FEBRUARY 7, 2013

BANKING

SECTOR COMMENT

Turkish Banks: Introduction of Supplemental Leverage Ratio Is Credit Positive

Summary Opinion
1

Table of Contents:
SUMMARY OPINION INTRODUCTION OF THE NEW LEVERAGE RATIO IS IN LINE WITH BASEL III INITIATIVES WHOLESALE FUNDING ON THE RISE FOLLOWING STRONG LOAN GROWTH

2 3

On 25 December, the Central Bank of the Republic of Turkey (CBRT) announced that it will introduce a leverage ratio as a supplemental regulatory metric for banks. The measure is credit positive for the Turkish banking system, as it will help ensure that banks remain well capitalised and limit their use of debt financing to fund loan growth. The use of a leverage ratio to supplement risk-weighted capital measures is an element of the global Basel III regulatory framework. In Q3 2012, the banking system implemented the Basel II capital framework with its variety of risk weights for different asset classes and which the Turkish banks have all adopted, thereby using the standardised approach1. However, the ongoing, prolonged period of global market and economic turmoil has shown that regulatory credit-risk weights do not always capture the full risk content of banks assets. Therefore, the use of a single, risk-weighted measure of capital adequacy may be insufficient to assess macro financial risks. The new leverage ratio tries to address or pre-empt this problem. According to our estimates, the banks we rate in Turkey comfortably comply with the new regulatory leverage ratio at present. The CBRTs introduction of the leverage ratio, follows a series of supplemental prudential measures that the Turkish regulators have recently used, including (1) a higher risk weighting for unsecured consumer credits with maturities longer than one year; (2) indebtedness caps on credit-card holders; and (3) higher reserve requirements for short-term funds, amongst others. These regulatory measures aimed to pro-actively limit undue risktaking and ensure the soundness of the banking system during its ongoing period of evolution and growth.

Analyst Contacts:
FRANKFURT +49.69.7073.0700

Arif Bekiroglu +49.69.7073.0773 Assistant Vice President - Analyst arif.bekiroglu@moodys.com Carola Schuler +49.69.7073.0766 Managing Director - Banking carola.schuler@moodys.com

The Basel II regime was rolled out in Turkey in Q3 2012. There is no date set to transition to Basel III, but we understand that systems draft Basel III regulations are planned to be issued in the first half of 2013.

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Introduction of the new leverage ratio is in line with Basel III initiatives
The proposed leverage ratio in Turkey will be calculated by dividing banks core capital by the sum of their assets and off-balance sheet items, with certain weights. Banks with a leverage ratio below 3.5% will be subject to additional reserve requirements of up to 2%. The threshold will increase to 4% by year-end 2014 and 5% by year-end 2015, and will be implemented from Q4 2013 onwards. Currently, the leverage ratios of the Turkish banks we rate are well above the thresholds and we view the system leverage as low; according to the CBRTs study, the majority of the banks leverage exceeds 7% (see Exhibit 1).
EXHIBIT 1

Distribution of the Leverage Ratio of Systems banks (per CBRTs definition)

18 16 14 12 10 8 6 4 2 0 L<3 3 L<5 5 L<7 7 L<9 9 L < 11 11 L < 13 13 > L

Source: CBRT

The introduction of a leverage ratio is additionally supported by a sensitivity study the CBRT carried out on the Turkish banking system. The CBRTs base scenario assumed a 10% growth in shareholders equity and 15% in on- and off-balance sheet assets, while the CBRTs higher-risk scenario assumed 10% and 25% growth respectively, which results in leverage ratios of 6.5x and 4.8x, respectively for the system in 2015. The higher-risk scenario would result in an average system leverage ratio, for 2015 below the 5x minimum requirement and would trigger steps by the CBRT to counter excessive leverage by applying higher reserve requirements. Based on a simple leverage measure (total assets / Tier 1 capital) used below, which compares across systems, the Turkish banking systems leverage ratio today is currently favorable relative to those of its emerging-market peers (see Exhibit 2). Looking ahead, we expect Turkeys banking system to continue to experience high growth and lower margins. In order to maintain their resilience as the system continues to evolve, of the systems the banks will have to carefully manage and balance their growth strategies and risk discipline with the dual requirements of complying with a Basel II capitalisation ratio and a leverage ratio for the banking system.

FEBRUARY 7, 2013

SECTOR COMMENT: TURKISH BANKS: INTRODUCTION OF SUPPLEMENTAL LEVERAGE RATIO IS CREDIT POSITIVE

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EXHIBIT 2

Simple Leverage (Tier 1 /total average assets) for rated banks, by system
2008 YE 14% 12% 10% 8% 6% 4% 2% 0% BRAZIL CHINA CZECH REPUBLIC HUNGARY MALAYSIA POLAND RUSSIA TURKEY 2009 YE 2010 YE 2011 YE 2012 H1

Source: Moodys Investors Service

Furthermore, based on the simple leverage ratio and an approximation of the CBRTs parameters, the banks we rate in Turkey comply comfortably with the leverage threshold introduced by Turkish regulators (see Exhibit 3).
Exhibit 3

Consolidated Leverage Ratios for Moodys Rated Turkish Banks (as of Q3 2013)
Moody's Estimated Leverage 25% 20% 15% 10% 5% 0% Simple Leverage

Source: Moodys Investors Service. Note: per consolidated Q3 2012 BRSA financials - Moodys Estimated Leverage = Tier 1 / (total assets + certain off-balance sheet items 2); Simple Leverage = Tier 1 / Total Assets; * non-deposit taking bank; ** formerly named Eurobank Tekfen

Wholesale funding on the rise following strong loan growth

Turkeys GDP has grown by approximately 22% between year-end 2009 and year-end 2012 and we project an additional 3.8% for 2013 and 4% for 2014, which continues to support further expansion of banking intermediation.

Certain Off-Balance Sheet Items = Total Guarantees and warranties + Irrevocable Commitments + 10% Revocable Commitments

FEBRUARY 7, 2013

SECTOR COMMENT: TURKISH BANKS: INTRODUCTION OF SUPPLEMENTAL LEVERAGE RATIO IS CREDIT POSITIVE

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During that period, the credit growth of the system largely outpaced that of deposits, because of Turkeys lagging savings ratio 3. Deposits are primarily very short-term in the system. The banks therefore resorted to funding credit demand, primarily in domestic currency retail loans, through (1) a higher reliance on wholesale funds which increased to 31% of balance sheet from 25%, and (2) a lower share of liquid assets holdings at 27% of the banks balance sheets from 42%. As a result, the systems loan to deposit ratio increased to 106%, from 81% in 2009. Furthermore, amidst high loan-book growth - which doubled in size (see Exhibit 4 below) - capitalisation metrics for the Turkish banking system have remained sound at a Basel Tier 1 of 14.5 % and a capital adequacy ratio of 16.5%. Nonetheless, they show a declining trend, underpinned by asset growth outpacing the systems internal capital generation, due to the low interest-rate environment (compared with historical levels) and narrower interest margins.
EXHIBIT 4

Turkish Banking System Loan Growth (2005-Q3 2012)

Total SME Loans Housing Loans (right axis) Personal and Other (right axis) Total Retail loans Credit Cards (right axis) Total Corporate Loans Vehicle Loans (right axis)

400.0 350.0 300.0

100.0 80.0 60.0 40.0 20.0 2007 2008 2009 2010 2011 Q3 2012

Billion TL

250.0 200.0 150.0 100.0 50.0 -

Source: BRSA

Overall, we view systems reliance on wholesale funds as moderate, and believe that the recent regulatory measures will contain the increase in the level of debt financing.

14.9% in 2011 per CBRT

FEBRUARY 7, 2013

SECTOR COMMENT: TURKISH BANKS: INTRODUCTION OF SUPPLEMENTAL LEVERAGE RATIO IS CREDIT POSITIVE

Billion TL

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Report Number: 148951

Author Arif Bekiroglu

Production Associate Kerstin Thoma

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FEBRUARY 7, 2013

SECTOR COMMENT: TURKISH BANKS: INTRODUCTION OF SUPPLEMENTAL LEVERAGE RATIO IS CREDIT POSITIVE