The banking sector is quite resilient and ready for the planned enhanced capital requirements despite the impact of last year’s crisis. However, a number of banks need to take measures to improve their resilience to possible future crisis episodes. This is according to the resilience assessment of banks and the banking system conducted in 2021.
This year, all banks have undergone traditional asset quality reviews (AQRs), and 30 largest banks have taken additional stress tests. As a result of the resilience assessment, the NBU has set the capital adequacy ratio above the minimum required level for a number of banks. This target level has been calculated in a way that leaves banks with enough capital to cover possible losses under stress events.
The AQRs have been conducted by independent auditors. The AQRs have confirmed that in general, banks have been correctly reporting the quality of their credit portfolio and other performance indicators. Most of the auditors’ corrections have had little effect on the capital adequacy of banks. The main reasons for the corrections have been technical inaccuracies in credit risk assessment and sometimes a misinterpretation of regulatory requirements.
Under the baseline macroeconomic scenario, the NBU has increased the required capital adequacy ratios only for 10 banks. However, the current indicators reported by six banks exceed the target figures, and only four banks need to take additional measures to meet NBU requirements. Yet under the adverse scenario, the capital adequacy ratios have been raised for 20 banks. Those include 4 banks whose capital adequacy ratios are above the set targets, and 16 banks that should take additional measures to improve their capital adequacy or decrease risks from their activities.
The number of banks with capital risks identified by the stress testing was virtually the same as in 2019. However, the estimated capital needs of these banks have declined significantly. Specifically, under the adverse scenario, these banks needed UAH 41.7 billion in capital as of 1 January 2021, down from UAH 73.8 billion two years ago. Under the baseline scenario, their capital needs fell to UAH 5.3 billion, just one-seventh of the UAH 35.3 billion seen in 2019.
Most banks owe their improved performance this year to their higher capitalization, sustained acceptable loan portfolio quality, and sufficient operational efficiency, which have emerged from the crisis almost unscathed. At the same time, the stress testing scenarios have generally been milder than in previous years.
The capital needs of the banks found to have capital risks have primarily been driven by:
- high cost and short maturity of funding, posing a serious interest rate risk to banks in adverse conditions.
- significant administrative expenses.
- excess of noncore assets on balance sheets. Under established rules, a bank’s core capital is gradually reduced by the value of its noncore assets.
- unacceptable financial standing of some large borrowers.
In a first for Ukrainian banks, this year’s stress testing has included assessing the risk of a loss of value of government securities measured at fair value. This is an element of market risk that can materialize if expected yields on debt securities surge amid a deep crisis. The overall impact of this risk on the banking system has been moderate and largely concentrated in state-owned banks.
To ensure their resilience, banks must continue to meet the capital adequacy ratios set by the NBU or take measures to reduce their risk profiles by restructuring. These measures can include improving loan portfolio quality, optimizing assets and liabilities structure, and adjusting their business model.
The banking system is ready to meet new capital requirements that are to be introduced in line with the previously published schedule, the resilience assessment in general and stress testing in particular have shown.
Further information on the resilience assessment findings, with a breakdown by banks, will be published on the NBU’s official website at the end of December 2021.
The NBU has been assessing bank resilience since 2018. The assessment comprises AQRs and stress testing. All banks have undergone AQRs except for Settlement Center PJSC, which only provides settlement transactions. Independent auditors are engaged at this stage.
30 banks that accounted for 93% of assets in the banking system as of the beginning of this year underwent stress testing. Stress testing was conducted based on two macroeconomic scenarios: baseline and adverse.
According to the resilience assessment findings, the regulator will determine the required levels of the regulatory capital adequacy ratio (N2) and the core capital adequacy ratio (N3). The required capital adequacy ratios are estimated in order to ensure banks’ compliance with the minimum requirements of N2 and N3, under the baseline scenario (10% and 7%, respectively), and with looser requirements for the ratios under the adverse scenario (5% and 3.5%, respectively) throughout the entire forecast period of three years (through 2023).
In 2020, stress testing was not conducted due to the COVID-19 crisis.