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Economy | Opinions and Analysis

Risk-Weight Variation Among Emerging Markets Banks Impedes Capital Comparisons

Dec 11, 2019   •   by   •   Source: Proshare   •   eye-icon 1294 views

Wednesday,December 11,  2019   /08:48 AM  / By Fitch Ratings /Header Image Credit: Fitch Ratings

 

Approaches to determining risk-weighted assets(RWA) vary significantly between emerging markets and can impede capitalcomparisons between banks unless adjustments are made, Fitch Ratings says in anew report. Leverage and risk-weight calculation (and consideration of theratio of RWAs to total assets, or "RWA density") can therefore be animportant adjusting factor when we assess banks' capitalisation.

 

Differences between two banks' RWA densities mayreflect true differences between the banks' asset composition and risk, whichare valid when comparing their capital positions. But the differences may alsoreflect different approaches to calculating RWAs, which could distortcomparisons. Our review highlights that jurisdictions apply differingdiscretions and options under Basel standards, determine asset risk chargesbased on varying credit rating scales, or apply idiosyncratic country-specificrules. Banks may also use their own internal risk-based model to calculate RWAsrather than a standardised approach, exacerbating the lack of comparability.

 

We analysed key RWA differences in 16 emergingmarkets, including Brazil, China, India, Indonesia, Russia, South Africa andthe UAE. The average RWA density was 67% at end-2018 but there was significantdispersion around this.

 

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Russia had by far the highest RWA density of almost100%, followed by Georgia and Belarus, both above 80%. Turkey was also close tothis mark. At the other end of the spectrum was Brazil, with a RWA density ofbelow 50%. Poland, India, South Africa, Nigeria and Ukraine were also notablybelow the average.

 

India uses national ratings for weighting exposuresto domestic companies, without any mapping to an international rating scale. Thissignificantly lowers risk-weights. For example, local companies rated 'AA-' andabove on the national scale have a risk-weight of only 20%, while ifinternational ratings were used or national ratings were properly mapped tointernational ones, the risk-weight could be 100%. Indonesia and China also usenational ratings, but apply them to local-currency exposures only.

 

Different asset compositions largely explain thedeviation from the average for Nigeria, Ukraine, Turkey and to a large extentfor Brazil, where about 40% of assets are low risk-weighted reverse repoexposures backed by sovereign bonds. Large banks in South Africa use internalrisk-based models, explaining the relatively low average risk-weights. InPoland, the low RWA density is mainly driven by significant exposures tolocal-currency domestic government bonds (about 18% of assets; zerorisk-weight) and local-currency mortgages (about 15%; low risk-weights).

 

Russia has a very conservative Basel II-basedrisk-weighting framework, as well as some specific high risk-weights forcertain risky retail loans and foreign-currency exposures. The gradualtransition to a Basel III-based framework starting in 2020 will result in alowering of risk-weights as certain exposures are weighted lower based onindividual risk assessment rather than issuer ratings. However, Fitch assessescapitalisation in Russian banks (as well as banks in Azerbaijan, Belarus,Georgia, Kazakhstan, Ukraine and Uzbekistan) based primarily on IFRSstatements. Such statements are different from regulatory accounts andtypically include capital ratio calculations based on less conservative riskweightings.

 

Georgia and Belarus's high RWA density reflects thehigh risk-weights imposed on foreign-currency loans to mitigate high dollarisationrisks. In Belarus risk-weights up to 625% are applied to loans issued atinterest rates significantly above the market rate. In Uzbekistan about 20%-40%of sector loans are 20%-weighted as legacy problem exposures guaranteed by thegovernment: the state plans to transfer these loans to the sovereign wealthfund, after which the density should increase.

 

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Proshare Nigeria Pvt. Ltd.

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