Turkey Tells Banks to Reclassify $8.1 Billion Debt as Bad Loans

(Bloomberg) -- Turkey took its boldest step yet to clean up the growing pile of bad debt held by banks.

The Banking Regulation and Supervision Agency, or BDDK, told lenders for the first time to reclassify 46 billion liras ($8.1 billion) of loans as non-performing by the end of the year and set aside enough provisions to cover them, it said in a statement late Tuesday.

The reclassification of the loans, mostly to construction and energy firms, will bring the industry’s non-performing loan ratio to 6.3% this year, slightly higher than the watchdog’s December prediction of 6%. It also reduces banks’ capital adequacy ratio to 17.7% from 18.2%, the regulator said.

While the directive could hurt earnings this year, the faster banks write off bad debt, the faster they can ramp up lending. Capital levels and asset quality have been under scrutiny as lenders struggle with the fallout of a currency crash in 2018, a wave of debt-restructuring demands from companies and a slowing economy. Banks are reluctant to lend more before they clear their balance sheets of existing problem loans.

“The move highlights, once again, that credit growth rather than a comprehensive package of structural reforms remains the government’s preferred approach to support Turkey’s ailing economy,” Wolfango Piccoli, co-president of Teneo Intelligence in London, said by email. Sustained political interference in the sector “will continue to cloud the outlook for the banks for the foreseeable future.”

Force Majeure

The 13-member Borsa Istanbul Banks Sector Index fell as much as 1.9% in Istanbul, before paring losses to less than 0.3%. Yapi Kredi Bankasi AS dropped as much as 5% and Turkiye Is Bankasi AS slid as much as 3.1%, while Turkiye Garanti Bankasi AS rose as much as 0.7%.

“Though this will be a force-majeure move, we find it quite positive as it will be a major step to clean up the balance sheet without any need for fresh capital,” said Bulent Sengonul, a banking analyst at brokerage Is Investment in Istanbul. “Although 2019 earnings will come down, bank shares should likely respond positively in our view as it lowers a much feared uncertainty.”

Banks are currently trading at slightly over half of their book value as concerns on asset quality scare off investors. While the NPL ratio was 4.6% at the end of July, according to the BDDK, investors said this could be higher if loans under close watch were included.

Turkey Tells Banks to Reclassify $8.1 Billion Debt as Bad Loans

The BDDK said it regularly advises banks on how to strengthen their capital and that they had added 49 billion liras to their capital base, excluding contributions from retained earnings, over the past year. The banking sector “maintains its healthy and strong structure,” the watchdog said.

Lenders have as much as 13 billion liras of free provision, which they usually set aside when profits are high, according to Sengonul. “Banks with higher free provisions set aside will have higher buffers to defend their earnings,” he said. “In this respect, Garanti leads the pact with 2.5 billion liras of free provisions to release.”

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