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Orange revolution fuels foreign interest

Since Viktor Yushchenko was elected president, a gold rush has begun in banking as foreign institutions begin to move in. Ben Aris reports from Kiev.
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It was a near miss. Ukrainians rushed to empty their bank accounts during December’s disputed presidential elections and nearly brought the banking sector down. But the success of the orange revolution has not only restored confidence, but is also fuelling an unprecedented boom.

Local banks have got back all the money they lost during the mini-crisis, while Russian and international banks are piling in to grab a piece of what is turning into a banking gold rush. The big banks of the Commonwealth of Independent States (CIS) have been leading the charge, many of them following big clients to Ukraine’s unploughed fields.

Moscow-based investment bank Renaissance Capital and Germany’s Deutsche Bank are the latest additions to the Ukrainian banking scene. Renaissance Capital was a big player in Ukraine’s capital markets until the Russian financial crisis in 1998 emptied the market of foreign investors. And Deutsche Bank gave up on the corruption-riddled basket case of outgoing president Leonid Kuchma’s Ukraine, closing its offices in 2002.

The election of the reform-minded Viktor Yushchenko in January has brought promise of real market-friendly change that has stoked the fires of economic growth and brought foreign investors flocking to Kiev.

Worrying withdrawals

It could have been very different. Ukraine has always been culturally divided but the elections brought centuries of simmering resentment to a boil.

The weekend after Mr Yushchenko narrowly defeated the establishment candidate and prime minister Viktor Yanukovych at the end of November, the leaders of the Russian-speaking eastern and southern regions announced they would rather secede than bow to an administration run by nationalists from the west of Ukraine under Mr Yushchenko. When the banks opened on the following Monday, Ukrainians, fearing civil unrest, began emptying their accounts.

“These leaders realised they had lost the election and tried to sabotage the country. On that Monday Hrv65m ($13m) was withdrawn from our bank, against the Hrv5m we usually collected. The next day, we lost another Hrv100m,” says Boris Timonkin, chairman of Ukrsotsbank, the third-largest bank in Ukraine.

In the first three days of December, the bank run gathered steam and some banks imposed a $500 per day limit on withdrawals to stem the haemorrhaging. The melichniki (street moneychangers) reappeared on street corners and pushed up the hryvnia/dollar exchange rate from Hrv5 to the dollar to Hrv7.

The National Bank of Ukraine (NBU) pumped $1bn into the bank system – 10% of the country’s hard currency reserves – but it almost immediately evaporated as the run gathered momentum. The increasingly desperate NBU called a meeting of the heads of all the major banks and spent all night thrashing out a rescue plan. On Wednesday morning, the NBU banned early withdrawals.

Strictly speaking, the civil code guarantees depositors the right to withdraw their funds at any time but the NBU is also charged with protecting the banking sector from collapse. As Hrv4.5bn flew out of the banks’ doors in three days – 10% of total deposits – the central bank chose to act first and argue later. The ban on withdrawals stopped the run in its tracks.

Return to normal

When Mr Yushchenko was confirmed as the presidential winner in January, things rapidly returned to normal. The exchange rate has fallen back to Hrv5.3 to the dollar and withdrawal restrictions have been lifted. People began putting their money back in banks and Ukrsotsbank says that its deposits passed the pre-crisis level by the end of the month.

“It was a blip. Things are back to normal and very little damage was done. Citizens are depositing their money in banks again because it is clear the hryvnia will appreciate strongly this year on the back of continued economic growth. The danger is well passed,” says Mr Timonkin.

Foreign banks pulled out of Kiev en masse in the wake of the 1998 financial crisis but are now rushing back. Russian and CIS banks began to trickle in last summer but the number has grown vastly since the decisive elections.

Stephen Jennings, CEO of Renaissance Capital, which hosted Ukraine’s first post-crisis investment conference in February, said he was kicking himself for not moving faster. “We started coming back down here last year. But to look at it now, I wish we had come sooner. It is obviously going to boom,” he said on the sidelines of the conference.

Outsiders move in

Renaissance Capital has already beefed up its brokerage operations, moving staff down from Moscow to Kiev and is already the biggest player on the local stock exchange. Mr Jennings has also bought two small Ukrainian banks to recreate personal finances and mortgage operations that it launched in Russia last year.

He has been followed by his old business partner Boris Jordan, who has brought Renaissance Insurance to Kiev. (The two companies have only a tiny cross shareholding, despite using the same name and logo). Mr Jordan is also returning to an old stomping ground; when he was still CEO of Renaissance Capital, before the 1998 crisis, the bank was a big player on the Ukrainian stock and bond markets.

“Mr Yushchenko said all the right things and this market is going to boom,” echoes Mr Jordan. “I am already spending two weeks a month in Kiev and we are investing in banks, financial services and media. There will probably be a bubble on the back of all this enthusiasm and a sell-off some time mid-year. But that is not a problem. It is all part of the natural process.”

Alfa Bank and Petrocommerce have been in Ukraine since 2001 while National Reserve Bank opened its offices last October. Kazakh powerhouse TuranAlem bought a 10% stake in the small Ukrainian bank Transbank last year and intends to turn it into a top-10 player in the next two years.

Swedish bank SEB bought 100% of the medium-sized local player Aggio in December, through its Lithuanian subsidiary Vilniaus Bankas. SEB says it will invest another $27.5m buying back shares, boosting capital and adding to its eight branches. And Poland’s PKO Bank Polski has joined the European Bank for Reconstruction and Development (EBRD) as a shareholder in Ukraine’s Kredyt Bank, after it bought a 66.65% stake in August.

Competitive outlook

The competition is likely to be significantly stiffer this year after Russia’s second largest and state-owned bank Vneshtorgbank (VTB) finished registering a Ukrainian subsidiary in March; it already has subsidiaries in Georgia, Moldavia and Kazakhstan. VTB chairman Andrei Kostin says the bank’s assets have been growing by 50%-70% a year and is running out of growing room at home. However, analysts say there is a political sub-plot there: that the Kremlin is keen to keep Ukraine in its sphere of influence by boosting Russia’s clout in the economy.

These foreign banks are hoping to tap the fastest growth in the CIS: Ukraine grew 12% last year and is on track to do the same this year. In the past four years, the assets of the banking sector have tripled while the capital has quadrupled. Mr Timonkin expects capital to triple again in the next three years.

Bank reform is largely finished but banking has been a sideline for the big industrial groups that stand behind nearly all the big local banks. Now that there is real money to be made, they have begun investing in their banks.

For example, Ukrsotsbank’s shareholders – which include Mr Kuchma’s son-in-law and the second richest man in the country, Viktor Pinchuk (who made the Forbes magazine rich list this year for the first time) – promised to boost the bank’s $160m capital by $60m in March. But that is not sufficient. Retained earnings are not rising fast enough for capital to keep pace with rising assets.

“Growth in deposits has supported the growth in the credit business so the assets are rising, but ploughing profits back into capital is not enough to keep a balance between capital and assets,” says Gerd Wriedt, chairman of HVB Ukraine. “We have concentrated on organic growth so the rate is capped at about 25% a year by the size of retained earnings.”

Local lending accelerates

The Ukrainian banks are less circumspect and are increasing lending fast, which worries the government. The obvious solution is to invite more foreign banks into Ukraine, something both foreign banks and the new administration are keen on.

“The banking sector is not in line with our needs,” new NBU governor Volodymyr Stelmakh told a room full of foreign bankers at Renaissance Capital’s February investment conference. “The relative capitalisation of the sector is close to that of Russia but it lags behind our close neighbours, like Hungary and Poland. More capital is badly needed in both the banks and the economy.”

Bank privatisation was largely completed during Mr Yushchenko’s tenure as NBU governor in 2000-2001 and the state maintains stakes in only two banks: Eximbank, the trade bank, and Oschadbank, the savings bank. All the others (including the three biggest banks in the country: Privatbank, Aval-Bank and Prominvestbank) are in private hands.

“The share of foreign capital in the Ukrainian banking sector is about 13%. It is too low. We need more foreign capital to further develop the banking sector,” said Mr Stelmakh.

Even that number is inflated, says Mr Wriedt. The NBU counts as foreign several banks that are registered offshore but backed with Ukrainian money. The true share of foreign capital in Ukraine’s banking sector is probably closer to 5%-6% of total bank assets.

The Austrian Raiffeisenbank Ukraine is the biggest foreign bank in the country with Hrv4.6bn in assets on its balance sheet and – with Citigroup, HVB and ING, which have Hrv1bn-Hrv1.5bn each – makes up the bulk of Ukraine’s foreign bank capital.

The latest addition to the international family setting up home in Kiev is Deutsche Bank, which received permission from the NBU at the start of March to open a representative office. Off to a fast start, the bank has already agreed to extend Naftogaz Ukrainy, the state-owned gas company, a E2bn loan over seven years for various investment projects.

Battle begins

These are salad days for Ukrainian banks but they will have to grow up fast as local and foreign banks begin the battle for a slice of the lucrative Ukrainian retail market. Foreign banks would gladly increase their presence through acquisitions but the local banks are not ready to sell.

“Ukraine is already very interesting for foreign banks and there is not a month that passes when we don’t receive an offer to sell from one of the major international banks,” says Ukrsotsbank’s Mr Timonkin. “But it doesn’t make sense at the moment because we are still in a high growth period.

“There is no point in slaughtering the calf now. We should fatten him and allow him to grow before we take him to market.”

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Read more about:  Central & Eastern Europe , Ukraine