Banks Maintain Clients’ Trust, High Operational Efficiency, Profitability as War Drags On – Banking Sector Review

In Q4 2022 (hereinafter the quarter), the banking sector operated stably, despite russia’s energy terror. The banks continued to restore network operations in the liberated regions and maintained the trust of depositors.

The volume of client deposits grew. In particular, retail term deposits continued to increase. FX retail term deposits continued to rise at a higher pace.

The net loan portfolio shrank due to subdued demand and growing losses from credit risk. The NPL ratio continued to grow.

Despite significant provisions, the sector posted quarterly and annual profits on the back of the further growth in interest and fee and commission income.

"The banking system withstood the blow, quickly adapted to working in conditions of a full-scale war of attrition, and is operationally stable, liquid, and profitable. This was achieved through reforms made in previous years, the efforts of the banks themselves, and the NBU’s timely measures and support. POWER BANKING – our joint project with the banks on the continuity of financial services – is an apt definition of the stability of the banking system, its ability to cope with all challenges and risks, the readiness and availability of financial resources for the recovery of the country after the Victory," said NBU First Deputy Governor Kateryna Rozhkova.

Assets increased in volume, net loan portfolio decreased

In Q4, the banks’ net assets rose by 8.6% qoq and 17.9% yoy. Given the weak demand for loans, the banks primarily ramped up investments in NBU certificates of deposit and accounts with other banks.

Net hryvnia corporate loans decreased by 6.7% qoq, net FX corporate loans by 5.2% qoq in dollar terms. Overall in 2022, the net hryvnia corporate loan portfolio expanded by 0.5% yoy. The net FX corporate loan portfolio shrank by 23.9% yoy in dollar terms. The state support program Affordable Loans 5–7–9% remains the main driver of hryvnia corporate lending.

The net retail hryvnia loan portfolio decreased by 12.6% qoq and 32.7% yoy. The major reason for the reduction was the increase in loan loss provisions. In addition, weak new lending is not offsetting the repayment of old loans.

The banks accelerated the recognition of war-related loan losses. The NPL ratio rose by 4.5 pp qoq and 8.1 pp yoy, to 38.1%. The NPL ratio for retail loans increased the most in annual terms.

Retail term deposits continue to grow

During the quarter, the banks raised interest rates on retail and corporate deposits and worked on extending their maturity. The spread between three-month and one-year deposits widened.

Hryvnia retail deposits increased in amount by 8.3% qoq and 31.2% yoy, primarily due to the growth in current account balances at state-owned banks. At the same time, the rise in interest rates accelerated the growth in hryvnia term deposits. FX retail deposits increased by 8.7% qoq in dollar terms. The most noticeable increase occurred in FX retail term deposits. This was after the NBU allowed individuals to buy foreign currency online to make deposits.

Hryvnia corporate deposits increased by 18.9% qoq (11.9% yoy) as businesses adjusted to wartime conditions. FX corporate deposits went up by 1.8% qoq (+2% yoy).

The share of clients’ deposits in liabilities expanded to 87.9% by the end of the year, while the portion of NBU refinancing loans contracted to 1.8%.

Sector is profitable due to high operational efficiency of most banks

Despite significant provisioning efforts, the banking sector generated UAH 24.7 billion in profit in 2022, including the UAH 17.3 billion it made in Q4 alone.

Most banks maintained high operational efficiency. Interest income continued to rise. Attacks on energy infrastructure had a low-key impact on fee and commission income dynamics. Income from FX transactions drove the growth in operating income. The cost-to-income ratio (CIR) in the quarter was 39.8%, down from 53.8% in the same period last year.

At the same time, financial institutions continued to build up provisions against losses brought by the war. Quarterly provisions amounted to UAH 21.1 billion. Overall for the year, the banks put away UAH 118.8 billion in provisions, the bulk of them after the onset of the full-scale war.

In 2023, the NBU will conduct a banks’ resilience assessment to verify whether loan portfolio quality has been reflected correctly and whether provisions are adequate, and that will evaluate the true size of regulatory capital. Based on the assessment’s results, the NBU will set deadlines for capital recovery by the banks, design a strategy for resolving NPLs, and work out a schedule for the rollback of temporary regulatory forbearance measures. Most financial institutions will be able to recover capital through future earnings.

To incentivize financial institutions to improve the term structure and mitigate risks of further decreases in the share of term deposits, the NBU is increasing its reserve requirements for current account balances and demand deposits. The banks should pay more attention to liquidity management, in particular by sticking to interest rate policies that stimulate retail term deposits. Financial institutions also need to focus on restoring lending and sustaining their business models amid a war of attrition.