Japan’s top banks face hefty losses on $8bn Russia exposure

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1. In case anyone gets hit with the paywall:

   TOKYO — Japan’s top banks face the prospect of having to set aside billions of dollars in loss provisions for their exposure to Russia as the declining ruble and the financial turmoil there raise default risks.

   Russia accounts for less than 1% of outstanding credit at each of the three banking groups, as they have steered clear of new lending there since the 2014 invasion of Crimea. But together they still had more than $8 billion in exposure to the country before the invasion of Ukraine.

   While much of this is in the form of loans to businesses that still have comfortable cash positions, the business climate has turned dire due to Russia’s cratering credit rating and the loss of confidence in the ruble under the sweeping sanctions imposed on Moscow.

   “We’re at a very tricky point in terms of how to gauge the credit risks of companies that are spotless in our internal credit ratings,” a megabank chief said.

   MUFG Bank reported 270 billion yen in exposure ($2.2 billion at current rates) at the end of January, Sumitomo Mitsui Banking Corp. had $3.1 billion at that time, and Mizuho Bank had $2.9 billion at the end of 2021.

   The biggest impact on profits is likely to come from country risk, rather than specific corporate borrowers.

   Russia’s limited access to foreign currency could force banks to book a particular type of country-specific loan loss reserve required for markets with high financial or economic risks. The specific amount is based on factors including ratings agencies’ assessments of the country’s sovereign debt. Japanese banks previously set aside such reserves in response to instability in Myanmar and Iran.

   Ratings agencies around the world have downgraded Russian sovereign debt, and S&P Global and Moody’s Investors Services both said last week that they will withdraw ratings on Russian entities altogether.

   Japan’s megabanks are reviewing their internal assessments. Each institution’s credit costs, including loan loss reserves, could run into the hundreds of millions or even billions of dollars.

   The possibility of a sovereign default remains the biggest question. Moscow has threatened to make debt payments in rubles, even when bond terms do not allow for it, which ratings agencies could treat as a default. If so, megabanks would need to respond by setting aside more loss reserves.

   The banks could face issues outside Russia as well. If the conflict in Ukraine weighs on European economies, more loss provisions could be needed in case loans there go bad as well.

   There is also concern that Japanese bank assets held at Russia’s central bank could be seized in retaliation for sanctions. Without access to these funds, banks would be unable to meet corporate clients’ requests for cash.

   “It would be impossible to carry on with the banking business,” a megabank executive said.

   That said, credit risks involving individual companies — the focus of the megabanks’ Russia operations — are believed to be limited.

   “We’ve continued to receive payments from major Russian companies without delay” on term loans and other debt denominated in foreign currencies, a megabank leader said. Loans to Russian arms of Japanese businesses are also considered to be low risk, since they are guaranteed by the parent companies.

   None of the three megabanks are changing their earnings forecasts for the fiscal year ending this month, despite their Russian exposure. MUFG Bank’s net profit exceeded its full-year target of 1.05 trillion yen in the first three quarters, while SMBC and Mizuho both came in above 90% of their fiscal 2021 projections over that period.

   “We set conservative forecasts to begin with, and the situation hasn’t reached the point where we need to downgrade,” a megabank executive said.

   If individual companies do start to default, however, these companies could face higher credit costs from next fiscal year onwards.