At the height of the global liquidity crisis, leveraged investors everywhere (meaning investors who borrow money to make money) suffered, as banks, eager to get their hands on whatever cash they could, withdrew financing. Between the crisis of confidence and the lack of cash, all manner of investment markets seized up—the commercial paper market, the municipal, corporate and convertible bond markets, the asset backed securities market, and so on. Investors facing margin calls were forced to sell their most liquid assets. And since few things are more liquid than commodities, every commodity, with the exception of gold, fell into a tizzy, as global demand for commodities collapsed. Oil went from the 130s to the 40s in a matter of weeks. But then western governments re-liquefied the banks, and after much de-leveraging, something like normalcy returned to many investment markets.
It was a catastrophe for resource exporters like Russia. One of the highest flyers of Eastern Europe and a major exporter of oil and gas and metals, the Russian economy suffered a heart-stopping deceleration, contracting 9.8% in the first half of 2009. At least for now, the Russian government seems to have beat back fears of a repeat of the ’98 ruble crisis. Except, as one would expect, once-profitable businesses there are failing in droves, and a new crisis in loan defaults is slowly enveloping the Russian banking system .
Now the wave is washing back over Western Europe. Western Banks are sitting on a mountain of problem Russian loans. Here’s how the Financial Times recently described the situation:
[Foreign banks] cannot afford writedowns on tens of billions of dollars in debts. They also fear that Russia’s bankruptcy courts would secure them returns of only cents on the dollar. As restructuring talks on more than $437bn in Russian foreign corporate debts drag on into the summer, the banks are sticking it out. “The huge European banks are holding loans that by any standards are in default. They need deals that are palatable to their constituencies,” says one of the seven senior western bankers interviewed for this article, who all spoke on condition of anonymity because of the sensitivity of the situation.
The article then goes on to quote an anonymous oligarch’s reworking of Keynes’ famous phrase: “If I can’t pay BNP [of France] $4bn, is it my problem or is it theirs?”
France’s two largest banks, BNP Paribas and Societé Générale, don’t break out their loan exposures in Russia, so it’s extremely difficult to know what impact the increase in non-performing loans will have on their businesses. The question is whether it could be significant enough to undermine their capital positions. Estimates of the size of the problem in Russia vary widely. At the low end, the official government line is that non-performing loans (NPLs), which began the year at 3% of total loans will grow to 12% by year-end. Marta Sánchez, banking analyst at Ahorro Corporación, who covers BNP and SocGen, also covers Intesa San Paulo, which is more forthcoming about its Russian exposure. She’s currently modeling a 20% NPL rate for the Italian bank, and says that’s a good proxy for the kind of losses the French banks could be facing in Russia. However, she told The Faster Times that she remains comfortable with BNP’s emerging markets position. As regards potential losses on their emerging markets business, “I don’t reckon BNP should need any further capital,” she said.
Unfortunately, the same can’t necessarily be said of Societé Générale. Among the major French banks, the group has the largest exposure to Central and Eastern Europe. What’s more, it bought Russian commercial bank Rosbank just before the onset of the financial crisis, for a price that raised a few eyebrows. According to Alain Dupuis, banking analyst at Oddo & Cie in Paris, SocGen has 16 billion Euros of exposure to Russia through its retail banking operations alone. He points out that if current European Bank for Reconstruction and Development estimates are correct, Russian NPL rates could meet the already steep levels of the Ukraine, where non-performing loans may reach 45%. That would make for a significant loss from a single source of business. But that, in and of itself, would not be large enough to shake the bank. “One of the things we learned in the financial crisis is that the French banks are diversified enough to withstand a hit in their individual businesses,” he told the Faster Times. The problem, as Mr. Dupuis sees it, is that a skyrocketing NPL rate in Russia wouldn’t be an isolated event, but would be accompanied by similar weakness across Eastern Europe. And combine that with weaknesses in its other businesses—SocGen has the largest portfolio of toxic credit derivatives of the major French banks, and has already pre-announced a 1.3 billion euro loss on it in the second quarter—and the picture starts to look more gloomy. “If you consider the risk profile of the group globally,” he adds, “it’s our view that their current level of tier one capital is not enough.”
We won’t know until the end of 2009 or 2010 the extent of the losses in Eastern Europe, but unless the situation improves, French banks could be in for a cold Russian winter.
