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Residential mortgages throw lenders a lifeline

With a long-awaited pick-up in corporate lending failing to materialise, Polish banks are making the most of a buoyant residential mortgage market. Yet consolidation beckons in what remains a deeply fragmented sector, says Nick Spiro.
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These are odd times for Poland’s banks. Despite a buoyant economy, which grew by a brisk 5.5% last year, corporate lending is shrinking, falling by 2% last year. This is in stark contrast to the Czech Republic and Hungary, where corporate loans grew by 12% last year despite slower GDP growth in both countries.

“It’s one of the most striking features of central European banking,” says Dariusz Gorski, head of central European banks research at Deutsche Bank in Warsaw. “On the one hand, there’s vibrant growth and, on the other, there’s a drop in [corporate loan] volumes. It’s highly unusual.”

What is holding it back? Ironically, the improved financial standing of companies that were forced to restructure aggressively during an economic downturn in 2001-2002 and are now flush with cash. “Corporates’ financial position has improved significantly over the past two years. When they needed the banks several years ago, banks were reluctant to lend. Now it seems to be the reverse situation,” says Grzegorz Zawada, chief financial officer of Erste Bank in Warsaw.

Corporate lending

Niels Lundorff, deputy head of BPH, Poland’s third-largest bank whose strategic investor is HVB-owned Bank Austria, says: “Companies are swimming in cash. We also saw a record number of IPOs last year. It’s becoming attractive to seek equity financing [as opposed to bank financing].”

More worryingly for lenders, a long-anticipated recovery in investments is proving sluggish. While investments last year grew for the first time in four years – by 4.4%, compared with 14% in the Czech Republic and 12.7% in Hungary, according to Deutsche Bank – they lagged behind GDP growth. “This has forced the banks to readjust their forecasts for corporate lending. It was supposed to pick up in the first quarter [of this year], now it’s meant to be in the second quarter,” says Artur Szeski, banking analyst at CDM Pekao Securities in Warsaw.

Deutsche Bank expects investments in Poland to rise by 7% this year but acknowledges that this may be overly optimistic. “In general, corporates have been reluctant to invest. It’s difficult to say whether this was due to concerns over EU accession, growth or the political situation in Poland. But already, in March and April, we saw more activity,” says Irene Grzybowski, deputy head of UniCredit-owned Bank Pekao. Pekao, Poland’s second-largest bank, still managed to grow its corporate loan book by 3.5% last year.

The right services

Mr Lundorff says that banks can cash in on the corporate market provided they have the expertise to offer sophisticated services. “We have the skills to offer structured finance and commercial real estate products. We also have the nationwide distribution network, so we are better positioned to cope with the drop in traditional corporate lending,” he says.

Pekao, like other Polish lenders, expects to increase lending to small and medium-sized enterprises (SMEs), which stand to benefit from inflows of development aid from the EU. “It’s a very important segment for us. Poland has a vibrant SME market. Now with [interest] rates coming down and less stringent [prudential] regulations, we will see more lending. We already have a good track record in leasing and we are looking at new products to encourage SMEs to borrow,” says Ms Grzybowski.

Mr Lundorff says: “It’s a very interesting market that has been stagnating for several years but is now taking off. Risk management is crucial, however, because it’s a bit like retail.”

Consumer finance

Yet it is consumer finance that is propping up lending. The 5% growth in the sector’s loans last year was mostly due to voracious demand for residential mortgages, which grew by 25% (roughly on a par with Hungary and the Czech Republic) and accounted for nearly half of new lending. “The growth driver was retail, particularly mortgage lending where the margins are fatter,” says Mr Zawada.

Low interest rates have sparked a boom in mortgage lending. “Credits have become much more accessible. Five years ago, customers needed to know someone at a bank. Now that’s no longer the case [because] sales methods have improved significantly,” says Mr Lundorff.

Mortgage prospects

A recent report from Merrill Lynch states that, in Poland, the prospects for further growth in mortgages – which in central Europe account for only 5%-9% of GDP compared with 45% in western Europe – are very favourable because of the pressing need to upgrade the housing stock and a fall in the number of occupants per dwelling “as the traditional extended family unit [evolves into] the smaller parent/child units of many developed markets”. As more Poles become wealthier, “the decrepit apartment will be replaced by the condominium or house with a garden”, it says.

Pekao’s mortgage loans grew by 80% last year, increasing its share of the market to nearly 10%. “Mortgages are growing very fast and, in the medium-term, we expect to see good growth. [At a time when corporate lending is contracting], the [lending] mix is helping us,” says Ms Grzybowski.

BPH increased its mortgage lending by 40% last year, giving it nearly 20% of the market, behind Poland’s largest bank and market leader PKO Bank Polski. “Mortgage loans accounted for 80% of our new lending last year. Stringent risk management was key. In this business, predictability is the name of the game. We have upgraded our scoring models, partly to speed up approvals,” says Mr Lundorff.

Fee generation

To offset falling interest income, banks are looking for ways to boost profits through fee-generating services, including cross-selling products. Pekao reported a 10% rise in fee and commission income last year, in part bolstered by cross-selling mutual funds from UniCredit’s Pioneer investment fund unit. Lower interest rates and a strong zloty, which gained 15% against the euro and 25% against the dollar last year, are cooling the demand for current accounts and leading to a shift of savings into higher-yielding mutual funds.

“Right now, rate cuts are eating into margins while not [yet] feeding through into demand for new loans. So increasing fee and commission income is crucial,” says Mr Szeski.

Consolidation

Poland’s banks also face the prospect of consolidation. The sector is overcrowded and intensely competitive: 10 banks account for about three-quarters of the sector’s assets but only three of them (PKO BP, Pekao and BPH) have market shares larger than 10%. The mid-sized lenders, which include Allied Irish Banks’s Bank Zachodni WBK, ING’s Bank Slaski. KBC’s Kredyt Bank and Commerzbank’s BRE, are all under pressure to join forces. “There’s no easy way to improve profitability other than to grow your asset base significantly,” says Mr Szeski. Mr Gorski says: “When growth starts to slow, banks will want to win market share and that’s when consolidation will begin.”

For the time being, however, there are no eager sellers. “Poland is a growth story with fatter margins than in west Europe, so why would anybody want to sell?” asks Mr Gorski. Mr Szeski says: “Many banks say they would like to increase their market share through acquisitions, but there is no immediate trigger to sell.”

“The market is simply too attractive to sell at any price. But we would like to see some consolidation,” says Ms Grzybowski. The prospect of a price war and the need to achieve economies of scale to help trim cost-to-income ratios presage speedy consolidation.

“It will happen sooner rather than later. But from the consumer’s standpoint, we don’t want to see a Czech situation, in which the banks start charging for withdrawals on their own ATMs,” warns Mr Zawada.

Mr Lundorff says that consolidation has already begun. “Now we’re seeing market consolidation, in which certain banks are withdrawing from certain segments of the market where they are unable, or unwilling, to compete. This is probably [the precursor] to formal legal consolidation. Only a few banks, maybe four or five, will be able to continue as universal banks. The race has already started,” he says.

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Read more about:  Central & Eastern Europe , Poland