Turkish NPLs set to soar as macro woes mount

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By:
Lucy Fitzgeorge-Parker
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Autumn bank refinancing round under scrutiny; analysts warn of US sanctions tail risk.

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Non-performing loan ratios in Turkey are tipped to rise sharply as the effects of currency depreciation and rising interest rates feed through to the real economy.

According to official figures, bad debts accounted for just 3% of outstanding loans in the Turkish banking sector at the end of August, but analysts say the real number could already be much higher.

“The solvency of Turkish banks will be weaker than reported figures,” Moody’s said in a ratings note published on August 28. “Banks are reporting problem loans and performing loans with severe deterioration since origination in an inconsistent manner.”

Turkey’s lenders have been encouraged by the local banking regulator to under-report bad debts in the tourism sector for more than a year and were also asked not to rank the $4.75 billion owed by Turk Telekom shareholder Otas as problematic during the continuing restructuring process. 

Following the lira’s collapse in early August, the Banking Regulation and Supervision Agency (BDDK) also relaxed the criteria for loan restructuring and fixed exchange rates for provisioning – and capital – calculations at levels not seen since the end of June.

Asset quality is expected to deteriorate further as Turkish corporates struggle to service foreign currency debt and smaller businesses feel the effect of surging inflation. 

CPI jump

Turkey’s consumer price index had already jumped to a 14-year high of 15.8% in July, before the start of the latest crisis. By the end of August many observers were citing negative real interest rates for Turkey of up to 7%, implying inflation of close to 25%.

The Turkish central bank was slow to respond, possibly in deference to president Recep Tayyip Erdogan’s notorious aversion to high interest rates. On September 14, however, it surprised markets with a 6.25% rate hike.

Analysts said the combination of further rate hikes – to add to the 500 basis points of increases implemented between April and June – and a rapidly deteriorating economic environment would also impact banks’ asset quality by curbing loan growth. 

“Rising interest rates will hit demand, while banks will likely be more cautious in who they lend to and how much they lend,” says Tolu Alamutu, a financial institutions analyst at Exotix Capital. 


The key risk would be if, for whatever reason, the US decided to limit banks’ ability to extend loans to Turkey – but that’s an extreme scenario 
 - Tolu Alamutu, Exotix Capital

The slowdown in lending is expected to be particularly abrupt after 18 months of government support in the form of the Credit Guarantee Fund (CGF). Launched in January 2017, the CGF provided partial guarantees for TL200 billion ($30.5 billion) of loans to Turkish small and medium-sized enterprises last year, boosting outstanding bank lending by 21%. A further TL50 billion of loans were guaranteed in the first half of this year.

Turkey’s finance ministry this summer advised banks to roll over loans to corporates and SMEs. As Alamutu notes, however, that will not be enough to maintain recent levels of lending growth. “Banks may replace what comes due but that doesn’t mean they will issue new loans,” she says.

Magar Kouyoumdjian, a financial institutions analyst at S&P, says problem loans could jump to 20% of total bank lending in Turkey over the coming months. 

While asset quality deterioration will inevitably hit bank profitability and capitalization, however, analysts say it is unlikely to pose a systemic threat to the sector. 

Two of the largest banks – Halkbank and Ziraat Bank – are in state hands. Others are owned either by big Turkish conglomerates – Akbank and Yapi Kredi by Sabanci Holdings and Koc Holdings respectively – or foreign groups. Garanti Bank, one of the two largest private-sector lenders, is now wholly owned by BBVA. Finansbank is controlled by Qatar National Bank and TEB by BNP Paribas, while Denizbank is in the process of being transferred from Sberbank to Emirates NBD.

External funding

What is worrying analysts and investors, once again, is the dependence of Turkey’s lenders on external funding. According to Moody’s, the Turkish banking sector has around $77 billion of foreign currency wholesale bonds and syndicated loans to refinance over the coming year. “The risk of a prolonged closure of the wholesale market would lead most banks to materially deleverage, or to require external funding support from the government or the central bank,” notes Moody’s.

In early September the rollover rate on syndicated loans to Turkish banks was still at least 100%, but analysts said a cluster of facilities coming due in the autumn would be closely watched by market participants. 

Despite Turkey’s travails over the summer, however, the possibility of lenders cutting off funds to the country’s banks is still seen as remote. As Kouyoumdjian notes, even during the financial crisis and the Greek credit crunch, European banks continued to fund their Turkish counterparts. “The lowest rate I’ve ever seen is 70%,” he says, “and that wouldn’t present a systemic risk.”

Akin Tuzun, head of Turkish and Middle East and north Africa financials research at VTB Capital, also points out that wholesale foreign funding only accounts for 20% of the total for Turkish banks. “The vast majority of their funding comes from local deposits,” he says.

Nevertheless, analysts agree that the continued standoff between the US and Turkey over the detention of American cleric Andrew Brunson, and the possibility that this might prompt the imposition of sanctions by the Trump regime, represents a significant tail risk for Turkish banks. 

“In other emerging markets, such as Russia, we’ve seen that relationships are maintained until lenders can no longer legally do so,” says Alamutu. “The key risk would be if, for whatever reason, the US decided to limit banks’ ability to extend loans to Turkey – but that’s an extreme scenario.”