % 8 % Note: (1) Mutual funds, life insurance and pension funds; (2) Growth rates are measured in local currency terms (weighted by the relevant of each country on total wealth at the beginning of the observing period); (3) Excluding Estonia and Latvia Source: Pioneer Investments PGAM Economic Research and UniCredit Group New Europe Research Network CEE Households Wealth and Debt Monitor, November

6 Global Trends in the Dynamic of Households Wealth and Debt World Managed Assets: Mutual Funds, Life Insurance plans and Pension Funds E CAGR % CAGR % CAGR 3.6% CAGR Life & pension MF directly held by households Managed Assets Growth (CAGR) Mutual Funds directly held by Life & households pension The growth phase 16.5 % 8.8 % The bubble bursts 6.1 % 2.8 % The bounce back 12.6 % 8.9 % E The trend ahead 7.7 % 8.4 % Note: (1) North America, Western Europe, Japan and Australia / Source: Pioneer Investments PGAM Economic Research Western Europe is expected to outpace the U.S. due to stronger growth in the institutional segment and the lower expected equity market performances, which have a stronger impact on the U.S. market because it is more equity-oriented. CEE countries will again show above average growth rates (about 23 %). Around 74 % of household managed assets are invested in life insurance and pension fund reserves. The rest (26 %) is invested in mutual funds directly held by households. In the past, institutional investors (i.e. life insurance and pension funds) strongly contributed to managed asset growth and this trend will continue in During the last 12 years, the structure of household financial assets in developed markets did not witness the substantial changes observed in CEE markets, but some clear trends can be identified. First of all, there was a general reduction in the role of currency and deposits (from 30 % to 22 %), as well as that of securities other than shares (from 10 % to 7 %). Shares and other equity, after increasing strongly in (reaching 28 % of total household assets), were at 22 % in 2006, equalling the level seen in The indirect participation in financial markets through mutual funds, life insurance plans and retirement products has increased significantly from 34 % to 45 %. For E, we expect these phenomenon to become even more clearly defined. World-Wide Financial Wealth Allocation E 08E 09E Other accounts receivable Mutual fund shares Securities other than shares Insurance and Pension funds Shares and other equity Currency and deposits Note: (1) North America, Western Europe, Japan and Australia Source: Pioneer Investments PGAM Economic Research Still, important differences between countries persist in the composition of financial wealth. Despite the common trend of decreasing the level of investment in low-risk assets in favour of managed and long-term assets, there are important structural differences among the countries under analysis: Low-risk instruments (i.e. currency and deposits) still make up around 65 per cent of total household financial wealth in CEE markets. North America and Australia are characterised by a significant level of direct investments in shares and other equity products. West European households seem to show a high level of diversification on average, even though most of the long-term investments in Western Europe are in the UK and the Netherlands. In Japan, households are strongly oriented towards liquid assets, although this is rapidly changing. 6 CEE Households Wealth and Debt Monitor, November 2007

7 Composition of Wealth by Region (% of total) North America 30% 8% 35% 10% 14% Japan & Australia Western Europe E E 5% 25% 11% 8% 49% 32% 14% 31% 7% 1 4% 29% 5% 7% 8% 47% E E Other accounts receivable Mutual fund shares Securities other than shares 3 15% 31% 7% 12% 4% 34% 6% 8% 8% 40% 26% 14% 12% Note: (1) Financial wealth in CEE countries excludes unquoted shares, other equity and other accounts receivable Source: Pioneer Investments PGAM Economic Research and UniCredit Group New Europe Research Network 5% 7% 37% 8% 4% 5% 79% CEE Insurance and pension funds Shares and other equity Currency and deposits 4% 34% 9% 17% 7% 29% 17% 9% 5% 65% 4% 36% 9% 18% 6% 27% 17% 11% 5% 2% 64% Generally, the sustained vitality of financial wealth creation in the last decade has been accompanied by the even faster accumulation of debt in the household sector, although considerable differences have emerged across regions. While household debt has remained relatively stable in Japan, it has been consistently rising in the U.S. over the last 12 years. Starting at the end of the 1990s, the acceleration of debt accumulation was also seen in Western Europe and especially in the CEE region, stimulated by declining interest rates and improving household financial conditions. Greater leverage among household portfolios due to the increased use of mortgages and, more generally, the securitisation of real wealth have probably also helped to sustain financial wealth flows and holdings. We expect this source of growth in household financial wealth and consumption to come to a stop, at least briefly, as a consequence of the sub-prime crisis. In this respect, it may be helpful to consider things over a longer period of time. Household financial liabilities relative to GDP have indeed reached an unprecedented level in countries like the U.S. and the UK. In the case of the U.S., the resulting real estate bubble can clearly be seen when one considers the long-term evolution of the respective shares of household liabilities to GDP, providing evidence that the recent years might have seen some excesses. Household Debt in Developed Markets E Household Debt in Italy, the U.S. and the UK (% of GDP) EUR tn % 60% 30% 0% Japan & Australia North America Europe CEE RX US UK Italy Source: Pioneer Investment PGAM Economic Research Source: Pioneer Investments PGAM Economic Research CEE Households Wealth and Debt Monitor, November

8 CEE Household Financial Behaviour: Current Trends and Outlook for CEE Household Financial Behaviour: Current Trends and Outlook Strong economic growth and quickly developing financial markets are driving the accumulation of financial wealth High levels of consumption and high demand for new houses and renovation continue to spur the growth of the level of household debt at a higher level than that of financial assets, resulting in the stabilisation of net financial wealth relative to GDP Households are however continuing to save, increasingly shifting towards the real estate market At the end of 2006 CEE 1 household financial wealth reached almost EUR 600 bn (up by 15 % yoy), posting double-digit growth for the third year in a row. Although CEE wealth and euro area wealth are converging at a very fast clip, a significant gap still remains. In 2006, household financial wealth over GDP equalled 56 % in CEE, versus 205 % in the euro area (in CEE, the same ratio was 54 % in 2005 and 43 % in 2000). Significant cross-country differences linger on. The largest increases relative to GDP were, indeed, observed in Croatia, Poland and Slovenia (up by 11 p.p., 8 p.p. and 7 p.p., respectively, in just one year). In absolute terms, growth also remained solid in quickly converging SEE countries like Bulgaria and Romania, the Baltic states and Russia (with yearly increases ranging from 25 % to 32 % in 2006). The main driving forces behind the strong performance of household financial wealth include accelerating macroeconomic indicators, quickly developing financial markets and dynamic growth in pension fund schemes. Average regional economic growth of 6.5 % and increasing wages and declining unemployment rates all over the region are causing significant improvements in household financial conditions, stimulating new savings flows. Soaring prices in domestic financial markets have also provided a strong boost to financial wealth creation in the region. Market capitalisation grew rapidly in most CEE countries, driven by strong corporate profits, IPO activity and ongoing foreign investment. A significant contribution to the observed 1) In this chapter, CEE aggregate refers to Bulgaria, Croatia, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania, Slovakia, Slovenia and Turkey; Russia is excluded. increase in financial wealth also came from new savings accumulated in mandatory and supplementary pension schemes, which accounted for roughly 20 % of the increase in total wealth observed between 2005 and Good economic conditions continued to spur increases in the level of household debt, which climbed by 35 % yoy at the end of last year. Household debt still appears to be relatively low compared to GDP, reaching 18 % in 2006 compared to 55 % observed in the euro area, although these levels are converging at a fast pace. The credit boom was connected to the household sector s desire to acquire durable goods and housing and to the improved access to the credit market. Quickly developing real estate markets also contributed to an increase in the household sector s willingness to borrow. As a result of the robust expansion in household liabilities, accumulation of net wealth as a share of GDP started to decline in 2006, reaching the level of 38 % (down by 1 p.p. compared to 2005) after a consistent upward trend in the previous two years. This is mainly a reflection of the increasing preference among households for real estate investments rather than lower savings rates. If we focus on the development of the corrected measure of wealth creation compared to GDP one way to account for the flows of household savings going towards the real estate market a clear upward trend is observed (the ratio reached 45 % at the end of last year, up from 35 % in 2000). Important regional differences linger when the developments are considered over time. Chart 1 compares the growth rate of net financial savings as a percentage of GDP to that of corrected net wealth over the last four years in different countries. 8 CEE Households Wealth and Debt Monitor, November 2007

9 When looking at the chart, three distinct groups emerge clearly. The first group, called the stubborn savers, is represented by Bulgaria, Poland, Slovenia and Croatia. In the first three countries, and more recently in Croatia, both ratios have been on a steady upward path, a sign that investments in real estate and consumption have not yet crowded out financial wealth accumulation. An opposite trend is observed in the group of countries called the stubborn consumers, representing Romania, Slovakia, Russia and Turkey. In all these countries, individuals are quickly adjusting their standard of living by leveraging on expectations of a future increase in income. These expectations are supported by good macroeconomic prospects and soaring market prices. In the case of Russia and Turkey, the strong polarisation of incomes suggests that one should be very cautious about any conclusions made about the average behaviour of households in these countries. Finally, Hungary, the Czech Republic and the Baltic countries can be described as real estate purchasers, as a declining trend in the accumulation of net financial wealth over GDP is accompanied by an upward trend in the corrected measures of wealth, a sign that high demand for housing is leading to a transfer from financial savings towards real estate. 2 Outlook As anticipated, 2007 has been another record year in terms of economic growth. In H1, GDP growth increased by almost 7.0 % driven by high levels of consumption and booming construction and investment activity and we now forecast an overall growth rate of 6.5 % for all of The recent turbulence triggered by the credit and liquidity crisis in the U.S. sub-prime market has only had a moderate impact on CEE economies so far. However, the re-absorption of the excess liquidity in international financial markets has brought a temporary correction in most of the regional stock markets, with increasing risk aversion and discrimination in many countries. Widening credit spreads are likely to remain in the medium to long term enhancing risks. However, with the underlying prospects for world growth remaining positive (despite an anticipated slowdown in U.S. growth), we expect the very sound macroeconomic fundamentals in CEE to continue to be a strong stabilising factor. Under this assumption, the conditions of strong growth and moderate (albeit rising) risk are anticipated to hold for the region in the years to come. 2) In the case of Lithuania and Romania, any conclusions on the average behaviour of households should be viewed cautiously given the level of financial wealth invested in unquoted shares and other equity (around 50 % and 35 % of total wealth, respectively), which were excluded from the analysis in order to maintain homogeneity with the other countries. In this context, we still expect financial wealth in the CEE region to reach EUR 718 bn this year, increasing by around 20 % yoy (compared to 15 % yoy in 2006). We anticipate some level of slowdown in the following years, with growth rates still in the Chart 1: Household Behaviour in CEE ( ) Chart 2: Household Behaviour in CEE ( )1 Accumulation of net financial wealth and real wealth Change in corrected net wealth (% GDP, ) 15% 10% 5% 0% 5% 10% 15% Estonia Hungary Lithuania Latvia Czech. R. Romania Slovakia Russia Turkey Poland Bulgaria Slovenia Croatia 25% 30% 10% 0% 10% Accumulation of net financial wealth Change in net financial wealth (% GDP, ) Real-Estate purchasers Stubborn consumers 30% Stubborn savers Accumulation of net financial wealth and real wealth Change in corrected net wealth (% GDP, vs ) 15% 10% 5% 0% 5% 10% 15% LV TK EE SK RU RO CZ LT HU 25% 15% 10% 5% 0% 5% 10% 15% Accumulation of net financial wealth Change in net financial wealth (% GDP, vs ) BG SI HR PL Note: (1) Estonia , while Lithuania and Slovenia Source: UniCredit Group New Europe Research Network Note: (1) The starting point for all countries indicates the correspondent percentage change of both ratios between 2006 and (2) Estonia , while Lithuania and Slovenia / Source: UniCredit Group New Europe Research Network CEE Households Wealth and Debt Monitor, November

10 CEE Household Financial Behaviour: Current Trends and Outlook for double-digits, averaging 14 % a year in In most CEE countries, the growth of financial wealth will continue to greatly exceed that of the real economy, with the exception of Latvia and Estonia. In these countries, the anticipated soft landing of the economy, based upon tighter macro policies, and a stabilisation of the growth of market prices will probably affect the household sector s saving capacity. This will result in only marginal increases in the ratio of financial wealth over GDP (by 0.3 p.p. and 1.8 p.p., respectively) in Overall, CEE financial wealth over GDP is expected to top out at 64 % by the end of 2009 (totalling some EUR 935 bn). Increases in the accumulation of financial wealth and real wealth are expected to go hand in hand with increased financial liabilities. In the first half of the year, household debt 3 continued to grow very quickly, increasing by around 42 % yoy, driven by strong economic conditions and a high level of vitality in private consumption. This set the stage for another year of vigorous growth in household financial liabilities, expected to increase by over 30 % yoy to reach EUR 257 bn. Our forecasts point to ongoing strong increases in the level of household debt in the years 3) Figures only refer to the growth of loans granted by banks to the household sector (excluding financial leasing and loans granted by other financial intermediaries) to come, stimulated by the demand for durables and the far from saturated housing market. At the same time, however, the lack of liquidity in the international markets and the increased cost of borrowing for banks have increased the risk of a credit squeeze on the regional level. This might become an issue, particularly in countries with high external imbalances (like the Baltic countries and South Eastern European countries) or in countries where banks are increasingly financing credit growth with external borrowing (again in the Baltic countries, South Eastern European countries and Russia). Overall, CEE household financial liabilities are anticipated to slow down their pace of growth to an average of around 22 % a year in the next two years, reaching 26 % of GDP in 2009, up from 18 % in Based on the predicted scenario, accumulation of net financial wealth as a share of GDP is expected to stabilise around 38 % in the next two years, while corrected net wealth will continue its stable upward trend, still suggesting a preference for investments in real assets over financial assets, despite decreasing affordability. If one takes a closer look at cross-country developments, some important differences emerge compared to the pattern observed in the recent past. Chart 2 presents the expected evolution in Structural indicators of the household sector 4 Bulgaria Croatia Czech R. Estonia Hungary Latvia Lithuania Fin. Wealth (EUR bn) Fin.Liabilities (EUR bn) Financial Wealth % GDP 45% 60% 56% 86% 105% 57% 65% 69% 39% 51% 52% 49% 64% 66% 41% 51% 5 21% 36% 45% Financial Liabilities % GDP 2% 30% 15% 39% 49% 6% 19% 27% 18% 42% 56% 6% 25% 30% 8% 40% 55% 35% Net Financial Wealth % GDP 18% 26% 30% 40% 47% 56% 51% 46% 42% 21% 9% 4% 4 38% 36% 3 12% 2% 18% 16% 10% Fin.Liab. % of total Wealth 11% 4 50% 27% 46% 46% 11% 29% 39% 45% 82% 108% 12% 40% 46% 18% 78% % 77% Corrected Net Wealth % GDP 18% 3 44% 46% 6 79% 54% 58% 59% 32% 42% 39% 45% 50% 49% 37% 40% 42% 18% 29% 32% Per capita Financial Wealth 340 1,486 2,795 2,554 6,574 10,075 3,483 7,421 9,862 2,520 5,056 7,558 2,454 5,933 7,731 1,645 3,580 5, ,528 4,585 Per capita Financial liabilities , ,999 4, ,145 3,810 1,146 4,122 8, ,369 3, ,775 5, ,384 3,532 Per capita Net Fin. Wealth ,406 1,854 3,575 5,407 3,098 5,275 6,053 1, ,171 3,564 4,197 1, ,144 1,053 4) Note: Sector S.14 according to ESA 95 classification. Data for the Czech Republic also include S.15 (NPISHs). For homogeneity reasons, total financial wealth excludes assets invested in unquoted shares and other equity, except for Estonia and Latvia where no split is available. Other accounts receivables are also excluded. CEE aggregate refers to BG, HR, CZ, EE, HU, LV, LT, PL, RO, SK, SI and TK (excluding Russia). Figures for the CEE aggregate in 2000 exclude EE, LV and SI. Source: UniCredit Group New Europe Research Network, Pioneer Investments PGAM Economic Research, ECB 10 CEE Households Wealth and Debt Monitor, November 2007

11 the accumulation of net financial and corrected wealth relative to GDP as compared to the one observed in the period. The chart clearly shows that the deterioration in the net financial position of households, accompanied by a decrease in corrected net wealth, is anticipated in Estonia and, to a lesser extent, in Hungary. In the case of Estonia, this trend can be partially explained by a decrease in household savings capacity in connection with a slowdown in income growth and the stabilisation of market prices. At the same time, it can also be partially explained by the decrease in demand for new houses compared to the past as already demonstrated by the declining number of housing transactions in the first half of the year in connection with the rapid growth of consumer loans. In Hungary, the trends mentioned above can largely be seen as the household sector s use of consumer loans in attempt to preserve their standard of living in a period of sluggish economic performance. As shown in chart 2, some marginal improvements compared to the past years are anticipated in both Romania and Slovakia for corrected net wealth over GDP and, to a lesser extent, for net wealth over GDP (still expected to maintain its downward trend). In Romania, despite the continued propensity for real estate investments and the acquisition of durables, the favourable economic prospects and the boost in wealth creation arising from the launch of pension reform are anticipated to cause some improvements in the savings ratio, which will still remain well below the regional average. In the case of Slovakia, the expected stabilisation in the accumulation of net wealth will mainly arise from higher wage increases compared to the growth in the overall economy. A similar trend is anticipated for the Czech Republic, Lithuania and Latvia, where high levels of investment in the real estate market still provide evidence of some substitution occurring between financial and real estate savings. In Latvia, the further deterioration of the net financial position of the household sector connected to the growing risk of an abrupt downturn in the economy and some stabilisation / fall in housing prices require strict monitoring given the high leverage ratio (expected to pass 100 % as early as next year) and the increasing burden of debt. In the rest of the region, namely Bulgaria, Croatia, Poland and Slovenia, the anticipated increases in both net and corrected wealth relative to GDP suggest a strong propensity to direct household savings towards both the financial and real estate markets, despite the continuing high demand for consumer goods. We forecast similar trends for Russia and Turkey, marking a change in the pattern seen thus far. Poland Romania Slovakia Slovenia Turkey CEE Russia Euro area ,848 16, ,978 4,537 41% 62% 75% 15% 2 31% 51% 51% 56% 51% 78% 98% 15% 50% 60% 4 56% 64% % 195% 205% 9% 18% 26% 1% 12% 21% 5% 15% 21% 11% 19% 27% 1% 12% 21% 7% 18% 26% 1% 8% 16% 46% 55% 31% 44% 49% 15% 11% 10% 46% 36% 36% 41% 58% 71% 15% 38% 38% 36% 38% 38% 2 16% 16% 149% 150% 2 29% 34% 4% 52% 67% 10% 29% 37% 21% 25% 27% 4% 24% 36% 16% 32% 41% 3 51% 24% 27% 32% 52% 61% 15% % 44% 45% 41% 64% 81% 15% 42% 47% 35% 45% 50% 2 17% 178% 189% 2,053 4,509 7, ,080 2,042 2,003 4,516 6,844 5,780 11,778 18, ,134 3,448 1,577 3,336 5, ,262 3,134 42,821 54, ,301 2, , ,315 2,516 1,186 2,943 5, , ,078 2, ,584 9,787 14,423 1,574 3,208 4, ,811 3,201 4,329 4,594 8,835 13, ,613 2,223 1,327 2,258 3, ,550 33,034 39,633 CEE Households Wealth and Debt Monitor, November

12 Portfolio Investments and Indebtedness of CEE Households: Current Trends and Outlook Portfolio Investments and Indebtedness of CEE Households: Current Trends and Outlook Households portfolios are expected to become gradually more sophisticated throughout the CEE region, supported by the sustained good performance of the local capital markets in conjunction with the rapid development of the industry for long-term investment vehicles, and in spite of rising volatility Financial penetration on the assets side will continue to be matched by increasing financial deepening on the liabilities side, with strong demand for both mortgages and consumer credit, despite the growing risk of a gradual credit squeeze, especially in SEE and Baltic countries Trends in CEE households portfolio investment Following the stock market rally of 2006 and the dynamic performance of the CEE economies, 2007 is expected to be another year of strong growth for the key drivers of financial wealth creation. Amongst the main driving factors, traditional bank deposits exhibited very dynamic growth in the first part of the year, thanks to increasing penetration of banking services, rapid growth in households disposable income and improving real returns. Although they continue to lose relevance in terms of total financial wealth, we anticipate an acceleration in bank deposits at the regional level to almost 17 % yoy this year, compared to 12 % yoy observed in Soaring market prices and record high market capitalization continued to stimulate accumulation in equity and mutual fund assets, further supporting the process of gradual diversification of households portfolios. Financial markets in the CEE region have proven to be quite resilient to the recent turbulence affecting international financial markets since August. Although all of the regional equity markets were been hit by the crisis, the shock was absorbed quite quickly. Even taking into account the losses posted between mid-august and mid-september, all of the stock exchanges continue to show positive returns for the first 9 months of the year, and are still well above the returns observed at the EU level. Moreover, the good performance in the CEE stock markets is still homemade for the most part. Growth in market capitalization was particularly strong in Croatia and Slovenia, on the back of strong corporate profits driven by peaking economic growth and ongoing IPO activity, contributing to an impressive expansion of savings kept in the form of listed shares. As a result, investment in shares is expected to reach a new historical high in both countries this year, increasing by 85 % yoy and 72 % yoy in Croatia and Slovenia, respectively (compared to growth of 74 % and 53 % in 2006). At the regional level, the ratio of equities to total financial wealth is anticipated to increase by around 1 % this year. The substantial gains resulting from record market capitalization are also positively influencing the performance of mutual funds. Investments in mutual funds continued to break record after record throughout the region, after the buoyant growth posted in 2006, expanding by almost 80 % yoy 1 in H Particularly robust growth was observed in fast-developing markets such as Romania, Bulgaria, Russia and Croatia, on the back of rapidly rising returns in the stock market and the launch of several new funds in the domestic market. This is also the case in Poland, where despite rising financial market volatility, no major savings outflows were observed, confirming that households are taking a rather long-term approach to this kind of investment. All in all, this helps lay the foundation for another year of strong growth in assets accumulated in mutual funds at the regional level, with AuM expected to more than double its pace of expansion compared to 2006, increasing by 35 % yoy. Somewhat lower growth is anticipated in Turkey, where following the period of financial Note: (1) Average regional growth in total AuM calculated including Czech Republic, Croatia, Hungary, Poland, Romania, Slovakia and Turkey 12 CEE Households Wealth and Debt Monitor, November 2007

13 volatility in the summer of 2006 growth in mutual funds clearly recovered in February June of this year, although it remained below potential, due to strong household preference for less risky assets (namely bank deposits) which still guarantee relatively high returns. The increasingly stable macroeconomic environment is also having a benign effect on the rapidly developing industry of long-term vehicles. The insurance industry is benefiting in particular from economic growth, as demand for insurance in CEE countries has been rising faster than incomes. Investment in pension fund schemes is also enjoying rising popularity at the regional level, thanks to the introduction of tax incentives as well. Similarly to previous years, savings accumulated in pension funds will be at the forefront of asset expansion in 2007 once again, with particularly strong growth expected in Slovakia, Bulgaria, Croatia and Poland. Growth in the pension market continues apace in the Baltic States as well, following the launch of the pension reforms which started in While Estonia leads Note: (2) In Latvia and Estonia, pension reform started even earlier with the third pillar being operative since July and August 1998, respectively. In Latvia, the second pillar pension system came into force in July 2001, while in Estonia it was launched in May In Lithuania, pension reform started in 2002 with the approval of legislation on a three-pillar scheme. The second pillar was launched in 2003 and the third pillar in October Returns on CEE stock market indexes DJ STOXX 50 Russia Micex Lithuania OMX Slovakia SAX 16 Slovenia SBI Latvia OMX Estonia OMX Turkey ISE 100 Budapest BUX Prague SE Romania BET Bulgaria SOFIX Croatia CROBEX Warsaw General Index % 1.7% Source: Datastream, Bloomberg % 3.9% 15.5% 9.8% 3.7% 0.5% 14.0% 5.1% 37.8% 28.9% 38.2% 67.5% 14.4% 19.5% % 31.8% 44.9% 51.1% % 62.2% 19.8% 41.6% 0% 40% 60% 80% % Return Q1 Q % 100% the way, the three-pillar system has also been very successful in Lithuania, with many people joining the second pillar despite its voluntary nature (reaching around 52 % coverage of the working population at the end of last year). Participation rates in the state-funded second-tier pension scheme are even higher in Latvia, due to the earlier start of the reform, reaching 80 % of economically active residents at the end of H (of which 42 % are on a voluntary basis). In the first half of the year, net assets of investment plans of the state-funded pension scheme in Latvia rose by 77 %, totaling LVL mn. Outlook The tendency for deepening in the level of portfolio diversification away from cash and deposits and towards more sophisticated forms of savings and a greater share of savings flows inter - mediated through institutional investors will continue in the upcoming period. The decline in the amount of savings kept in the form of cash is expected to be further stimulated by deepening in the penetration of banking services and gradual widening in the usage of electronic means of payment. As a result, the ratio of cash holdings will drop further to reach approximately 10 % of total wealth from 11 % anticipated this year. The attractiveness of traditional savings instruments, such as bank deposits, is also expected to gradually decline in the years to come, although they are still expected to maintain their dominant position in the structure of household investment portfolios. Some acceleration in the growth rate of bank deposits compared to past years is, indeed, anticipated in the Czech Republic, Poland, Slovakia and Slovenia, due to rising interest rates and good economic performance. In the Czech Republic, growth will be also supported by a continuation in the recovery of savings with building societies following the changes in the system which occurred in Romania, Russia, Turkey and Latvia represent a certain exception compared to the rest of the region. In these countries, households will show sustained strong preference for more liquid assets and hold a larger share of their financial assets in deposits than previously, as a result of improving real returns, deepening of banking penetration (especially in the countryside) and rising uncertainty. Further development in domestic capital markets will support greater inclination towards riskier and more profitable forms of investment. Overall, at the regional level we anticipate domestic factors to continue supporting brisk growth in the local financial CEE Households Wealth and Debt Monitor, November

14 Portfolio Investments and Indebtedness of CEE Households: Current Trends and Outlook markets, despite rising volatility. In the segment of quoted shares and mutual funds, particularly dynamic increases are forecasted in Slovenia and Croatia and, to a lesser extent, in Bulgaria. In these countries, upcoming new stock market IPOs, within the framework of these governments plan to gradually reduce their holdings in the corporate sector, are expected to enable substantial gains in equity investments, and should also have a positive influence on the performance of mutual funds. Risks of a possible correction in prices are, however, skewed on the upside in Bulgaria especially for those companies which have seen very rapid increases in their share prices in recent months. Some slower growth in equity investments is also anticipated in the Central European countries (namely the Czech Republic, Poland and, to certain extent, Hungary) and the Baltic States, where the current trends in global financial markets combined with some downward adjustments in market prices may negatively affect household sentiment, resulting in a lower share of equity investment in total financial wealth. Rising risk aversion may also have an adverse impact on trends in listed shares and mutual funds in Romania. Overall, the weight of shares and mutual fund investments in total financial wealth at the regional level is expected to increase only marginally by 2009, rising to 20 % from 19 % anticipated at the end of this year. Investments in insurance products, and especially pension funds, will continue to be the main driver in financial wealth accumulation, and are expected to account for around 1 /4 of new savings flows generated in regional wealth in the period. Similarly to past years, accumulation in pension fund assets will continue to largely exceed accumulation in insurance products, increasing by around 24 % annually (compared to a forecast of 18 % annual growth in insurance products). The strongest growth is anticipated in Latvia and Lithuania (with a CAGR of 56 % and 52 %, respectively) and Slovakia (with a CAGR of 47 %). Growth is also expected to remain strong in Bulgaria, where further restructuring of the pension system via cuts in the contribution rates for the state-funded first pillar and increases in contribution rates for the second pillar will support rapid accumulation in pension schemes with average annual growth rates close to 40 % in period. The pension fund industry represents a particularly promising market in Romania, where starting from 2008, a fully-funded mandatory pension system will begin operating in addition to the recently reformed voluntary pension scheme (in place since May 2007). Overall, assets managed by pension funds (both 2nd and 3rd pillar) are expected to increase by 54 % in 2009 from around EUR 0.3 bn in In the Czech Republic, although the pension reform is not an explicit part of the economic reforms which are currently in the final stage of the legislative process, it is quite likely that the government will come up with some proposals regarding changes in the public pension system starting from next year. This might contribute to a further boost in accumulation in pension schemes, which are still expected to expand at double-digit rates (CAGR 18 %) in the years to come, thanks to the increasing popularity of voluntary schemes stimulated by the use of tax incentives. Trends in CEE household indebtedness Growth in household debt continues to exceed growth in household income throughout the region. In the first half of 2007, household indebtedness expanded at very rapid pace, increasing by around 42 % yoy, 3 on the back of robust demand for durables and booming housing markets. This paves the way for another year of strong growth in households financial liabilities, which are expected to climb by over 30 % yoy to reach EUR 257 bn. Measured in terms of GDP, the level of household indebtedness still appears to be relatively low, and is expected to reach 21 % in 2007, from around 18 % at the end of last year, which is still well below the euro-area average. Growth continues at a particularly strong pace especially in fastdeveloping countries such as Romania, Bulgaria, Russia and the Baltics, with rates of increase ranging between 40 % and 70 % yoy in H In those countries, households are rapidly adapting their consumption habits to new and improved standards of living. At the same time, they are increasingly inclined toward real estate investment financed through mortgages. Similar trends are also being recorded in Poland and the Czech Republic, where household liabilities grew by almost 38 % and 32 % in the first half of the year, respectively, stimulated by strong demand for mortgages and even faster increases in personal loans. In the case of Poland, acceleration in growth was also fostered by strong competition among banks, which resulted in some lowering of rates applied, especially in the segment of consumer loans and easing of screening procedures. In the rest of the region, growth rates remain well above the double-digit range and the euro-area average, ranging from 18 % (in Hungary) to 28 % (in Slovakia). Note: (3) Figures refer only to loans granted by banks (excluding financial leasing). 14 CEE Households Wealth and Debt Monitor, November 2007

15 Strong demand for housing in the context of persistent supply limitations is fuelling significant increases in house prices. Although the pace of growth appears to be exceptionally high by international standards, this may not necessary reflect an out-ofequilibrium trend, but rather adjustments from a very low starting level. In addition to traditional fundamentals and some transitionspecific factors which are behind the rapid price appreciation observed at the regional level, the institutional design of the mortgage market has also had important implications for housing market development throughout the region. Following the booming expansion observed in the past years, rapid growth in mortgage credit continued in 2007 at the regional level, fuelled by both demand and supply factors. As a result, mortgages are expected to reach 9.4 % of GDP at the end of this year (from around 8 % in 2006 and 1 % at the beginning of the decade). This is still well below the level of 39 % recorded in the euro area, revealing the huge potential for further growth over the longer term. On the other hand, there is hardly any difference in the penetration of consumer / personal loans to GDP, with the ratio expected to reach almost 7 % at the end of 2007, in line with the level observed in the Eurozone during recent years. This might provide an initial indication of the potential risk of saturation in this market segment in the near future. Although the level of household indebtedness remains low compared to the more developed neighboring countries, risks have clearly risen. Current household solvency has remained good, but sensitivity to shocks (in case of rise in interest rates, decline in income or a too fast correction in real estate prices) has increased due to rapidly rising debt, a rising debt burden and very high leverage ratios 4 (expected to further increase this year to 36 % of GDP from 32 % in 2006 at the regional level, exceeding the euro-area average of 27 %). Another source of risk is represented by the sharp increase in loans denominated in FX (mainly EUR and CHF), which expose households to greater exchange rate risk. This might particularly be an issue in countries such as Hungary, Romania and Poland, where growth in FX-denominated loans continues to be especially dynamic, stimulated by the high differential in interest rate levels. Note: (4) Measured as the ratio of financial debt to financial wealth. Portfolio composition of households wealth Structure of household debt (2006, % of the total) 1 (2006, % of the total) 100% 90% 80% 70% 60% 50% 40% 30% 10% 7% 4% 2% 8% 79% 8% 9% 9% 71% 6% 10% 11% 70% 12% 40% 48% 16% 12% 11% 52% 1% 32% 10% 64% 5% 2% 12% 78% 18% 10% 14% 9% 49% 4% 1% 27% 68% 11% 7% 7% 75% 6% 12% 16% 66% 9% 10% 16% 62% 4% 8% 14% 72% 4% 26% 10% 28% 31% 100% 90% 80% 70% 60% 50% 40% 30% 10% 4 37% 10% 48% 42% 18% 21% 61% 1 10% 77% 28% 27% 45% 14% % 64% 1 46% 41% 77% 8 17% 30% 22% 48% 32% 37% 31% 55% 12% 32% 16% 1 71% 0% BG HR CZ EE HU LV LT PL RO RU SK SI TK EMU 0% BG HR CZ EE HU LV LT PL RO RU SK SI TK EMU Currency and deposits Securities and shares Mutual funds Housing loans Consumer loans Other loans 1 Insurance technical reserves Pension funds assets Note: (1) For Estonia the aggregate securities and shares includes also mutual funds (as in Latvia), while insurance technical reserves also include pension funds. Source: Pioneer Investments PGAM Economic Research, UniCredit Group New Europe Research Network Note: (1) Include other loans, overdraft, revolving credit cards and financial leasing. Source: UniCredit Group New Europe Research Network CEE Households Wealth and Debt Monitor, November