The Strong and Quick Will Remain

Our first question to the top executive of one of the top 30 banks in the country is this: According to experts, every third Russian bank that used to have some of the highest profits three years ago has lost its position today. No more than 15% of all banks have a chance to move up from the group of outsiders with zero or negative earnings to become an industry leader. What strategy could those who are lagging behind use to strengthen their position, given their disparate starting points?

In this context “lagging” is the wrong word. I would certainly not call them that, taking into account the problems faced by banks. Some of them have suffered significant losses because of the retail lending model. In this segment, the losses have already been experienced and absorbed, and the conclusions have been drawn. This is a good sign: I think their business will become profitable again in the new year.

The second and the largest group of banks consists of those who built a large part of their portfolio in the area of corporate lending. It was corporate customers who were the hardest hit by the economic crisis: Business indicators have worsened, the companies lost a share of their profits and markets, and many of them operate at a loss. Naturally, this had to affect banks, which is why many of them had either recorded a negative result by the end of 2015, or suffer from low profitability.

So, we are not talking about lagging banks, but rather an economic trend that is reflected in them. All players are definitely tightening their risk management models, they have become more careful about choosing borrowers, and they now work on restructuring and supporting enterprises faced with temporary difficulties, reducing costs, and optimizing their branch network. But the main factor that should help them leave the crisis behind is the need for additional bank capitalization. Players backed by strong shareholders will show a steady growth as early as next year. Setting aside the government-owned banks, 15-20 percent of the banks in the country will have shareholders who can afford additional capitalization.

What changes would you single out as positive since entering the period of economic turbulence?

First of all, the banks have started to manage their costs better. We can see this from the experience of Absolut Bank. Secondly, most of them have dramatically revised their risk models, making them more conservative. Finally, they’ve started paying attention to new technologies and the opportunities for fee income.

What factors, in contrast, impede the financial sector?

First of all, the financial situation of the borrowers, both individuals and legal entities. Secondly, a rather low justifiable demand for loans. Today, it is difficult for the banks to look for borrowers, especially in the corporate segment. There are no longer that many of those who they really want to loan money to. Naturally, the demand for such borrowers has grown. In other words, it is difficult to get through to good borrowers, and the heavily competitive pricing conditions remain in place. The majority of corporate borrowers, by contrast, have not seen too many favors from the banks – they are unable to refinance and have to rely on their own strength.

There is room for competition. If a government-owned bank works inherently well with major clients but does not always pay enough attention to medium-sized ones, the smaller banks will be more attentive and serious about this group of customers and may specialize in a particular industry, such as project financing. For business, this is a big plus. As for foreign banks, it is unlikely that they will try to increase their share of the Russian market, as long as we haven’t reached stable GDP growth

What changes will occur in the Russian banking system within the next five to seven years?

The main trend is the consolidation of banks. When the most acute period is over and the quality of assets is more fully understood, the financial position of the main borrowers will improve, and banks will consider consolidation. Substantial capital is needed to work with good borrowers and large volumes, but if it cannot be gained through additional equity injection, the least that should be done is combining the existing banks with existing capital, and consequently, reducing the costs through volumes and more efficient banking operations. Even large Russian banks – especially bearing in mind the weakened ruble – look very small against the background of Western and Asian colleagues.

In general, government-owned banks will take over an ever-greater share of the market. This is an obvious fact. In terms of volume, the private players will shrink, but, in my opinion, will not disappear. They will find a niche in which they will be more effective than the government banks, due largely to sectoral, regional, and client specialization.

There is room for competition. If a government-owned bank works inherently well with major clients but does not always pay enough attention to medium-sized ones, the smaller banks will be more attentive and serious about this group of customers and may specialize in a particular industry, such as project financing. For business, this is a big plus. As for foreign banks, it is unlikely that they will try to increase their share of the Russian market, as long as we haven’t reached stable GDP growth.

What will happen to small and medium-sized players?

Those who have an interesting and profitable business model and those with truly reliable shareholders who are ready to support the bank if necessary will survive.

What new sources of growth do you see in retail banking?

The attractiveness of retail business will increase: Consumer lending will recover, the credit card market and the associated set of e-commerce services will start developing. Undoubtedly, changes in the online services sector and remote banking are inevitable. The approach to mortgage borrowers will become more comprehensive. Customers will be able to get a loan not only to pay for the mortgage but also to do repairs, purchase furniture, and other services related to home improvement.

In the next two years, the car loan market will be revived as demand for cars will inevitably begin to recover, especially since the loan market for used cars is very weak. Right now it is growing a bit in volume, because people are more likely to buy used cars instead of new ones, and loans are a necessity, of course.

It seems that despite high levels of household debt, the banking sector does have room to grow?

Today, the segment of the population, which by and large should not have household debt, in fact does. These are people with low incomes, who first used borrowed funds to solve day-to-day problems, and then took out new loans to service old ones. Now, they are the ones facing the greatest financial difficulties, but they are not the target market for the industry.

Banks try to grow their share of the loan market through giving loans to the middle class and people with even higher income levels. With the advent of the crisis, this category of customers abandoned large purchases and investments to save money, so we are seeing an increase in the number of deposits within the system. As soon as there are signs of recovery and we start to emerge from the crisis, they will need to improve their standard of living. They will not need the money to buy a TV or a refrigerator, but they will be interested in a loan for a mortgage or home improvement. This is a different level of needs, and hence, makes stronger customers.

What risks and threats will the average Russian commercial bank face in the next three years?

It seems that banks have already faced all the possible risks. In recent years, while preparing annual budgets, we prepared for three stress scenarios: bad, very bad, and the catastrophic. We recently discovered with interest that we easily passed scenarios that could be categorized as even worse than catastrophic. The banking system has been under tremendous pressure in the past two years. The fact that it is still working says a lot about its stability.

I think it is worth mentioning future challenges, and the biggest of them all will be a search for new models of development, retail products, and segments in the corporate sector.

Also important is the technological challenge: the digitalization of banking business and the transition to the new system. Banks with a large branch network will no longer be in such high demand; they will start going into the electronic domain. Those who do not keep up with the changes and do not adjust their technology in time will definitely leave the market. This particularly applies to retail.

What kind of skills are required of bankers at this stage of development?

At any time, the most important quality for a banker is responsibility. A banker must always remember that they are responsible for their clients’ money, no matter the situation in the market. If we talk about the specifics of working in times of crisis, there should, of course, be high flexibility and willingness to change all the processes, technology, and people. That is why resilience is so important.

Those who can quickly readjust to the existing landscape will reach greater heights in this situation.