Banking system is being prepared for stress tests: Bankers expect loyalty from the regulator, and the regulator, honesty from players
Banking system is being prepared for stress tests: Bankers expect loyalty from the regulator, and the regulator, honesty from players

Banking system is being prepared for stress tests: Bankers expect loyalty from the regulator, and the regulator, honesty from players

Wartime requires more attention to assessing resilience and, at the same time, adjusting the usual ratios and flexibility of approaches

Цей матеріал також доступний українською

Annual stress tests are the main tool for controlling banks, which helps to assess their resilience in case of crisis. According to market participants, the NBU is already actively preparing for this year's stress tests and is collecting relevant information from some banks.

Over the past year, the number of participants in the Mind bank viability rating has decreased by six institutions. Back in the first half of the year, the insolvent Megabank was excluded, and russian Prominvestbank and Sberbank were liquidated. At the end of the year, Sich Bank was excluded from the market. Also, due to a drop in market share, Deutsche Bank DBU, Crystalbank, Investments and Savings Bank (Bisbank), Radabank and RwS Bank were excluded from the rating. ConcordBank and Clearing House Bank returned to the rating due to the growth of assets.

Read also: Bank viability rating'2023. The struggle for survival

Mind explains how military stress tests will differ from traditional ones and whether banks are ready for them.

What are stress tests? A stress test is a test of a bank's stability. The regulator sets scenarios for changes in macroeconomic parameters and the quality of income from active operations. Simply put, it creates an artificial crisis in a vacuum and observes how financial institutions will cope with it.

As NBU explains in its documents, stress tests are intended to minimise the risks of a banking system that may occur during crises. "Compliance with the minimum capital adequacy requirements is not a complete guarantee of stability under stressful conditions. Stress testing is intended to assess the ability of banks to absorb losses in case of shock events," the NBU documents state.

"Stress tests are a common practice, banks have been passing them before the large-scale invasion. It is a tool for ‘examining’ the financial system and identifying problems. Based on the results of stress tests, banks draw up capitalization programmes and bring their operations in compliance with the NBU's requirements. Banks that fail to comply with such programmes may be withdrawn from the market," explains Viktoriya Strakhova, Supervisory Board Member and Presidential Representative at Ukreximbank.

How are stress tests carried out? Stress tests are usually carried out at the beginning of the year based on the results of the previous year. The last time Ukrainian banks underwent stress testing was in 2021. In 2020, this process was cancelled due to the lockdown, and in 2022 – due to the full-scale invasion of russia. In its 2021 report on bank stress testing, the NBU noted that "30 banks with 93% of the banking system's assets were subjected to stress testing."

Stress tests are conducted by experts of the National Bank, namely the Banking Supervision Department, as well as independent auditors.

The main risks assessed during stress tests are the bank's default rate under difficult circumstances, i.e. how many clients will stop paying their debts under risky scenarios. "For example, a lot of foreign currency liabilities and few foreign currency assets pose risks. Stress tests also usually use a scenario with an increased exchange rate," says banking expert Olena Domuz.

Financial expert Anatoliy Drobiazko says that the bank must calculate the amount of its reserves that result from the stress test conditions, and based on this calculation, the level of capital adequacy is determined. "Based on this, the regulator, together with the bank's management, determines the bank's capitalization programme and its schedule," he says.

Based on the results of the stress tests, banks are usually given time to eliminate the detected weaknesses.

What are the peculiarities of stress tests during the war? There are still few details – bankers refer to the lack of official decisions from the regulator. "It is a normal practice that certification services are provided by the bank's external auditor. However, we have not received any instructions for 2023 yet," says Piotr Konieczny, Deputy Chairman of the Board and CFO at UKRSIBBANK BNP Paribas Group.

"The format of AQR this year will be different from the previous ones," says Volodymyr Ponomariov, Director of the Risk Department at Ukrgasbank.

It is believed that final decisions on the 2023 stress tests will be made depending on the security situation. "Most likely, in 2023, non-public stress tests will be held so that the National Bank is aware of the state of the banks," says Rostyslav Kravets, chairman of Kravets and Partners Law Firm, "I think there will be no massive bank failures. Most likely, 60% of the banks in the market will pass the text on the condition that they will eliminate the shortcomings of liquidity, lending, etc. in the future."

Read also: More than a third of loans in commercial banks are non-performing. Who is at risk, and what can be done

When will the stress tests take place? Dariya Onyshchenko, Oschadbank Management Board Member in charge of risk management (Chief Risk Officer), reminds that the terms of the bank's stress testing and the announcement of its results are determined by the National Bank. "According to the information available to us, the National Bank approved the terms of reference for the diagnostic examination of banks in 2023 on January 26 this year. NBU plans to start the assessment in the second quarter of 2023, unless the security situation prevents it," she says.

However, according to Mind’s data, the NBU is already collecting the necessary information from banks. In particular, at a meeting with bank executives held in January, NBU representatives noted that this year audit firms would not be involved in the diagnostic examination.

"The Financial Stability Council supported measures to ensure macrofinancial stability and agreed to conduct a bank resilience assessment that would help to determine the true state of the sector after the most acute phase of the current economic crisis related to the war," says Sergiy Chornoyvan, a board member of Sense Bank.

How should banks prepare for stress tests? At this stage, there is no way.

"Banks had to prepare for the stress tests throughout last year because the data used for the analysis was as of December 31, 2022. The only thing banks can do now is to show documents that their debts to them have been fully repaid," clarifies Olena Domuz.

What are the most stressful areas for banks? The most difficult thing for banks now is to generate income from the loan portfolio. "There are lots of force majeure events during the war, and the discipline of debt servicing is falling," explains Anatoliy Drobiazko.

According to banking expert Stanislav Shlapak, other challenges include a significant portion of demand deposits in banks' liabilities and the quality of loan portfolios. "The war has inevitably led to a significant deterioration in the quality of the loan portfolio, an increase in non-performing loans, and demonstrated the non-viability of the business model of some banks," he said.

Read also: The 200bln retribution: Banks will have to answer for their unwillingness to respond to the NBU's monetary hints

At the same time, bankers have wishes for the regulator. "Since the bank is currently operating in a very unstable environment, special attention should be paid to regulatory transparency and clear expectations of the regulator. It can be achieved through open dialogue and communication. While the bank manages its relations with clients, the regulator, and employees during martial law, there is a need to solve the issue of how to take into account the interests of the bank's shareholders," says Piotr Konieczny.

How do bankers themselves assess their readiness for testing? Expectedly high.

"We have fully adapted all the bank's systems and processes to possible long-term threats. It concerns both business continuity (BCP plan) and the speed and possible reactions to potential negative external factors," says Sergiy Chernoyvan, member of the Management Board of Sense Bank. "There is a question of impartial and equal treatment to our bank, as well as any other Ukrainian bank. These are the issues of sub-debt registration, approval of Alfa Leasing restructuring, approval of the members of the Management Board, etc."

Given the negative impact of the hostilities, Ukreximbank has significantly increased its reserves for active operations, which puts pressure on its capital. "Yes, the NBU does not currently apply penalties for violations caused by the war, but the bank will need additional capitalisation. Its amount and terms will be determined based on the results of asset quality diagnostics and stress testing," said Serhiy Antoniuk, Director of the Risk Management Department of Ukreximbank.

So, following the results of the stress tests, no bank will leave the market in 2023? No, there is no such guarantee. If a bank fails to eliminate the shortcomings identified during stress tests, the National Bank will be forced to withdraw it from the market. However, in general, the picture will remain unchanged, at least in terms of the main players, experts and bankers are confident.

"I expect temporary administrations to be introduced in 1-2 more banks, but most banks will stay on the market. It is a matter of the country's economic security," predicts Rostyslav Kravets.

"Everyone will pass the stress test, and the results of the capitalisation programme will be summarised in about six months after its signing. During this time, macroeconomic parameters may improve, or the loan portfolio may actually be better serviced," Anatoliy Drobiazko is sure. Of course, the regulator has the power to apply enforcement measures until the end of the capitalization agreement, but in a time of war, the NBU is unlikely to take drastic steps.

"Even if some banks are withdrawn from the market for one reason or another, such as asset quality, liquidity, ownership structure, etc., we do not expect any significant impact on the stability of the banking system. In particular, we do not expect any problems for systemically important banks," Volodymyr Ponomariov from Ukrgasbank summarises.

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