Kazakhstan enters into the unknown

Kazakhstan has found itself in an uncertain situation, the likes of which it has not known for a decade or so, as international sanctions linked to Russia, the vagaries of the international commodity markets and political and economic change take their toll on the country and its political and economic landscape.

This is evident in the decision to hold off announcing the date of the launch of its sovereign bond. The issue has been left hanging because of "the great uncertainty", according to Kairat Kelimbetov, the governor of the National Bank of Kazakhstan (NBK). The country is understood to be in discussions with issuers over the structure of a bond, likely to be around either the $500m or $1bn mark. The uncertainty has put many programmes to launch Kazakh initial public offerings and corporate bonds on hold.

International sanctions linked to Russia are the external unknown that give policy-makers the most concern. Russia is Kazakhstan’s leading trading partner, and just under half of all Kazakh imports originate there. The tougher the international sanctions imposed on Russia, the more Kazakhstan will be affected.

The Russia question

Mr Kelimbetov says: "We are now trying to estimate the consequences and bad effects of the sanctions. The Russian economy will be impacted by sanctions and with negative growth. There will be an indirect influence on the Kazakhstan economy. We are very scared of radical sanctions. Russia is our biggest trade partner and we are in a customs union with them. This is not a situation that we like.

"This is only a concern at the moment but we realise that this will very soon become a reality. Everything will depend on how the US and the EU develop the situation. It depends on the situation in Ukraine but this is a lose-lose situation. It is beyond our control as it is politically driven, not economic."

Not all analysts share this concern about sanctions, however. Jan Dehn, a fixed-income analyst at emerging market investment specialist Ashmore Group, says: "Sanctions have no bearing on Kazakhstan’s issuance plans. The whole sanctions fear is massively overdone with respect to Russia. Sanctions are even more irrelevant for Kazakhstan."

Union hope

The success of the recently created Eurasian Economic Union (EEU) is expected to impact on Kazakhstan’s prospects for the growth of local trade. Today’s circumstances may be problematic for the union's take-up, but Erlan Idrissov, Kazakhstan’s foreign minister, takes a robust view. "We're going from a small market of 17 million residents to another of 200 million and the EEU agreement opens Kazakhstan's access to international waters and also to a globalised economy," he says, adding that the treaty will permit the free circulation of goods and suspend customs duties among Kazakhstan, Belarus and Russia. The economic market among the three countries "is open to new members", according to Mr Idrissov, and this will allow a flow of capital that "will benefit foreign investors".

Sanctions are a bugbear for the Kazakhs, as they bring with them the fear that Russian companies will dump cheap goods on Kazakhstan. Kazakh manufacturers and processors will be squeezed, says Yerlan Syzdykov, head of emerging markets bonds and high yield at venture capital firm Pioneer Capital. "Local manufacturers have been hammered because of the competition. The economies of scale and the amount of marketing available to Russian companies greatly outweigh anything that Kazakhstan can muster. The level of Kazakh industry greatly lags behind Russia and they cannot compete," he says. The position of Russian banks as well as companies in Kazakhstan has greatly strengthened, with Sberbank now ranking fifth in assets.

February’s 19% devaluation of the tenge brings the currency more closely in line with the falling ruble, and is expected to boost local processing industries. Mr Syzdykov expects this to give Kazakhstan an edge in the customs union but warns about inflationary risks. Kuat Andagulov, a Kazakh investment banker, says: "People had been encouraged to save in the local currency. But after the devaluation people stopped that." The devaluation caught the population by surprise and was deeply unpopular, as many took a hit on their tenge savings (see box).

A campaign on social networks claiming that some banks’ solvency was in jeopardy in the wake of the devaluation gave rise to a run on a number of Kazakh banks in early 2014. However, this crisis was totally different from the property-induced crisis of 2008/09 and the banks were little affected. Some elements sought to whip up hysteria all the same, and the NBK summoned the strongest banks to fund a lifeboat in the event that a bank became in any danger of failing. The lifeboat was never used and all Kazakh banks survived intact.

Commodity uncertainty

A third pressure on Kazakhstan’s economy is the state of the global commodity markets. The country’s growth is heavily dependent on base metals such as copper, zinc, uranium and chromium, as well as oil and gas. Falling prices are mostly to blame for a collapse in Kazakh gross domestic product (GDP) growth, which went from an average over the past decade of 7% to 8% to zero growth at the beginning of 2014. The International Monetary Fund estimates that Kazakhstan's GDP growth will be less than 5% for 2014.

Kazakhstan is seeking to boost its investment in processing companies, according to Bakhyt Sultanov, the country's deputy prime minister and minister of finance. "We are aware of the difficulties that arise from a dependence on commodities and we are investing more significantly in processing plants. This will enable us to add value and build up exports," he says.

Vladimir Skolnick, the CEO of Kazatomprom, Kazakhstan’s uranium miner and processor, says: "The main issue is the modernisation of the economy; the development of new industries and new technologies." 

Bank funding for the building of processing plants is provided by the Development Bank of Kazakhstan (DBK), which targets long-term local currency funds at borrowers in the non-extractive industries. Daniyar Temirbayev, an adviser to the CEO of DBK, says that the bank’s role "will be increased with the implementation of the state programme on forced industrial development".

DBK has more than 40% of its lending portfolio – which in April 2014 stood at Tg548bn ($2.97bn) – in long-term lending to the non-extractive sectors, in particular in the chemical and petrochemical industries. A very limited part of the portfolio is invested in Astana and Almaty property. DBK targets borrowers who want local currency loans and it says that it expects the tenge share of its total borrowing to increase from 19% in 2014 to 41% by 2018.

A further source of funding for Kazakh non-natural resource enterprises is channelled through Kazyna Capital Management, says Almas Agibayev, the company's executive chairman. This vehicle, owned by Baiterek National Holding, a sovereign wealth fund, promotes private equity funding of local projects. Mr Agibayev says: "We focus on the development of the non-extractive sectors of Kazakhstan’s economy. We invest into anything from small and medium-sized enterprises to major infrastructure projects."

NPL barriers

The main bar to bank lending to local enterprises is the level of non-performing loans (NPLs). These stand at an average across the banking system of 33%, and Mr Kelimbetov says that this accounts for the poor ratings of the banks, hurting their capacity to raise and lend money.

Reducing NPL levels is a key part of Mr Kelimbetov's programme of change and rationalisation of the Kazakh banking system. The situation he inherited from his predecessor, Grigori Marchenko, was not sustainable, he says. "There was a very tolerant policy towards NPLs, but when I arrived, everyone understood that we couldn’t continue this policy." Mr Kelimbetov, who was appointed in October 2013, says that a system where banks provisioned against NPLs had led to "zombie behaviour by banks, where they showed to the regulator that everything was OK when it was far from that. Now we are trying to bring this money back, we are working on a process of asset recovery."

Banks are being encouraged to swap bad assets for equity, which they place with the NBK as collateral. The scheme is funded by a $1bn grant of government funds. Management of the non-performing assets stays with banks, Mr Kelimbetov says. "You will do it better than us. We don’t have the expertise to manage it. We will say: 'Let’s complete the construction of a house and let’s sell it'. You will pay us back the funds realised and that will clear the obligation. If you cannot fulfil the construction and the business still doesn’t work, then we will take some of the equity as collateral.

"The NBK will provide money for five or 10 years, during which time you either complete the projects or make money some other way. Then we will see what has happened to the NPLs. You can have a put option, so if you see that the project is very good, you can buy it back. If we see that the project is very bad, then we can force you to buy it back from us."

Reductive measures

NPLs will be reduced to 15% by the end of 2014 and to 10% by January 2016, according to the terms of a deal between the NBK and Kazakhstan’s 10 top banks. Banks that fail to meet the deadline will be penalised for breaking prudential norms. Mr Kelimbetov hopes the scheme will turn the tide on NPLs. "Banks are always trying to not do anything. They have used the NPL argument to limit the credit they provide to the real sector. This is not acceptable to the NBK. We want to fix it, we want to clean up the balance sheet of the banks, we want to check the capitalisation of the banks," he says.

The NPL problem explains the collapse of bank ratings, says Mr Kelimbetov. "I am happy with the sovereign rating of BBB+, but we are not happy with the ratings of the banks. In 2004, the banks were in good shape. At that time, the banks were one or two notches below the sovereign. Now they are seven or eight notches below because of the high level of NPLs. We want to convince banks to fix this situation and bring their ratings closer to the sovereign," he says.

An early decision to limit exposure to real estate accounts for the healthy NPL figures of Kazakhstan’s sixth largest bank by assets, Tsesnabank, according to Dauren Zhaksybek, its chief executive. Tsesnabank has assets at Tg1100bn, below Kazkommertsbank, Halyk Bank, Bank CenterCredit, BTA Bank and Sberbank. Mr Zhaksybek says: "Our NPL levels are about 4% and this is the result of a historically low exposure to construction and real estate sectors. We also take a very conservative approach to lending." 

The bank’s assets are largely weighted to the retail and wholesale sectors, with services and production accounting for 25% of the portfolio. Construction accounts for less than 12% of the total. Mr Zhaksybek notes that Tsesnabank "was the first non-state Kazakh bank to be given a B rating after the economic crisis, and Standard & Poor's raised our rating to ‘positive’ in 2013."

One of the reasons for the growth in the bank’s deposits, he says, has been the "increased confidence of depositors due to the absence of reputational scandals and negative news about the bank". Tsesnabank topped the domestic tables in 2013, both for loans to deposits and corporate deposit growth. 

Reputational damage

The massive reputational damage inflicted on BTA Bank of a multi-billion fraud by its chief executive Mukhtar Ablyazov and his subsequent flight to the UK and then to France, together with unwise real estate investments, were largely to blame for the bank’s problems that occurred in 2009. BTA was rescued by Samruk Kazyna, Kazakhstan’s sovereign wealth fund. Plans to return the bank to the private sector involve a takeover by Kazkommertsbank, working in conjunction with Kazakh investor Kenges Rakishev. Mr Kelimbetov expects this to be completed by the end of the year.

Two other Kazakh banks, Alliance and Temir, collapsed in 2008 as a result of real estate lending into a property bubble. They will be rescued by Verny Capital, the vehicle of billionaire Bulat Utemuratov. Mr Kelimbetov says Samruk Kazyna has "a bureaucratic type of management and no one from bureaucracy wants to take on responsibility for the writing off and the asset recovery process. The whole idea was to get Samruk Kazyna out of the process and to provide opportunities to the private sector."

Samruk Kazyna first sought partners for the three failed Kazakh banks among the largest international banks, but their efforts foundered, says Mr Kelimbetov. "It was a difficult situation. We tried to bring in Russian and Chinese banks but they cancelled, we tried to bring in European and American banks but they cancelled because they have their own problems. We realised it should be local famous investors to provide different opportunities to the different groups."

The privatisation process allows the NBK governor to pursue his strategic goal of consolidating the country's banks. Kazakh banks require just $50m of core capital, but Mr Kelimbetov says: "This is not a serious amount. We would like to increase it in five years by 10 times, to $500m. We now have a total of 38 banks, but half of this list will not make it under the new conditions. Those that cannot provide this capital will have their licence revoked and that will prevent them from collecting deposits from the public. They can convert themselves into an investment bank, but not have the benefit of the money of the people of Kazakhstan."

The country's ministry of finance, in the meantime, is set to launch a wide series of reforms in the tax regime, while at the same time regulatory and investment reform is being prepared to attract foreign investors into the country, says finance minister Bakhyt Sultanov. This is being undertaken with the help of the Asian Development Bank, the European Bank of Reconstruction and Development and the World Bank and will benefit from state funding, withdrawn from the sovereign wealth fund.