Turkey Erases Junk Rating Effect on Bank Risk Weightings

  • Regulator said to set risk weighting on FX reserves to zero
  • Fitch downgrade to junk was to double risk weighting to 100%

Turkey’s banking regulator changed the way lenders’ foreign currency risks are calculated, a move to offset the negative impact of their downgrade to junk by Fitch Ratings last month.

The banking regulator cut the risk weighting for foreign currency and gold reserves that lenders lock away at the central bank to zero from their pre-downgrade level of 50 percent, according to a note sent to banks on Monday and viewed by Bloomberg. The central bank holds $38.1 billion in foreign currency under its so-called Reserve Option Mechanism, or ROM, according to the latest data. The ROM allows commercial lenders to hold some of their required lira reserves in foreign currency or gold instead.

The move comes after Fitch cut Turkey’s credit rating in January, stripping the nation of its last remaining investment grade status. Turkish banks had used Fitch as the basis for their sovereign risk-weighting calculations, and the downgrade would have forced banks to double the risk weighting on foreign-currency required reserves to 100 percent.

The regulator’s decree “should contribute to Turkish banks’ capital adequacy ratios by around 50 basis points to 70 basis points, fairly neutralizing the Fitch downgrade impact” and encouraging lending, Global Securities analysts including Sertan Kargin said in an e-mailed report. The move could also, however, leave international lenders questioning the credibility of Turkey’s regulatory framework, they said.

Lending Appetite

While the legal threshold for capital adequacy ratios is 8 percent in Turkey, the regulator asks banks to maintain a level of at least 12 percent. The average was 15.6 percent at the end of 2016, according to the regulator. However, following the Fitch downgrade, the lowest ratio in the banking system would have been 11.9 percent and the highest would be 14.1 percent, Cemil Ertem, a senior adviser to President Recep Tayyip Erdogan, said before the rating cut. Both would belong to state-backed lenders, Ertem said, without specifying.

“With an increase in capital adequacy ratios due to new risk calculations, the lending appetite of banks, especially the state banks, will continue to rise rapidly,” said Inanc Sozer, managing director of Istanbul-based Turkey Macro View Consulting. “The move will also support the central bank’s foreign currency reserves by making ROM more attractive.”

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