Banking in SEE: moving into the spotlight

Euromoney Conference, Dubrovnik October 16th

Debora Revoltella

UniCredit Group CEE Chief Economist

2

EXECUTIVE SUMMARY

A region which continues to deliver strong growth with moderate risk, but with rising disequilibria

Strong banking growth and profitability. The retail segment remains the most dynamic at the regional level, with households financial penetration increasing both on the assets and the liabilities side

Banking sectors are generally well-capitalised and profitable with the widespread presence of foreign players having contributed to the significant improvement in market conditions. Prudential requirements are also strict

Although risks on the households’ side are still controlled, possible source of vulnerabilities remain connected to the fast pace of growth in credit - which is leading to widening external disequilibria, households’ exposure to FX risk and increasing financing gap

Intense monitoring and adequate policy responses are crucial to prevent major deviations from an healthy convergence pattern

3

Agenda

Persistently strong growth and rapid financial deepening…

…but increasing risks!

4

The SEE region continues to deliver strong growth and moderate risk…

GDP growth in SEE is well above EU driven by lively consumption and investment activity

Significantly improved risk profile: 82% of the Region’s GDP investment grade

Real GDP growth Risk profile - S&P rating weighted per GDP(1)

Sep 2007

> BBB- 81.7%

Sep 2004

> BBB- 36.0%

+45.7 pps

Note: SEE: Bulgaria, Romania, Croatia, Bosnia & Herzegovina and SerbiaSource: UniCredit Group New Europe Research Network

‘ BBB’ : Croatia, Bulgaria, Romania ‘BB’: Serbia(1) For Sep 2007 S&P ratings, GDP as per end of 2006 For Sep 2004 S&P ratings, GDP as per end of 2003

'BBB'

81.7%

'BB'

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

2002 2003 2004 2005 2006 2007 2008 2009

SEE

EU-12

18.3%

'BBB'36.0%

'BB'

64.0%

5

… but shows increasing external unbalances

CA deficit and its financing (% of GDP) CA deficit and its financing (% of GDP) Strong consumption and investment lead to strong import demand and thus CA unbalances

This might be a natural phase in the transition process, amid the need of upgrading the country capital stock and households desire to increase living standards

In the short term, FDI inflows can help financing the saving gap

To evaluate sustainability in the long term, it is crucial to understand if the national saving gap is endangering the long term competitiveness of the country

Source: UniCredit New Europe Research Network

10.7

18.0

15.815.0

11.6 11.6

10.311.0

7.8 7.5

3.5

6.0

9.5

13.9

6.1

9.3

3.94.4

8.3

16.4

2006 2009f 2006 2009f 2006 2009f 2006 2009f 2006 2009f

Bosnia Bulgaria Serbia Romania Croatia

CA deficit

FDI inward

6

The financial deepening scenario is expected to continue…

Note: (1) Total loans/deposits include general gov.t, non-financial corporations, households and when available non-profit institutions serving households (NPISHs) and non-monetary financial institutions (Non-MFIs); SEE: Croatia, Bosnia, Serbia, Romania and Bulgaria; (2) European Monetary Union; (3) as of 2005. Source: UniCredit Group New Europe Research Network based on data from local Central Banks.

Banking penetrations in 2006Banking penetrations in 2006

(Loans+Deposits)/ GDP

EMU2

214%

SEE

Branches per mln inhabitants

EMU2,3

540

197

SEE

82%1

SEE Dep.’ volumes growth (2000 =100, in € terms)SEE Dep.’ volumes growth (2000 =100, in € terms)

SEE Loans’ volumes growth (2000 =100, in € terms)SEE Loans’ volumes growth (2000 =100, in € terms)

16% p.a.

19% p.a.

CAGR ‘06-’09

25% p.a.

23% p.a.

CAGR ‘06-’09

0

300

600

900

1,200

1,500

1,800

2000 2002 2004 2006 2008

Total loans Retail Corporate

0

350

700

2000 2002 2004 2006 2008

Total deposits Retail Corporate

20% p.a.

19% p.a.

7

16%

42%

22%5%

15%

0.0

5.0

10.0

15.0

20.0

25.0

0.0 5.0 10.0 15.0 20.0 25.0 30.0 35.0 40.0

0.0

1.0

2.0

3.0

4.0

5.0

2005 2006 2007F 2008F 2009F

…being supportive for still strong banks’ profitability

Euro bn

SEE PROFIT BEFORE TAXSEE PROFIT BEFORE TAX(1,2)(1,2)

Note: (1) SEE: BG, BiH, HR, SRB and RO; (2) Before tax and extraordinary itemsSource: UniCredit New Europe Research Network

CAGR+19%

Volumes

Spreads

Retail vs. corporate mix

Fees & Comm. vs. interest income mix

Impact on revenues

Croatia

Bosnia

Serbia

Romania Bulgaria

Lending volumes and revenues growth Lending volumes and revenues growth

CAGR revenues mkt growth (’06-’09)

CAGR total loans (’06-’09)Weight on SEE revenue pool (’07-’09) ~ 35bn €

8

Agenda

Persistently strong growth and rapid financial deepening…

…but increasing risks!

9

Is the current pace of lending growth sustainable?

Private sector loans penetration potential vs actual Private sector loans penetration potential vs actual (as a percentage of GDP)(as a percentage of GDP)11

Data still indicate the persistence of some penetration gap on the lending side, but this is shrinking in SEE

Good macroeconomic performance and further convergence in interest rate levels will be major drivers of future banking growth

Notes: (1) CEB: V4 and the Baltics; other: Russia, Turkey and Ukraine. Based on out-of-sample estimation by regressing the level of loans’ penetration on GDP per capita in PPS and real interest rates using Eurozone countries as a benchmark Source: UniCredit New Europe Research Network

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

CEB SEE Other

Potential

2006

10

Are households getting too much indebted?

Note: (1) Data for Serbia refer to share of credit to the non-government sector denominated or indexed in FXSource: UniCredit New Europe Research Network

Risks on the households side are still controlled…

… with rapid credit growth observed in the recent past reflecting, by and large, adjustments from very low initial levels in the context of a relaxation of liquidity constraints

Number of evidences show that on aggregate there are no major risks on the horizon…

… despite potential sources of vulnerability like the one connected to rising exposure to FX risk

Prudent macro policies and strict monitoring of risk remain crucial to prevent deviation from an healthy convergence pattern

3.9 2.3

15.3

0.5 2.0

44.4

23.019.7

39.0

12.1 9.8

54.2

Bosnia Bulgaria Croatia Romania Serbia EMU

2000 2006

76.0%

39.1%

~80.0%

17.8%

Bosnia Bulgaria Croatia Romania Serbia

Household indebtedness (% of GDP)Household indebtedness (% of GDP)

Loans denominated in FX (2006, % of total)Loans denominated in FX (2006, % of total)11

n.a.

11

0

50

100

gen-

06

mar

-06

mag

-06

lug-

06

set-

06

nov-

06

gen-

07

mar

-07

mag

-07

lug-

07

set-

07

0

125

250Croatia BulgariaRomania Serbia- RX

5Y Credit Default Swaps (USD, bps)

Reduced liquidity following the recent turbulence on the international markets and increases in credit spreads might determine some gradual credit squeeze in the medium to long term

The likelihood and extent of which is likely to be influenced by single countries macroeconomic unbalances and other institutional settings (relevance of foreign ownership in the banking sector)

In a generally benign scenario, we see some more risks of a possible credit squeeze for countries with higher external unbalances in the CA or where credit growth is increasingly being financed with banks´external borrowing

Source: UniCredit New Europe Research Network, Bloomberg

Is there a risk of a credit squeeze?

Banks’ financing gap (loans minus deposits, € bn)

-2.0

0.0

2.0

4.0

6.0

8.0

Croatia Romania Bulgaria Serbia Bosnia

2007 2008

12

Top Players in CEE

Total Assets (€ bn)

UniCredit

ERSTE

RZB

KBC

SocGen

IntesaSP

OTP

109

62

56

49

41

30

29

Contr. to Group’s profits

19%

75%

79%

16%

8%

9%

n.s.

Share of foreign ownership (% of total assets)

The presence of foreign banks with a strong commitment to the region could be a stabiliser effect in SEE…

91% 89%

81% 79%76%

48%

16%

Croatia Romania Bulgaria Serbia Bosnia CEE EMU

UniCredit

ERSTE

RZB

KBC

SocGen

IntesaSP

OTP

Source: UniCredit Group CEE Research

(i) 100% of total assets, revenues and profit after tax (before min.interests) for controlled Companies (stake > 50%) and share owned for non controlled companies

(ii) proforma results include also banks acquired during 2006 and until May 2007

13

… in the context of strenghtened prudential regulation and bank supervision

Throughout the region, credit risk procedures are clearly in place, banking supervision is strong – and has significantly improved in countries like Serbia

Prudential requirements are also strict with most of the countries having implemented credit bureaus and with deposit insurance mechanism already in place

To ensure sufficient capitalization, banks are also required to maintain capital adequacy ratios above Basel requirements

In light of risks associated with fast lending growth and significant ‘euroisation’, several CBs have recently tighten regulatory and prudential norms (like in Bulgaria, Croatia and Serbia)

0.0

5.0

10.0

15.0

20.0

25.0

30.0

Bosnia Bulgaria Croatia Romania Serbia Baselreq

Legal requirement Excess capitalisation

Source: UniCredit New Europe Research Network

Capital adequacy ratio (2006)

14

EXECUTIVE SUMMARY

A region which continues to deliver strong growth with moderate risk, but with rising disequilibria

Strong banking growth and profitability. The retail segment remains the most dynamic at the regional level, with households financial penetration increasing both on the assets and the liabilities side

Banking sectors are generally well-capitalised and profitable with the widespread presence of foreign players having contributed to the significant improvement in market conditions. Prudential requirements are also strict

Although risks on the households’ side are still controlled, possible source of vulnerabilities remain connected to the fast pace of growth in credit - which is leading to widening external disequilibria, households’ exposure to FX risk and increasing financing gap

Intense monitoring and adequate policy responses are crucial to prevent major deviations from an healthy convergence pattern