- Russia owes Western banks $121bn
- Banks have the capital to cope with losses
Amid the carnage unleashed on Russia’s economy by unprecedented economic sanctions, it is becoming increasingly obvious that Western financial institutions, companies and consumers will share a portion of the pain. But a crumb of comfort is that while cross border lending and operations in Russia are now impossible, the recapitalisation that banks had to undertake after the 2008 financial crisis has given the institutions a larger buffer, that means less disruption to operations than might otherwise have been expected. Still, while some banks will post losses on the back of stranded or defaulted loans, it seems that Russia’s attempt to insulate itself from sanctions may have had an unintended beneficial effect on Western lenders.
The reason for this is two-fold. To begin Russian is technically a net creditor on the international markets and according to research from the Brookings Institute, has been steadily reducing its dependence on foreign debt since 2014 in a deliberate attempt at economic ‘Autarky,’ partly as a response to sanctions imposed at the time of the annexation of the Crimea. One result of these sanctions was that Russian companies could no longer roll over long-term debt and foreign acquisitions that might have attracted syndicated funding from Western banks dried up and Russian’s foreign external debt fell by $200bn (£150bn) during this period. In other words, by government decree there was no net demand for new lending, so no gap for foreign banks to fill.
Banks and asset managers hunker down
According to Bank of International Settlements (BIS), Russia’s foreign assets roughly balance the approximately $600bn of foreign direct investment in the country. This comprises investments made by companies along with portfolio investments by asset managers. In total, this is about $275bn, $75bn of which is ruble-denominated debt held mostly by investors in Ireland and Luxembourg, although this probably signifies the location of the affiliated investing entity, rather than of the downstream customer.
Interestingly, some of the biggest holders of Russian equities ($68bn, according to the Brookings Institute) are US investors. This chimes with the potential losses that the likes of BlackRock have had to book after writing down the value of their Russian holdings. These were $17bn for BlackRock alone, but other asset managers in the UK, notably Abrdn (ABDN) and Legal & General Investment Management are also sitting on losses.
Interestingly, the pattern of bank losses indicates both the commercial ties between the bank’s host country and Russia, as well as a willingness to follow sanctions rules in the aftermath of the 2014 Crimean annexation. For instance, as anyone who has ever tried to moor their yacht in Portofino will know, Russian oligarchs made a beeline for Italy when the opportunity to clear out the country’s designer boutiques arose. Russia is Italy’s biggest supplier of gas and the commercial relationships with its banks are now reflected in the losses they are reporting. For instance, UniCredit (IT:UCG), Italy’s second-largest bank, says its losses on Russian exposure are set to top €7bn (£5.9bn) which, if realised in full, would knock two percentage points from its core tier one capital ratio – currently 15 per cent.
One grey area is the extent to which wholly owned subsidiaries have an impact on the parent institution. For example, both French bank Société Générale (FR:GLE) and Austrian firm Raffeisen Bank International (AU:RBI) have a long-standing presence in the country dating back to the last Tsar. The subsidiary structure offers some protection from contagion as cross border loans are comparatively small. So, while Raffeisen has a theoretical exposure to Russia of €22.9bn, most of this is held within the local subsidiary and poses no real risk to the parent. But Raffeisen generates a good third of its net income in Russia and, as the annual report states, the overall Austrian banking sector has the third highest exposure in Europe; or a core tier one capital exposure approaching 4 per cent, according to the BIS. That very close relationship is probably a result of the secretive nature of Austrian banking, as well as the country’s traditional status as a bridge to Eastern Europe.
What was also surprising, in many ways, given its reliance on Russian gas, is the lack of lending exposure that Germany has to Russia.
Germany exports more than $30bn annually to Russia, though it imported more in dollar terms last year because of higher fossil fuel prices. Despite that level of trade, German banks have far less than two per cent of core tier one capital at stake if Russian loans default. One mooted reason for this is that German banks were far more assiduous is following the relatively mild sanctions regime brought in after 2014’s events in Crimea.
In total, the BIS reckons that Western banks and investors are owed $121bn by Russia. That is far less than the total number of invested assets that companies have chosen to leave behind in exiting the country, which are the most at risk if Russia decides to seize foreign assets. Overall, it is reasonable to describe the risk as manageable for most institutions and that being heavily recapitalised has proved to be an insurance policy for times such as these.
