April 2015 Banking Sector Dynamics Issue 2 In this issue At a glance 1 Capital adequacy 2 Key banking sector indicators 3 Total assets 4 Total deposits and liabilities 6 Recent developments 8 Key events 9 Abbreviations 10 References 10 At a glance The Cypriot banking system has entered a new era, following a series of reforms that have been adopted since the Eurogroup decisions of March 2013, which imposed the resolution of Cyprus Popular Bank (CPB) and the bailing-in of depositors at the Bank of Cyprus (BOC). The successful recapitalisation of both BOC and Hellenic Bank (HB) by private investors and of the Coops (Cooperative Central Bank (CCB) and Cooperative Credit Institutions) by the government, went a long way towards restoring confidence in the sector but Cypriot banks still have some way to go in fully regaining their credibility with investors in order to help drive economic recovery. The deposit outflows after March 2013 resulted in a 28% decrease in total bank deposits by March 2014. Encouragingly, the deposit outflows have since stabilised despite a gradual easing of capital controls. Following the recent lifting of all capital controls, there were no reports of unusual activity regarding outflows, suggesting a return to business as usual for the Cypriot banking system. Overall, the key developments in the sector have been (1) deleveraging (2) an increase in the amount of non-performing loans (NPLs) (3) a decrease in borrowers repayment ability Dealing with NPLs and distressed and insolvent borrowers remains the sector s largest challenge. Arrears management units have been created to deal with the largest NPLs and all banks have recently reported small but significant progress in NPL restructuring. The imminent adoption of the foreclosures legislation and the expected reforms in the insolvency framework (expected in late April 2015) are expected to give banks enhanced tools in their efforts to restructure and recover NPLs. Structure and supervision The Cypriot banking sector comprises of domestic banks, Coops and international banks with subsidiaries or branches based in Cyprus. As of June 2014, the assets of domestic banks, including those of the Coops, were 50.3b, or 66% of the total banking assets, while the international banks hold 26.4b or 34% of the total banking assets. Since September 2013, the Central Bank of Cyprus (CBC) is the sole regulatory body, overseeing all the banks in Cyprus, including Coops. As of November 2014, BOC, CCB, HB and the Russian Commercial Bank (RCB), are directly supervised by the European Central Bank (ECB).
Lifting of capital control measures All restrictions on transactions were abolished in April 2015. The lifting of capital control measures should increase liquidity, economic activity, competitiveness and creditworthiness of the Cypriot banking system. Capital adequacy As of YE2014 (year end 2014), BOC, the Coops, HB and Alpha Bank Cyprus (ABCY) were all well capitalised, as their Common Equity Tier 1 (CET1) ratios stood at 14%, 13.5%, 13.4% and 15.1% respectively. Following the completion of a 1b share capital increase of BOC in September 2014, HB completed a share capital increase of 204m in January 2015. The issue improved the capital adequacy of the bank, lifting its CET1 ratio to 13.4% from 8% in 3Q2014. CET1 ratios % CBC minimum required, exluding any Pillar 2 add-ons Source: CBC, BOC, HB, ABCY Funding needs of the banks operating in Cyprus The funding needs (total loans minus total deposits) of Cypriot banks increased considerably since 2012 from 200m to 18.2b in February 2015. This remarkable rise can be mainly attributed to the bail-in programme of 2013, which substantially reduced the total deposits. Total loans total deposits b Source: CBC 2 Banking Sector Dynamics April 2015
Selected indicators Source: CBC, ECB Emergency Liquidity Assistance (ELA) CPB started making significant use of ELA before it entered resolution, reaching 9b from 3.8b in a period of ten months (May 2012-March 2013). ELA has also become a major source of funding for BOC ( 11.4b in April 2013), mainly as a result of the acquisition of CPB. Since BOC s exit from the resolution process and its gaining access to direct funding from the ECB, the ELA exposure has been declining, reaching 7.2b in February 2015 (a YoY decrease of 2.4b or 24.6%). According to the restructuring plan of BOC, approved by the CBC in November 2013, ELA is expected to decrease to 3b by 2017. Key banking sector indicators As of YE2014, BOC reported after tax losses of 261m, mainly due to the provisions for impairments of customer loans ( 666m) as well as the losses resulted mainly from discontinued operations relating to Ukraine and Russia ( 303m). HB also recorded losses of 118m in 2014, mainly due to impairment losses and provisions to cover credit risk ( 304m). At the same time, ABCY showed an after tax loss of 83.1m, while the Coops and Eurobank Cyprus reported after tax profits of 41.2m and 38.6m respectively. The losses for BOC, HB and ABCY were down compared to those of the previous year. Bank Financials m Banking Sector Dynamics April 2015 3
The deleveraging continues The outlook of the Cypriot economy is highly linked to that of its banking sector and vice versa. The Cypriot banking sector is still more than 4 times bigger than the country s GDP. Although the ratio of total bank assets to GDP narrowed to 428% in 2013 (compared with 633% in 2012), it remains higher than the EU-28 and Euro area averages, which stood at 292% and 271% respectively. The decrease in the total assets of the banking sector from 2012 to 2013 by 45.3b (or 205% of GDP) partly came about from the sale of the Greek branches of BOC and CPB, and partly from the resolution of CPB that took place in April 2013. 1 In the first nine months of 2014, the total assets to GDP ratio increased to 424%, however, this was solely a result of the significant fall in the GDP level, as the total assets decreased slightly. Under the MoU signed with the Troika in March 2013, the size of the Cypriot domestic banking sector (as a ratio to GDP), excluding branches and subsidiaries of foreign banks in Cyprus, will reach the EU average of around 3 times of the country s GDP in 2018. Total assets 2 b % of GDP Source: CBC, Eurostat Asset growth b 2 Source: CBC Total assets BOC, Coops and HB have more than 50% of the total assets of the Cypriot banking system. The total assets of the banking sector on 30 September 2014 stood at 75b. BOC s share was 36.9% or 27.5b. Out of BOC s total assets, 72% (or 19.8b) were net loans and advances granted to customers. Coops held 19% (or 13.9b) of the total assets of the banking system and 74.5% (or 10.4b) of these were customer loans and advances. For the same period, HB held 9% (or 6.9b) of the total assets of the banking system, with 47.5% of those being net loans and advances. 1 The GDP for the first nine months of the year calculated as the sum of the quarterly GDP multiplied by 4/3. 2 Aggregate data for all local and foreign banks operating in Cyprus, including the Coops. 4 Banking Sector Dynamics April 2015
Assets in the banking system (As at 30/09/2014) Source: CBC, BOC, HB Loans to GDP ratio At YE2014, the total loans of the Cypriot banking system were on average 61.1b, compared to 67b in 2013 and 70.8b in 2012. For the year ended 2014, the total loans to GDP stood at 349%, compared to 370% at the end of 2013. During February 2015, the deleveraging trend was reversed, with the outstanding amount of loans rising to 64.6b compared to 61.6b in the year end 2014, an increase of 5%. Total loans and loans to GDP ratio b % of GDP Source: CBC, BOC, HB Household and business loans At YE2014, household loans were 24.8b (YE2013: 25.3b) and business loans were 26b (YE2013: 29b). The business loans to GDP ratio recorded a considerable decline from 2013, falling from 167.3% to 158.7% for 2014. In the same period the household loans to GDP ratio recorded a slight increase from 140.8% to 141.1%. Banking Sector Dynamics April 2015 5
Loans to households and businesses % of GDP Source: CBC, Eurostat Total deposits and liabilities At the end of 3Q2014, BOC accounted for 35.3% ( 23.7b) of the total liabilities of the sector, with its total deposits accounting for 19.9% ( 13.3b) of the sector s total liabilities. At the same time, the Coops and HB accounted for 18.8% ( 12.6b) and 9.7% ( 6.5b) of the total sector s liabilities respectively. The main component of their liabilities were customer deposits 18.2% ( 12.2b) and 9.1% ( 6.1b) respectively. Total liabilities (As at 30/09/2014) % Source: BOC, HB, CCB, CBC In 2013, the total amount of deposits in the Cypriot banking system was on average 54.2b, whilst in 2014, the total deposits declined to 46.3b (14.6% YoY decrease). On a monthly basis, the total amount of deposits in February 2015 increased by 38.3m reaching 46.5bn. The monthly decrease is attributed to the decrease in deposits by domestic residents ( 145.7m). Deposits by both other euro area and by no-eu residents registered a monthly increase of 68.5m and 39m respectively. As at YE2014, HB recorded a Net Loan-to-Deposit ratio (LTD) of 50.8% with zero funding from the ECB. For the same period, the LTD ratio of BOC and stood at 141% and for the Coops stood at 81.7%. 6 Banking Sector Dynamics April 2015
Net Loan-to-Deposit ratio (LTD) % * *Full year Source: BOC, HB, CBC Deposit and lending rates The deposit interest rates in February 2015 were 2.3% and 2.26% for households and businesses respectively. This represents a drop of 222 basis points (bps) for the household deposits and 201 bps for business deposits from two years before. The lending rates for consumer credit fell by 172 bps from February 2013 to reach 5.19% in February 2015, and the lending rates for businesses for amounts up to 1.0m fell by 128 bps over the same period, reaching 5.75%. This keeps the deposit-lending rate spreads at relatively high levels the Cypriot business lending rates remain the highest in the Euro area without adjusting for country specific credit risk. Non-performing loans 3 After the introduction by the CBC of the new NPL definition in June 2013, the NPLs reached 30.6% ( 21b) of the total credit facilities granted by banks, and further increased to 49.7% ( 28.2b) in November 2014. Out of those, NPLs related to credit facilities granted to corporations were 15.7b (or 55.7% of the total), while 12.5b (or 44.3% of the total) were granted to private individuals. A large proportion of the NPLs can be attributed to the property development and construction sectors. As at November 2014, NPLs related to facilities provided to the construction sector represented 18.7% of the total loans given to corporations, or 5.7b (20.1% of the total NPLs). Furthermore, NPLs related to facilities extended for the purchase or construction of property represented 27% of the total loans granted to private individuals, or 6.5b (23.1% of the total NPLs). NPLs in the Cypriot banking system b Source: CBC 3A loan is considered as non-performing when it shows arrears of more than 90 days or if has been restructured and at the time of restructuring presented arrears for a period of more than 60 days, regardless of tangible or other collateral. Banking Sector Dynamics April 2015 7
Corporate NPLs by sector Households NPLs 30% 36% 1% 4% 8% 35% 3% 15% 16% 52% Source: CBC NPLs by bank A breakdown of the NPLs per bank as of the end of September 2014 shows that BOC accounts for 53% of the total NPLs of the Cypriot banking system ( 14.7b), up by 0.7b compared to YE2013. The total NPLs of HB increased by 0.5b compared to YE2013, reaching 2.5b in September 2014, while in the same period, those of the Coops xincreased by 1.2b reaching 7.2b. At YE2014, following the adoption of the new EBA definition of the NPLs, the so-called NPEs, the NPEs of BOC were 15b or 63% of the gross loans of the BOC group, down by 85m QoQ (Quarter on Quarter). The loan quality of HB s portfolio slightly deteriorated, with the NPLs rising by 21m QoQ in the year end 2014. The same trend recorded for the Coops loan quality portfolio, with their NPLs growing by 106.9m QoQ to 7.3b (55.9% of their gross loans) (Both the Coops and HB did not report data for their NPEs at YE2014). NPLs in the Cypriot banking system (As at 30/09/2014) The most pressing challenge going forward is to reduce the excessively high of non-performing loans in the banking sector, which will be key in restoring bank intermediation functions and thereby supporting investment growth (EC, 2015) Source: BOC, HB, CBC Recent developments *Bank financial strength, **Not Prime, ***Baseline credit assessment. Source: Moody s, Fitch 8 Banking Sector Dynamics April 2015
Foreclosures legislation insolvency framework The implementation of the new foreclosures law and the modernisation of the insolvency framework, both for individuals and companies, are expected to help the process of restructuring and normalisation of the very high levels of NPLs in the banking sector. The enforcement of the foreclosures law will provide, inter alia, incentives for both debtors and creditors to agree on debt restructuring, reducing strategic defaults. The legal framework, according to the MoU (September 2014), will establish a swift foreclosure procedure (with a 12 month time limit), which will allow for auctions to be conducted by mortgage creditors without governmental intervention. The law allows for an initial auction with a reserve price at 80% of the market value of the mortgaged property, with a subsequent lowering of the reserve price at 50% after three months of the initial auction and a new valuation after 12 months of unsuccessful auctions or sales after the initial auction, maintaining a reserve price of 50% of this new valuation. The passing of the foreclosures law by the Cyprus House of Representatives has been considerably delayed, causing delays in the Troika assessment of the MoU progress and in payments that were scheduled as part of the financial assistance to Cyprus. At the Eurogroup meeting held on 9 March 2015, the Cypriot authorities were asked to implement the foreclosures legal framework the soonest. On 2 April 2015, the House of Representatives announced that it would vote on the implementation of the foreclosures law and the five bills pertaining to the insolvency framework on 17 April 2015. While authorities took decisive action to address the banking sector crisis, important challenges remain. The banking sector is now smaller and better capitalised (IMF, 2014) Developments at the Central Bank of Cyprus In March 2015, one of the two executive directors of the CBC and one non-executive director announced their resignation from the Board of Directors, making serious allegations about the CBC Governor s handling of key issues, such as the resolution of CBC and the legal action against the ex-chairman of CBC. The President asked the Attorney General to investigate an alleged conflict of interest related to the participation of the Governor in the resolution authority. Key events, Banking Sector Dynamics April 2015 9
Abbreviations References ABCY Alpha Bank Cyprus BCA Baseline Credit Assessment BFSR Bank Financial Strength Rating BOC Bank of Cyprus CBC Central Bank of Cyprus CCB Cooperative Central Bank CET1 Common Equity Tier 1 Coops CCB and Cooperative Credit Institutions Annual Report 2012-2013, Association of Cyprus Banks, 2013. Banking System Outlook, Moody s Investor Service, 2014. Country Report Cyprus 2015, EC, 2015 Cyprus Banking System Profile, Moody s Investor Service, 2014. Economic Bulletin December 2014, Central Bank of Cyprus, 2014. European Banking Sector, Facts and Figures 2013, European Banking Federation, 2014. The Economic Adjustment Programme for Cyprus Fifth Review Summer 2014, European Commission, 2014. CPB Cyprus Popular Bank CySEC Cyprus Securities and Exchange Commission EBA European Banking Authority ECB European Central Bank EIB European Investment Bank ELA Emergency Liquidity Assistance ESM European Stability Mechanism GDP Growth Domestic Product HB Hellenic Bank LTD Loan-to-Deposit Ratio Mid-caps Medium-capitalisation enterprises MoF Ministry of Finance MoU Memorandum of Understanding on Specific Economic Policy Conditionality NPEs Non-performing exposures NP Not Prime NPL Non-performing loan QoQ Quarter on Quarter RCB Russian Commercial Bank RD Restricted Default SMEs Small and Medium Size Enterprises SSM Single Supervisory Mechanism TROIKA EC, ECB, IMF YE- Year end YoY Year on Year 10 Banking Sector Dynamics April 2015
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