Fitch: IBA's capital buffer sufficient to withstand significant currency shock

IBA's capital buffer is currently sufficient to withstand a significant currency shock, given the comfortable cushion of IBA's regulatory Tier 1 capital ratio over the statutory minimum, Report informs, citing Fitch Ratings.

The agency has revised Open Joint-Stock Company International Bank of Azerbaijan's (IBA) Outlook to Stable from Positive while affirming its Long-Term Issuer Default Rating (IDR) at 'B'.

"IBA's large capital buffer helps to mitigate currency risks. End-2021 Basel I Tier 1 and total capital ratios equalled to a high 37% and 39%, respectively but represented 17% and 20% as per statutory standards. We estimate that this capital buffer should still be sufficient to withstand a significant currency shock of an exchange rate depreciation to 2.3 AZN/USD (from 1.7 AZN/USD currently) before breaching statutory minimums of 6% for Tier 1and 12% for total capital ratios," Fitch notes.

According to the statement, IBA 's open-currency position (OCP) amounted to 59% of regulatory capital (USD471 million) at end-1Q22 - a moderate improvement from 77% (USD521 million) a year before.

"IBA had consistently reduced OCP in the previous four years to 38% of the capital at end-2021, before the bank widened the position both in absolute and relative terms as a result of several large transactions in early 2022," the statement reads.

"IBA's asset quality is supported by a low-risk asset structure. Liquid assets (cash, interbank placements and government bonds) were equal to a high 64% of total assets at end-2021 and were mostly of quasi-sovereign credit quality. The net loan book, which we view as the key source of impairment risks, amounted to a low 25% of total assets at end-2021. Impaired loans (Stage 3 loans under IFRS) were lower than peers' at 4.2% of end-2021 gross loans (end-2020: 8%), and were comfortably 1.1x covered by total loan loss allowances. Stage 2 loans were a modest 2% of gross loans at end-2021," it said.

Fitch notes that IBA is funded mainly by customer accounts (89% of liabilities at end-2021) with an emphasis on state deposits (66% of liabilities). A high share of customer funds is interest-free, translating into low funding costs (2.2% in 2021). The bank's wholesale debt is limited to an USD425 million (AZN0.7 billion) Eurobond maturing in 2024. IBA's liquid assets cover an ample 86% of total customer accounts.

IBA's ratings are based on the bank's intrinsic credit strength, as measured by its Viability Rating (VR) of 'b'. The ratings continue to capture risks stemming from a volatile and cyclical operating environment in Azerbaijan and IBA's high risk appetite reflected in a sizable direct exposure to currency risks.

The ratings also capture IBA's solid financial metrics, including large capital buffers, reasonable asset quality underpinned by a high 59% share of low-risk assets (relative to bank's VR), decent profitability in the past three years and adequate liquidity. The VR of 'b' is one notch below the 'b+' implied VR, due to its risk profile.

"IBA's VR and Long-Term IDR could be downgraded if a combination of large currency losses, increased loan impairment and asset inflation result in considerable erosion of the bank's capital position. The senior debt rating is sensitive to negative changes in the bank's Long-Term IDR. Factors that could, individually or collectively, lead to positive rating action/upgrade. The ratings could be upgraded if the bank moderates its appetite to the market risk, primarily by reducing its OCP to below 30% of regulatory capital. An upgrade of IBA would additionally require the bank to maintain stable loan-quality metrics as well as a comfortable capital and liquidity buffers. A revision of the GSR to the 'b' category would be contingent on a positive change in Azerbaijan's propensity to support domestic banks backed by a record of consistent support. The senior debt rating is sensitive to positive changes in the bank's Long-Term IDR," Fitch notes.