• Asset growth in CEE continues to be stronger than in euro area
• Clear upturn of banking business in CE continues
• Refocusing of country strategies instead of large M&A activities
• Risk discipline pays off; CEE NPL ratio at around 9 per cent
• Double-digit RoE possible in CEE banking

“1989, the year of the European reunion, was a key year for the European continent and marked the beginning of an era of enormous political, social and economic development – especially in Central and Eastern Europe (CEE). This era came to a temporary end in 2008 when the first signs of the most serious financial crisis of recent history started to spill over from West to East. Today, the markets have stabilized and the economic outlooks are encouraging, although both the recent tensions in Ukraine and the numerous new banking regulations, especially within the euro area, give reasons for concern and uncertainty. I believe that 2014 will be a decisive year for the European banking sector that will test the diversification strategies of the banks active in the CEE region. At the same time, I am convinced that most CEE-countries are stronger and more stable today than about six years ago,” said Karl Sevelda, CEO of Raiffeisen Bank International AG (RBI).

His assessment is backed by the key findings of the latest edition of the annual CEE Banking Sector Report – a joint publication by the analysts of RBI and Raiffeisen Centrobank AG (RCB). The report was presented on the occasion of the annual meeting of the European Bank for Reconstruction and Development (EBRD) in Warsaw on 15 May.

Asset growth in CEE continues to be stronger than in euro area

“The strong divergence in the most recent asset-to-GDP ratio trends resulted in a fall of total banking assets in the euro area by some € 2,000 billion from 2011 until year-end 2013. 

Over the same period of time, banking assets in CEE grew by about € 350 billion to a total of
€ 2,400 billion. Although the entire CEE banking market still accounts only for a fraction of the size of the euro area banking sector, the level of total banking assets in CEE in relation to the euro area continued to rise significantly. As of year-end 2013, CEE banking assets amounted to 9.7 per cent of banking assets inside the euro area, which is an increase of 0.8 percentage points yoy. Therefore, the catch-up process of the CEE banking sector, measured as relative increase in relation to the euro area’s assets, was the second largest in history following 1.3 percentage points in 2012,” explained Gunter Deuber, Head of CEE Bond and Currency Research at RBI and leading author of the CEE Banking Sector Report.

Clear upturn of banking business in CE continues

In 2013, the CE sub-region continued its path of economic growth. Over the next three years, GDP growth forecasts for the region average 2.5 to 3 per cent, which is an outperformance of the euro area of 1 to 1.5 percentage points. Given the solid performance, it is no surprise that financial markets are pricing most CE countries fairly close to the so-called “core” euro area countries. In addition to the main growth drivers Poland, the Czech Republic and Slovakia, which together make up for about 80 per cent of the regional GDP in CE, Hungary is showing increasingly better growth prospects.

Refocusing of country strategies instead of large M&A activities

According to Jovan Sikimic, analyst of RCB and one of the co-authors of the Banking Sector Report, the ranking of foreign-owned CEE banks remained largely unchanged in 2013. “In the past twelve months, there were no large M&A transactions in the CEE region. Aside from deal closings in Kazakhstan by UniCredit and by Erste in Ukraine, the agreement signed between Rabobank and BNP Paribas for the sale of the former's subsidiary in Poland was one of the highlights in this regard. Due to this deal, BNP Paribas now ranks among the Top 15 foreign banks in the region with total assets of € 16 billion,” said Sikimic.

UniCredit, RBI, Erste, SocGen and KBC continue to form the group of the five largest Western European CEE banks. UniCredit remained clearly ahead with consolidated total assets of € 120.1 billion, followed by RBI (€ 80.9billion), Erste (€ 79.3 billion) and SocGen (€ 76.0 billion) and KBC with € 53.9 billion.

In 2013, the aggregate number of branches in the region decreased by 4 per cent yoy, which equals the decrease in 2012. The only bank that expanded its branch network was Russian OTP with more than 50 new openings in its home market. As of year-end 2013, SocGen had the largest branch network of Western European banks in CEE (3,019) followed by RBI (3,012) and UniCredit (2,542). The current tensions in Ukraine already led to the (temporary) closure of branches in Ukraine and Crimea.

Banks with above-average exposure to the sharpest key rates cuts, such as UniCredit (in Poland and the Czech Republic), Erste (in the Czech Republic), Santander and Commerzbank (in Poland) saw a decline of their revenues in relation to assets. The same is true for banks which pulled out from high-interest rate countries like Commerzbank in Ukraine. Only RBI and OTP managed to achieve revenue/asset ratios comparable to those in 2010 which is, according to the analysts of RCB, the result of a strong CIS/Russia focus, while OTP has additionally highly benefitted from its extraordinary position on its Hungarian home market.

“The approach of UniCredit, SocGen, RBI and OTP towards the Russian market has not yet changed – they all maintain their mid-term growth plans for the market. Romania, and to some extend also Hungary, seem to have managed a turnaround, although banks are still concerned about the high degree of political and regulatory uncertainty on the Hungarian market. In Ukraine, we expect banks to feel the pressure from significant FX depreciation,” summarized Sikimic.

2013 brings stabilization of NPL ratios at last

In terms of the aggregated non-performing loan (NPL) ratio in CEE, 2013 was definitely the long-awaited year of stabilization. After years of increases of several percentage points, the overall NPL ratio did not move significantly in 2013 and stabilized on average at around 9 per cent. While the average NPL ratio in CE increased only marginally by 0.2 percentage points to 9.1 per cent, the CIS sub-region showed a drop of 0.5 percentage points to 6.6 per cent. Poland, the Czech Republic and Russia are amongst the main drivers for this positive development and are also the three markets were sell-off transactions of bad loans, whether government orchestrated or market-driven, have started in order to increase asset quality. At the same time, upward pressure continued in SEE, where the regional NPL ratio rose by 2.5 percentage points. Coordinated efforts to support NPL resolution will play an important role in supporting the sub-region's economic and banking sector recovery.

“We expect a certain downward NPL ratio trend in CE during 2014, following the stabilization of 2013. Although we do not see a trend turnaround for SEE, we at least assume a slowdown of the rise in regional NPLs. Given the recent adverse developments in the CIS region, pressure on the asset quality side cannot be ruled out for 2014. In the case of Russia, the NPL ratio may increase again to some 5 to 6 per cent, while it may inch above 40 per cent in Ukraine. Still, we expect the asset quality deterioration in both Russia and Ukraine to be less dramatic than in 2008/09, as loan growth rates have remained within a range of low single-digit or very low double-digit expansion,” elaborated Deuber.

CEE profitability: RoE decline due to stricter capital requirements and more conservative leverage strategies

In 2013, profit development in the CEE banking sectors was characterized by two major trends. On the one hand, there were signs of broad-based improvement, while on the other, stark regional and intra-regional differences in terms of profitability remained. On average, overall banking profitability in CEE deteriorated slightly. The overall Return on Assets (RoA) in CEE decreased from 1.5 per cent (2012) to 1.2 per cent (2013), and the Return on Equity (RoE) slid from 13.3 per cent to 11.5 per cent. On a positive note, Slovenia was the only loss-making banking sector in the region in 2013, as Hungary (up 8 percentage points yoy to 4.5 per cent) and Romania (up 7.2 percentage points yoy to 1.3 per cent) shifted back to marginally positive RoEs after a few loss-making years.

According to Deuber, the decline in RoE was due to a strengthening of the banks' capital bases and the intended result following action by major CEE banks and their regional subsidiaries, which was also partially driven by regulation aimed at solidifying capital positions. The implementation of new stringent capital requirements by the EU and/or local regulators and more conservative leverage strategies by the banks were therefore reflected in lower RoEs.

L/D ratios: deposit collections sufficient to fund economic recovery

Since its peak levels in 2008, the aggregate loan-to-deposit (L/D) ratio in CEE has fallen by 17 percentage points to around 98 per cent in 2013 and continues to stay well below the euro area’s aggregated figure. The latter also continued its downward path, although it has only fallen by 7 to 9 percentage points over the same period of time. This development reflects a broader trend in global banking derived from the increasing appeal of deposit-based funding. According to Deuber, deposits collections in CEE are currently sufficient to fund the economic recovery. However, banks in CEE will face greater pressure to invest their collected deposit base in interest-earning and/or fee-earning assets over the next two years.