Re-emerged market: We have assigned recommendations to 12 Turkish banks’ bonds, ranging from Ziraat to Alternatifbank. We first commented on the banking sector a year ago today. We are generally constructive on the sector, with a mix of Buys and Holds on the bonds covered. Valuations do not appear particularly stretched – indicative mid z-spreads for most US$-denominated bonds are still at least 100bps off historic tights. Key risks to our view include escalation of tensions between the US and Turkey, significant TRY weakness and asset quality shocks. We note that most Turkish banks have already managed significant challenges quite successfully.
ROEs – half up, half down: ROEs fell qoq at half of the banks we track. However, more than 50% of the group still generated double-digit ROEs, with the ROE at one lender – Kuveyt Turk – exceeding 20%. All banks were profitable in Q2, except Sekerbank.
Operating revenue impacted by high swap costs: At most banks, operating revenues were lower than in the previous quarter. Almost all lenders reported improved net interest income, and net fee and commission income remained strong. However, high swap costs weighed on revenues at many lenders, leading to weaker operating revenues.
Some positive developments on costs: Only five of the banks we track reported qoq rises in operating expenses. At some banks, costs were significantly lower than in the previous quarter. However, more than half of the banks disclosed higher cost/income ratios, based on our calculations. These ratios ranged from under 16% at TSKB to over 100% at Sekerbank, which was the only lender to report an operating loss.
NPLs rose at most banks: At ten banks the Q2 19 provision charge was lower than in Q1 19. The Q2 cost of risk was generally better than the FY 19 guidance previously disclosed by bank management, except at Isbank. Although non-performing loans rose qoq at most banks, NPL ratios at all banks remain below 10%, and most lenders have kept coverage ratios above 100%. Concerns about the outlook for asset quality may linger, however, despite the modest improvement in the outlook for economic growth.
Foreign currency liquidity metrics improved: Liquidity coverage ratios were better than at end-18 at many banks, suggesting that liquidity conditions have improved. Loans/deposit ratios improved qoq at a number of banks. In some cases, this was driven by strong deposit growth, partly due to the introduction of CPI-indexed deposit products. In other cases, loan books continued to contract, leading to the improvement in LDRs. Recently-introduced loan growth-linked reserve requirements may mean LDRs are less likely to improve significantly in the near term, as loan book contraction at several major banks is expected to be reversed.
Capital ratios mostly higher qoq: State-backed/parent-sponsored capital injections and strong internal capital generation meant that most lenders reported higher capital ratios than at the end of March. This was clearly a positive development. We believe the probability of support for banks in which the state is a shareholder remains high. In addition, some foreign owners such as QNB and Commercial Bank Qatar have shown their willingness to support their Turkish subsidiaries. Questions about UniCredit’s commitment to Yapi Kredi remain. As discussed in a recent note, Yapi Kredi’s performance has improved in some ways, relative to UniCredit’s.