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Large Nordic banks should be able to ride out an increase in bad loans due to their strong earnings and capital levels.
Five out of six of the the region's biggest lenders — Sweden's Svenska Handelsbanken AB (publ), Skandinaviska Enskilda Banken AB (publ) and Swedbank AB (publ), Denmark-based Danske Bank A/S and Norway's DNB Bank ASA — saw an increase in their combined Stage 2 and Stage 3 loans between July and September, data from S&P Global Market Intelligence shows. Only Finland-based Nordea Bank Abp registered a decrease. Stage 2 loans are defined under IFRS 9 accounting rules as those for which credit risk has increased significantly, while Stage 3 are considered credit-impaired.
Central banks in the region rapidly tightened monetary policy to fight rising inflation beginning in late 2021 and 2022, with the European Central Bank raising rates an unprecedented 4.5 percentage points since July last year. The ECB said recently that the region's banks are showing signs of stress in the form of loan defaults and late repayments from struggling borrowers, and called on lenders to increase provisions.
Strong earnings, capital
Despite the likelihood of further bad loans in 2024, Nordic banks' earnings and strong capital levels are enough to assuage any worries about long-term asset quality deterioration, according to Maria Parra, vice president of the European financial institutions team at DBRS Morningstar.
While lenders will suffer increased impairments in the coming year, it comes amid a current backdrop of abnormally low impairments, Parra told S&P Global Market Intelligence. A more normalized cost of risk is, therefore, not necessarily negative, the analyst said.
The three Swedish banks all saw an increase in Stage 2 loans over the third quarter, with Handeslbanken's increasing 18.3%, SEB's 3.2% and Swedbank's 0.7%.
Handelsbanken acknowledges that credit migrations are taking place but said it has not taken higher provisions because their asset values are largely holding up. "Not many would agree with [that], but that's their model," Alex Demetriou, an equity analyst at investment bank Jefferies, told Market Intelligence.
SEB's increase was down to negative risk migration and the bank drew attention to a "small net reversal of provisions" in the quarter, in an email sent to Market Intelligence.
DNB's Stage 2 loans rose by 6.5%. Those of Nordea and Danske Bank declined, but the latter's Stage 3, or nonperforming, loans rose by 18.9%, taking its impacted loans to a higher level than the second quarter, with commercial real estate loans driving the increase.
Danske Bank's asset quality deterioration is manageable owing to its strong underwriting standards and additional general reserves set aside since 2020, according to Kazim Andac at Deutsche Bank Research.
The bank can also expect to be on better ground when the tailwinds from higher rates begin to fade for the rest of the banking sector, said Andac.
"Danske will have decoupled from its peers thanks to delayed rate gearing and the unwinding of deposit hedges," he wrote in a Nov. 16 note.
Handelsbanken, Swedbank, Danske Bank, Nordea and DNB did not respond to a request for comment.
Interest rates in Sweden, Norway and Denmark stand at 4%, 4.25% and 3.6%, respectively, far above the ultra-low rates in recent years. The Swedish central bank said Nov. 23 that inflationary pressures have "clearly eased," but stressed that it would raise rates further should inflation prospects deteriorate.
Commercial real estate
Some banks saw considerable asset quality deterioration in commercial real estate portfolios, which have been a source of concern for the market and the Swedish regulator in 2023. Higher rates push up debt-financing costs for landlords, while demand for some commercial property has weakened amid a tough economic climate and a shift to remote work.
Handelsbanken and Swedbank reported the sharpest increases in Stage 2 CRE loans of 26% and 14.3%, respectively, quarter over quarter. The first half of 2024 will see a big chunk of debt maturing in Sweden, especially on unsecured markets in the case of commercial real estate, DBRS Morningstar's Parra said.
"We'll have to see how companies are able to manage with that, as the unsecured bond market right now is somewhat dry so they will have to go to banks to refinance their debt," Parra said.
Swedish banks are well positioned to confront higher funding costs, a deterioration in asset quality and shrinking loan volumes due to their strong earnings growth in 2023, Scope Ratings wrote in a Nov. 23 report.
DNB also saw a 12.6% increase, and it increased impairment provisions in CRE in the third quarter, which it said was connected to its Norway-based exposures exclusively.
Danske Bank
Danske's CRE-denominated Stage 2 loans fell 20.7%, but its Stage 3 loans almost tripled from the second quarter to sit at 6.9 billion kroner, and accounted for 19.30% of its total stock of Stage 3 loans.
The current stress in the CRE sector, a weaker macro outlook on the surge in interest rates, and the maturity structure of corporate balance sheets exposed to surging interest expenses all indicate that Danske Bank's credit impairments will rise significantly next year, according to Andac.
The deterioration in asset quality should be manageable, Andac said, thanks to strong underwriting standards and additional reserves set aside since 2020. Danske in particular has made 1.9 billion kroner in post-model adjustments since 2020 to cover uncertainties linked to the effect of rapid interest rate increases and the macroeconomic situation, he said.
Danish banks have taken fewer impairment provisions against their CRE exposures compared with Sweden. The Danish Systemic Risk Council proposed a new 7% capital add-on related to commercial real estate in October, which is under review.
Danske said during its last earnings call that the buffer — which is proposed for July 2024 — is " much too simplistic and procyclical" but maintained it has "prudently" managed commercial real estate exposure and reserved a significant amount of post-model adjustments.