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| With the sanctions issued in response to Moscow's invasion of Ukraine, country risks in Russia have become a concern for Japanese banks. Image Credit: Reuters |
As the ruble drops in value and the country's financial instability increases, Japan's major banks may be forced to set aside billions of dollars in loss provisions for their exposure to Russia.
Since the 2014 invasion of Crimea, each of the three banking groups has avoided additional lending to Russia, which accounts for less than 1% of outstanding loans. However, prior to the invasion of Ukraine, they had a combined exposure to the country of moreover $8 billion.
However much of this is in the form of loans to enterprises with strong cash flow, the business climate has deteriorated as a result of Russia's deteriorating credit rating and the lack of confidence in the ruble as a result of the sweeping sanctions placed on Moscow.
"We're at a crossroads in terms of assessing the credit risks of companies with perfect internal credit ratings," a megabank executive stated.
At the end of January, MUFG Bank reported 270 billion yen in exposure ($2.2 billion at current rates), Sumitomo Mitsui Banking Corp. had $3.1 billion, and Mizuho Bank had $2.9 billion.
Country risk, rather than specific corporate borrowers, is likely to have the greatest impact on profitability.
Due to Russia's limited access to foreign currency, banks may be forced to set aside a certain form of country-specific loan loss reserve that is necessary for markets with substantial financial or economic risks. The exact amount is determined by a variety of criteria, including ratings organizations' evaluations of the country's sovereign debt. Banks in Japan have previously set aside such funds in response to unrest in Myanmar and Iran.
Russian national debt has been downgraded by rating agencies around the world, with S&P Global and Moody's Investors Services both announcing last week that they will no longer rate Russian companies.
The internal assessments of Japan's megabanks are being reviewed. Credit expenses, including loan loss reserves, could be in the hundreds of millions or even billions of dollars for each institution.
The biggest unknown is whether or not a sovereign default will occur. Moscow has threatened to make debt payments in rubles even if the bond rules don't allow it, which rating agencies would interpret as a default. If this is the case, megabanks will need to increase their loss reserves.
Banks may also experience problems outside of Russia. If the war in Ukraine has an impact on the European economy, greater loss provisions may be required in the event that loans there default.
There is also concern that assets held by Japanese banks at Russia's central bank may be taken as a result of the sanctions. Banks would be unable to meet corporate clients' cash needs if they did not have access to this money.
A megabank CEO stated, "It would be impossible to continue in the banking business."
Individual company credit risks, which are the core of the megabanks' Russia activities, are thought to be modest.
According to a megabank executive, "we've continued to get payments from significant Russian corporations without delay" on term loans and other debt denominated in foreign currency. Loans to Russian subsidiaries of Japanese corporations are also deemed low-risk because the parent companies guarantee them.
Despite their Russian exposure, none of the three megabanks are revising their earnings predictions for the fiscal year that ends this month. In the first three quarters, MUFG Bank's net profit exceeded its full-year objective of 1.05 trillion yen, while SMBC and Mizuho both topped 90 percent of their fiscal 2021 goals.
"We started with conservative forecasts, and the situation hasn't deteriorated to the point where we need to downgrade," remarked a megabank executive.
Individual companies, on the other hand, may incur greater credit fees starting in the next fiscal year if they begin to default.
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