The ratings of Cyprus’s two largest banks remain on Positive Outlook despite increased risks to the global economy due to the war in Ukraine, Fitch Ratings says. 

The agency expects Hellenic Bank (HB, B/Positive) and Bank of Cyprus (BoC, B-/Positive) to progress with their planned disposals and securitisations of impaired loans, an expectation that underpins the Positive Outlooks.

Fitch recently lowered its 2022 GDP growth forecast for Cyprus to 3.1% from 3.7%. Slower growth and uncertainty about the path of inflation should not significantly disrupt the banks’ positive credit trajectories, as deals involving asset disposals are advancing. We expect both banks to complete the large impaired loan disposals already in their pipelines for this year.

BoC is proceeding with plans to sell EUR0.6 billion of impaired loans and EUR121 million of foreclosed real estate assets to investment management company PIMCO (accounting for about a quarter of problem assets at end-2021). HB recently agreed to securitise a portfolio of impaired loans in a transaction with PIMCO, which will reduce its impaired loans by EUR0.7 billion (over half of the total at end-2021).

Slower economic growth should not lead to significant inflows of impaired loans, although the absence of Russian tourists, which represented about 20% of Cyprus’s tourists, could put pressure on some weaker borrowers in the tourism sector. However, we still expect Cyprus’s overall tourism activity in 2022 to benefit from the easing of pandemic-related travel restrictions since 2021.

BoC and HB have some direct exposure to Russian and Ukrainian counterparties. BoC had loans with a net book value of EUR110 million at end-2021, and EUR13 million of deposits in Russian subsidiaries of European banks in mid-March 2022. HB had loans with a net book value of EUR35 million at end-2021, mostly collateralised with assets in Cyprus, and EUR20 million of deposits in Russian subsidiaries of European banks. These exposures do not pose a threat to the banks’ capital as they account for only 8% of BoC’s common equity Tier 1 capital at end-2021 and 5% of HB’s, but they could generate loan impairment charges that eat into 1H22 operating profit.

The banks’ deposits from Russian clients are not large enough to represent a liquidity risk. At BoC, 6% of deposits were from Russian clients at end-2021, and the liquidity coverage ratio was 300%. At HB, 8% of deposits were from Russian clients, and the liquidity coverage ratio was 473%.

The war in Ukraine started a chain of events that led to Cyprus’s RCB Bank (not rated by Fitch) being placed in orderly wind-down. The bank, which was the third largest in Cyprus, had a change of ownership in February 2022 when Russia’s VTB Bank sold its 46.3% stake to existing Cypriot shareholders. HB has since announced the acquisition of up to EUR556 million of RCB’s corporate loans (equivalent to 8% of HB’s gross loans at end-2021).

The acquisition strengthens HB’s corporate lending franchise in Cyprus and could improve revenue generation and business model stability. Following the acquisition announcement, RCB decided to wind down its banking operations and transform itself into an asset management company.

HB’s acquisition of RCB concentrates the combined market position of Cyprus’s two leading banks. This should strengthen the sector’s pricing discipline in corporate lending and create business opportunities for BoC and HB with RCB's former retail and corporate customers. The orderly resolution of RCB also protects the financial system’s stability and investor confidence in the Cypriot banking system. The sector may undergo further consolidation as Eurobank (B+/Stable), which already holds a 12.6% stake in HB and has an estimated 7%-8% market share in Cyprus, has stated its intention to increase its stake.