Vietnam commercial banking report q1 2013

Business Environment Outlook Commercial Banking Business Environment Rating Table: Commercial Banking Business Environment Ratings Limits of potential returns Data Score; out of 10 Ra

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BANKING REPORT Q1 2013

INCLUDES 5-YEAR FORECASTS TO 2017

Part of BMI’s Report & Forecasts Series

Published by: Business Monitor International

Copy deadline: December 2012

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CONTENTS

Executive Summary 5

Table: Levels (VNDbn) 5

Table: Levels (US$bn) 5

Table: Levels At May 2012 5

Table: Annual Growth Rate Projections 2012-2017 (%) 6

Table: Ranking Out Of 59 Countries Reviewed In 2013 6

Table: Projected Levels (VNDbn), 2010-2017 6

Table: Projected Levels (US$bn), 2010-2017 6

SWOT Analysis 7

Vietnam Commercial Banking SWOT 7

Vietnam Political SWOT 7

Vietnam Economic SWOT 8

Vietnam Business Environment SWOT 9

Business Environment Outlook 10

Commercial Banking Business Environment Rating 10

Table: Commercial Banking Business Environment Ratings 10

Commercial Banking Business Environment Rating Methodology 10

Table: Asia Commercial Banking Business Environment Ratings 12

Global Commercial Banking Outlook 13

Regional Outlooks 17

Headwinds Gather Despite Benign Figures 17

Asia Banking Sector Outlook 19

Table: Banks' Bond Portfolios 2011 19

Table: Asia Commercial Banking Business Environment Ratings 20

Table: Comparison of Loan/Deposit & Loan/Asset & Loan/GDP ratios 21

Table: Anticipated Developments in 2013 22

Table: Comparison of Total Assets & Client Loans & Client Deposits (US$bn) 23

Table: Comparison of US$ Per Capita Deposits (2013) 24

Table: Interbank Rates and Bond Yields 25

Vietnam Banking Sector Outlook 26

Banking Sector: Assessing Crisis Potential 26

Economic Outlook 29

Table: Vietnam – Economic Activity, 2008-2016 31

Competitive Landscape 32

Market Structure 32

Protagonists 32

Table: Protagonists In Vietnam's Commercial Banking Sector 32

Definition Of The Commercial Banking Universe 32

List Of Banks 33

Table: Financial Institutions In Vietnam 33

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Company Profiles 36

Bank for Foreign Trade of Vietnam (Vietcombank) 36

Table: Vietnam Stock Market Indicators, 2009-2012 37

Table: Vietnam Balance Sheet (US$mn), 2002-2010 37

Table: Vietnam Key Ratios (%), 2002-2010 37

VietinBank 38

Table: Key Statistics For VietinBank, 2005-2008 (VNDmn) 39

Agribank 40

Table: Vietnam Balance Sheet (LCYmn), 2004-2009 41

Asia Commercial Bank 42

Eximbank - 45

Table: Balance Sheet (VNDmn, unless stated), 2005-2008 46

Table: Balance Sheet (US$mn, unless stated), 2005-2008 46

Table: Key Ratios (%), 2005-2008 46

Vietnam Technological and Commercial Joint-stock Bank (Techcombank) 47

Viet A Joint Stock Commercial Bank (Vietabank) 49

Housing Development Commercial Joint Stock Bank (HDBank) 52

Sacombank 53

Table: Stock Market Indicators, 2007-2010 54

Table: Balance Sheet (VNDmn, unless stated), 2005-2009 54

Table: Balance Sheet (US$mn, unless stated), 2005-2009 55

Table: Key Ratios (%), 2005-2009 55

Demographic Outlook 56

Table: Vietnam's Population By Age Group, 1990-2020 ('000) 57

Table: Vietnam's Population By Age Group, 1990-2020 (% of total) 58

Table: Vietnam's Key Population Ratios, 1990-2020 59

Table: Vietnam's Rural And Urban Population, 1990-2020 59

BMI Banking Sector Methodology 60

Table: Commercial Banking Risk/Reward Rating Indicators And Rationale 62

Table: Weighting Of Indicators 63

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Executive Summary

Table: Levels (VNDbn)

Date Total assets Client loans

Bond portfolio Other

Liabilities and capital Capital

Client deposits Other

May 2011 3,117,942.0 2,630,220.0 223,644.0 264,078.0 3,117,942.0 494,104.0 2,241,245.1 382,592.9

May 2012 3,545,800.5 2,835,610.0 355,353.5 354,837.0 3,545,800.5 569,584.0 2,668,470.8 307,745.7

Source: BMI; Central banks; Regulators

Table: Levels (US$bn)

Date

Total assets

Client loans

Bond portfolio Other

Liabilities and capital Capital

Client deposits Other

May 2011 151.6 127.9 10.9 12.8 151.6 24.0 109.0 18.6

May 2012 170.3 136.2 17.1 17.0 170.3 27.4 128.1 14.8

Table: Levels At May 2012

Loan/deposit ratio Loan/asset ratio Loan/GDP ratio

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Table: Annual Growth Rate Projections 2012-2017 (%)

Assets Loans Deposits

Table: Ranking Out Of 59 Countries Reviewed In 2013

Loan/deposit ratio Loan/asset ratio Loan/GDP ratio

Local currency asset growth Local currency loan growth Local currency deposit growth

Table: Projected Levels (VNDbn), 2010-2017

Total assets 2,953,153.46 3,437,893.00 3,816,061.23 4,350,309.80 4,959,353.17 5,604,069.09 6,276,557.38 6,966,978.69

Client loans 2,475,540.00 2,829,890.00 3,084,580.10 3,454,729.71 3,869,297.28 4,294,919.98 4,724,411.98 5,149,609.05

Client deposits 2,209,896.20 2,483,357.20 2,706,859.35 2,977,545.28 3,245,524.36 3,505,166.31 3,750,527.95 3,975,559.63

e/f = estimate/forecast Source: BMI; Central banks; Regulators

Table: Projected Levels (US$bn), 2010-2017

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SWOT Analysis

Vietnam Commercial Banking SWOT

Strengths Rapid growth

Untapped potential

High savings rate of Vietnamese

Weaknesses Domestic banks lack capital and technology to sustain high credit growth

The financial accounts of many banks are still opaque

Opportunities Population still underbanked

Income levels likely to rise strongly over the medium term

Threats Macroeconomic instabilities threatens the credibility of the government and could

potentially economic policy away from further liberalisation

Vietnam Political SWOT

Strengths The Communist Party of Vietnam remains committed to market-oriented reforms and

we do not expect major shifts in policy direction over the next five years The party system is generally conducive to short-term political stability

one- Relations with the US have witnessed a marked improvement, and Washington sees Hanoi as a potential geopolitical ally in South East Asia

Weaknesses Corruption among government officials poses a major threat to the legitimacy of the

ruling Communist Party

There is increasing (albeit still limited) public dissatisfaction with the leadership's tight control over political dissent

Opportunities The government recognises the threat corruption poses to its legitimacy, and has

acted to clamp down on graft among party officials

Vietnam has allowed legislators to become more vocal in criticising government policies This is opening up opportunities for more checks and balances within the one-party system

Threats Macroeconomic instabilities in 2012 are likely to weigh on public acceptance of the

one-party system, and street demonstrations to protest economic conditions could develop into a full-on challenge of undemocractic rule

Although strong domestic control will ensure little change to Vietnam's political scene

in the next few years, over the longer term, the one-party-state will probably be unsustainable

Relations with China have deteriorated over recent years due to Beijing's more assertive stance over disputed islands in the South China Sea and domestic criticism

of a large Chinese investment into a bauxite mining project in the central highlands, which could potentially cause wide-scale environmental damage

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Vietnam Economic SWOT

Strengths Vietnam has been one of the fastest-growing economies in Asia in recent years, with

GDP growth averaging 7.1% annually between 2000 and 2011

The economic boom has lifted many Vietnamese out of poverty, with the official poverty rate in the country falling from 58% in 1993 to 14.0% in 2010

Weaknesses Vietnam still suffers from substantial trade, current account and fiscal deficits, leaving

the economy vulnerable to global economic uncertainties in 2012 The fiscal deficit is dominated by substantial spending on social subsidies that could be difficult to withdraw

The heavily-managed and weak currency reduces incentives to improve quality of exports, and also keeps import costs high, contributing to inflationary pressures

Opportunities WTO membership has given Vietnam access to both foreign markets and capital,

while making Vietnamese enterprises stronger through increased competition

The government will in spite of the current macroeconomic woes, continue to move forward with market reforms, including privatisation of state-owned enterprises, and liberalising the banking sector

Urbanisation will continue to be a long-term growth driver The UN forecasts the urban population rising from 29% of the population to more than 50% by the early 2040s

Threats Inflation and deficit concerns have caused some investors to re-assess their hitherto

upbeat view of Vietnam If the government focuses too much on stimulating growth and fails to root out inflationary pressure, it risks prolonging macroeconomic instability, which could lead to a potential crisis

Prolonged macroeconomic instability could prompt the authorities to put reforms on hold as they struggle to stabilise the economy

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Vietnam Business Environment SWOT

Strengths Vietnam has a large, skilled and low-cost workforce, that has made the country

attractive to foreign investors

Vietnam's location – its proximity to China and South East Asia, and its good sea links – makes it a good base for foreign companies to export to the rest of Asia, and beyond

Weaknesses Vietnam's infrastructure is still weak Roads, railways and ports are inadequate to

cope with the country's economic growth and links with the outside world

Vietnam remains one of the world's most corrupt countries According to Transparency International's 2011 Corruption Perceptions Index, Vietnam ranks 112 out of 183 countries

Opportunities Vietnam is increasingly attracting investment from key Asian economies, such as

Japan, South Korea and Taiwan This offers the possibility of the transfer of tech skills and know-how

high- Vietnam is pressing ahead with the privatisation of state-owned enterprises and the liberalisation of the banking sector This should offer foreign investors new entry points

Threats Ongoing trade disputes with the US, and the general threat of American

protectionism, which will remain a concern

Labour unrest remains a lingering threat A failure by the authorities to boost skills levels could leave Vietnam a second-rate economy for an indefinite period

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Business Environment Outlook

Commercial Banking Business Environment Rating

Table: Commercial Banking Business Environment Ratings

Limits of potential returns

Data Score; out of 10 Ratings score; out of 100

Total assets; end 2012, US$bn 163.4 6 Market Structure 60

Growth in total assets; 2012-2017, US$bn 130.9 6

Growth in client loans; 2012-2017, US$bn 88.4 6

Per-capita GDP; 2012, US$ 1,530.3 3 Country Structure 55

Risks to realisation of returns

Regulatory framework and development 2.0 2 Market Risk 37

Regulatory framework and competitive landscape 5.0 5

Moody's rating for local currency deposits 3.5 4

Long-term financial risk 4.6 5 Country Risk 48

Commercial banking business environment rating 54

Source: BMI, National Sources

Commercial Banking Business Environment Rating Methodology

Since Q108, we have described numerically the banking business environment for each of the countries surveyed by BMI We do this through our Commercial Banking Business Environment Rating (CBBER),

a measure that ensures we capture the latest quantitative information available It also ensures consistency across all countries and between the inputs to the CBBER and the Insurance Business Environment Rating, which is likewise now a feature of our insurance reports Like the Business Environment Ratings calculated by BMI for all the other industries on which it reports, the CBBER takes into account the limits

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of potential returns and the risks to the realisation of those returns It is weighted 70% to the former and 30% to the latter

The evaluation of the 'Limits of potential returns' includes market elements that are specific to the

banking industry of the country in question and elements that relate to that country in general Within the 70% of the CBBER that takes into account the 'Limits of potential returns', the market elements have a 60% weighting and the country elements have a 40% weighting The evaluation of the 'Risks to

realisation of returns' also includes banking elements and country elements (specifically, BMI's

assessment of long-term country risk) However, within the 30% of the CBBER that take into account the risks, these elements are weighted 40% and 60%, respectively

Further details on how we calculate the CBBER are provided at the end of this report In general, though, three aspects need to be borne in mind in interpreting the CBBERs The first is that the market elements

of the 'Limits of potential returns' are by far the most heavily weighted of the four elements They account for 60% of 70% (or 42%) of the overall CBBER Second, if the market elements are significantly higher than the country elements of the 'Limits of potential returns', it usually implies that the banking sector is (very) large and/or developed relative to the general wealth, stability and financial infrastructure in the country Conversely, if the market elements are significantly lower than the country elements, it usually means that the banking sector is small and/or underdeveloped relative to the general wealth, stability and financial infrastructure in the country Third, within the 'Risks to the realisation of returns' category, the market elements (i.e how regulations affect the development of the sector, how regulations affect

competition within it, and Moody's Investor Services' ratings for local currency deposits) can be markedly different from BMI's long-term risk rating

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Table: Asia Commercial Banking Business Environment Ratings

Limits of Potential Returns Risks to Potential Returns Overall Market

Structure

Country Structure Market Risks Country Risks Rating Ranking

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Global Commercial Banking Outlook

In general our country banking sector forecasts incorporate faster growth in emerging markets than in developed states, but the years ahead are unlikely to be as dynamic as the pre-2008 crisis era in terms of banking sector growth Furthermore, impaired private sector balance sheets, combined with increasingly onerous regulations on capital adequacy ratios and lending standards, will constrain earnings growth for years to come in developed states On the positive side, monetary policy is set to remain very

accommodative in developed states, and is likely to become increasingly so in emerging markets, which should mitigate negative tail risks to the global financial sector

Developed States Outlook

While the US banking sector recovery remains tentative, we believe the US banking sector has turned the corner, and we continue to project steady lending and asset growth in 2013 and beyond In contrast, capital flight is crippling peripheral eurozone banking sectors while leaving the German banking industry inundated with deposits The result is an increasingly skewed banking system in which the periphery is becoming ever more dependent on the European Central Bank (ECB)'s liquidity provisions, while

German banks are facing expanding balance sheets

Against this backdrop, in line with our view, the major theme in developed states in the latter half of 2012 has been monetary easing, which has further loosened liquidity conditions and helped push back the dangers facing the eurozone financial system The ECB was the first to deliver a major new policy

announcement on September 6, with a newly devised framework to buy up encumbered debt from the eurozone periphery was nonetheless its boldest decision yet The central bank will now purchase

'unlimited' amounts of government debt provided that the sovereign issuer in question first commits to a structural macroeconomic adjustment program

A week later, the US Federal Reserve pulled the trigger on direct monetary expansion The Federal Open Market Committee (FOMC) announced on September 13 that the central bank would commence open-ended purchases of mortgage-backed securities to the tune of US$40bn a month The programme will continue indefinitely until the economic recovery has taken root Indeed, though we had expected QE3 to

be implemented at around this time, what was most surprising about the decision was that the FOMC said that 'a highly accommodative stance of monetary policy will remain appropriate for a considerable time after the economic recovery strengthens', suggesting an unprecedented commitment to policy easing In addition, the Fed will continue with Operation Twist and indicated that the Fed Funds rate would be anchored at 0-0.25% until at least mid-2015 We have pushed back our expectations for Fed hiking accordingly, with the first Fed funds hike only in 2016, as opposed to late 2014 in our previous set of forecasts

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Fed Ups The Ante

US – S&P 500 Equity Index & Fed Purchases, Rebased Jan 2008 = 100

Source: ONS, Fed, Bloomberg

Following on the heels of the Fed, the Bank of Japan (BoJ) announced an additional round of quantitative easing on September 19, pledging to increase purchases of government securities by JPY10trn to

JPY80trn by end-2013 (pushed back from the previous June 2013 deadline) The Bank of England (BoE) has yet to follow suit, but we expect the Asset Purchase Program ceiling to be raised to GBP500bn by end year from GBP325bn at present

These easing measures will not prove a panacea to credit growth in developed states, as private sector balance sheets remain impaired and the deleveraging trend remains in place However, they do help mitigate some of the negative tail risks

Emerging Market Regional Outlooks

On a region-by-region basis, the risks to emerging commercial banking sectors come largely from abroad, with economic growth in Europe, the US and China all set to slow, and the eurozone crisis set to persist Latin America and Sub-Saharan African banking sectors have arguably the brightest outlook on a

regional basis, with a more mixed picture for Asia, Europe and the Middle East and North Africa

Emerging Asia: The three threats of foreign funding constraints, slower credit growth, and higher

non-performing loans (NPLs) continue to form a cloud over the outlook for Asia's banking sector Despite recent weakness in economic growth, the sector has held up well, but we believe these headwinds will continue to gather pace The regional trade cycle is rolling over and, although Asian banks are taking a growing piece of the global trade financing pie, this is set to shrink in absolute terms Domestically,

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housing loans, which have dominated total loan growth, are set to fall as property valuations in markets such as China, Hong Kong, Singapore and Malaysia, together with stricter regulations, undermines mortgage demand

Slowdown Set To Intensify

Asia – Simple Average Credit Growth, % chg y-o-y

Source: BMI, Regional Central Banks

Emerging Europe: While Turkey remains our clear favourite among Emerging European banking

sectors, we now see more value in Czech banks than Polish banks, although we still like the Polish story over a longer-term time horizon Russia's banking sector, on the other hand, has fallen out of favour, as

we believe the country's credit cycle has now peaked, and expect investors to ask more questions about the quality of incumbents' loan portfolios over the next few months On balance we believe regional banks offer more risks than opportunities, with Ukrainian and Kazakh banking sectors most at risk

Latin America: Commercial banking sectors across Latin America continue to hold significant value

over the next five years, as we see room for growth in banks' loan portfolios over the coming years While

we differentiate among regional banking sectors on the grounds of shifting growth dynamics in Latin America, and various degrees of exposure to falling external demand for industrial metals and a high degree of government intervention, we believe that global rebalancing pressures will steadily push Latin American consumers into the economic spotlight This will underpin a gradual convergence process with developed markets, as household and mortgage loans begin to grow as a share of total banking sector assets Mexico and Colombia are the most likely to experience robust sustainable growth over the next few years, while Argentine and Venezuelan banks will suffer at the hands of sizeable currency

devaluations in 2013

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Mexico Has A Long Way To Go

Latin America – Banking Sector Asset & Client Loan Growth, 5-Year CAGR % in

2011

Source: BMI, Respective central banks

Middle East And North Africa: The prospects for commercial banks in MENA remain mixed Our

outlook for financial institutions in the Gulf Cooperation Council (GCC) is broadly positive, with scale government spending on infrastructure projects helping to facilitate a steady expansion in credit growth Moreover, threats to stability remain low compared to the rest of the region as a result of robust balance sheet positions and minimal exposure to the eurozone sovereign debt crisis That said, over the coming months we expect credit growth to continue slowing (most notably in Qatar and Oman – two of the regional outperformers) although this is, to a certain extent, simply a product of base effects following several quarters of rapid growth In contrast, financial institutions outside the GCC remain in a precarious position, with credit growth remaining generally anaemic, and significant risks to sectoral stability

large-stemming from the highly uncertain political and macroeconomic backdrop still pronounced In

particular, we would highlight that Iran's banking sector is potentially in the midst of a full-blown crisis, while the government is in no position to offer any type of bailout

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Regional Outlooks

Headwinds Gather Despite Benign Figures

BMI View: The three threats of foreign funding constraints, slower credit growth, and higher

non-performing loans (NPLs) continue to form a cloud over the outlook for Asia's banking sector Despite recent weakness in economic growth, the sector has held up well, but we believe these headwinds will continue to gather pace

In March of this year we outlined three major risks facing banks across Asia; foreign funding constraints, slower credit growth, and higher NPLs We argued that these headwinds would undermine financial sector earnings as the region experienced a slowdown in economic activity Seven months on, we can claim that loan growth has indeed slowed, but not by as much as we originally expected NPLs,

meanwhile, have not yet seen the uptick we were expecting, while foreign funding concerns have eased

On the whole, the financial sector appears to be holding up relatively well in spite of clear weakness in regional economic activity However, we believe that the aforementioned headwinds are as significant as ever

Credit Growth Declining But Staying Sticky

After peaking at 19.2% y-o-y in May 2011, average loan growth across Asia (using a simple rather than GDP weighted average) has steadily fallen However, it remains elevated at 15.5% and we believe that further declines are in store over the coming quarters The regional trade cycle is rolling over and,

although Asian banks are taking a growing piece of the global trade financing pie, this is set to shrink in absolute terms Domestically, housing loans, which have dominated total loan growth, are set to fall as property valuations in markets such as China, Hong Kong, Singapore and Malaysia, together with stricter regulations, undermines mortgage demand

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Slowdown Set To Intensify

Asia – Simple Average Credit Growth, % chg y-o-y

Source: BMI, Regional Central Banks

NPLs Minimal, For Now

Contrary to our expectations, NPLs have continued to decline across the region, with ratios hitting year lows in a number of countries South East Asian countries are currently experiencing very low rates

multi-of NPLs, averaging around just 2% multi-of total loans As NPLS are multi-often a lagging indicator, though, we do not believe these positive figures provide much reason for cheer Indeed, if we consider that overall average credit growth is still in double digits, it makes sense that there is little credit stress Furthermore, data is only available up to mid-year, meaning that the recent slump in regional trade is yet to show up in the data As credit growth cools, NPLs should begin to head higher over the coming quarters

Foreign Funding Could Dry Up

With global central banks providing record amounts of liquidity, implied volatility has been suppressed across the region, helping to narrow basis swaps materially and improving funding costs However, we see underlying risks lurking as the risk of global financial instability appears to be significantly

underappreciated at present As we have argued previously, Asian banks are now sitting on very high FX

loans to deposit ratios (see 'Trade Finance Growth Set To Slow', April 25) For the region as a whole we

estimate the total FX loan-to-deposit ratio is in excess of 100% as a result of double-digit FX loan growth

in 2011 This makes short-term funding, mainly in US dollars, crucial to keeping these loan levels

elevated, and here the risks are noteworthy With Asian banks using swap agreements with their US counterparts to fund lending, a rise in swap spreads represents a major risk, which could weigh on

margins and also lead to a slowdown in FX lending over the coming months

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Asia Banking Sector Outlook

Table: Banks' Bond Portfolios 2011

Bond Portfolio, US$bn Bond as % total assets Year-on-year growth %

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Table: Asia Commercial Banking Business Environment Ratings

Limits of Potential Returns Risks to Potential Returns Overall Market

Structure

Country Structure Market Risks

Country Risks Rating Ranking

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Table: Comparison of Loan/Deposit & Loan/Asset & Loan/GDP ratios

Loan deposit ratio % Rank Trend

Loan/As set ratio

% Rank Trend

Loan/GD

P ratio % Rank Trend

Bangladesh 93.8 35 Falling 67.1 13 Falling 52.3 41 Rising

China 75.6 50 Rising 49.8 43 Falling 131.9 9 RisingHong Kong 66.9 56 Rising 37.0 58 Rising 256.6 2 Rising

India 75.8 49 Rising 66.1 14 Rising 49.4 45 RisingIndonesia 83.7 43 Rising 62.8 24 Rising 33.1 54 Rising

Japan 69.9 54 Falling 49.6 44 Falling 89.2 23 RisingMalaysia 78.4 48 Falling 58.6 37 Falling 121.6 11 Rising

Pakistan 60.9 60 Falling 45.2 49 Falling 20.1 58 FallingPhilippines 72.8 52 Rising 53.5 40 Rising 35.5 52 Rising

Singapore 97.8 31 Rising 53.4 42 Rising 138.1 8 RisingSri Lanka 78.4 47 Rising 60.6 32 Rising 29.0 55 Rising

South Korea 116.5 12 Falling 72.0 8 Rising 104.7 15 RisingTaiwan 78.8 46 Rising 62.3 28 Rising 160.9 5 Rising

Thailand 106.4 23 Rising 64.5 18 Rising 82.8 26 Rising

Vietnam 114.0 14 Rising 80.8 2 Falling 106.8 14 Falling

United States 109.2 18 Falling 76.0 4 Falling 62.4 35 Falling

Source: Central banks, regulators, BMI

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Table: Anticipated Developments in 2013

Loan/Deposit Ratio, % Trend

Loan Growth, US$bn

Deposit Growth, US$bn

Residual, US$bn

United States 108.7 Falling 1,019.2 1,140.8 -121.6

NB Incorporates estimated economic data and projected banking data Source: Central banks, regulators, BMI

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Table: Comparison of Total Assets & Client Loans & Client Deposits (US$bn)

Total Assets

Client Loans

Client Deposits

Total Assets

Client Loans

Client Deposits

China 21,818.6 11,083.2 14,788.9 20,979.4 10,455.9 13,821.4

Hong Kong 1,949.0 727.3 1,076.7 1,821.2 673.3 1,006.1India 1,704.9 1,126.3 1,485.3 1,347.6 890.3 1,174.0

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Table: Comparison of US$ Per Capita Deposits (2013)

GDP Per Capita

Client Deposits, per capita

Rich 20% Client Deposits, per capita

Poor 80% Client Deposits, per capita

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Table: Interbank Rates and Bond Yields

3 Month Interbank Rate % Current Account % of

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Vietnam Banking Sector Outlook

Banking Sector: Assessing Crisis Potential

BMI View: Vietnam's financial sector remains in a precarious position, with double-digit non

performing loan (NPL) ratios likely to eat away at banking capital However, we believe that a mixture of sector consolidation and government support should help absorb these losses and stave off a full-blown crisis, albeit at the expense of below-potential economic growth over the medium term

Vietnam's banking sector is paying a heavy price for the credit bubble seen in the country in previous years To be sure, the marked downshift in commercial credit growth, to just 2.4% year-on-year (y-o-y) in the January-September period, has exposed a significant amount of bad debt in the financial system, leading to major question marks over the soundness of the country's banks Official data puts Vietnam's non-performing loan (NPL) ratio at 4.5% in H112, but we believe these figures vastly understate the problem Unofficial reports suggest that the system-wide NPL ratio could be well into the double digits, while State Bank of Vietnam (SBV) Governor Nguyen Van Binh conceded that that NPLs could represent

as much as 60% of outstanding loan books in some smaller banks Faced with a wave of loan

restructuring and additional corporate defaults, amid low existing levels of credit provision, we expect banking sector to come under increasing duress and capital buffers to take a sizable hit in the coming

months We note, for instance, that Asia Commercial Bank recorded a 57.5% y-o-y plunge in pre-tax

profits to VND1.2trn (US$57.0mn) in Q3 FY2012

Consolidation Ahead

Vietnam – Year-To-Date Credit Growth, % & Number Of Banks (RHS)

Source: BMI, SBV, IMF

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Clearly, Vietnam's financial sector finds itself in a precarious position However, we are not seeing a blown banking sector crisis just yet We point to the likely wave of banking sector consolidation in the coming months As the chart above shows, there were roughly 100 operating banks in Vietnam at the end

full-of 2011, although the seven state-owned commercial banks (SOCBs) account for around 48% full-of total assets To be sure, there is ample scope for a large-scale merger and acquisition drive in the coming months, facilitated by the SBV Indeed, the central bank's reported approval of a merger between

HDBank and DaiABank should be a sign of things to come

Of course, the health of SOCBs also remains an issue, and these institutions will likely require some hefty recapitalisation by the authorities According to local media reports, the SBV is setting out proposals to the government for a sovereign vehicle which will assume much of the bad debt from the banking system This vehicle will have a capital size of between VND60-100trn Such a system would not wash away the banking sector's problems, but merely transfer the bad debt problem from the balance sheets of individual banks to that of the sovereign Still, we believe that such a scenario should help reduce fears of an

imminent banking sector crisis and we see sufficient fiscal space for this to happen According to a report published by the National Assembly's Economic Committee, Vietnam requires roughly VND250-300trn

to deal with its bad debt problems If we assume (in a worse case scenario) that the latter amount is fully financed by sovereign bond issuance, this would see total external debt jump to roughly US$67bn in 2013 from a projected US$48.9bn in 2012 In GDP terms, this would equate to an external debt burden of 42.2% according to our forecasts, which would not present an immediate cause for concern, in our view Furthermore, most of Vietnam's external debt obligations are concessional in nature, with multilateral and bilateral creditors accounting for 83.4% of total As such, the lack of pressure from private bondholders should be an additional mitigating factor

From Bank To Sovereign Balance Sheet

Vietnam – External Debt (LHS) & Creditors By Type, % of Total

*2013f includes assumption of VND300trn in banking sector recapitalisation Source: BMI, Ministry Of Finance

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That said, such an event would not come without expense A prolonged period of banking sector

consolidation and restructuring is likely to be a drag on medium-term economic expansion We are pencilling in a smart bounce in real GDP growth to 7.0% in 2013 (from a projected 5.3% in 2012), but longer-term, we doubt the country will return to the credit-fuelled growth rates of plus-8% seen in the last decade

Risk To Outlook

While there would appear to be sufficient fiscal space and policy room to prevent a banking sector crisis, this does not mean that such a scenario can be ignored Indeed, a policy misstep or slow progress on recapitalisation and reform could see a number of larger banks fail and trigger a loss of confidence in the banking system and a sovereign ratings downgrade The latter point is particularly pertinent Sentiment towards the local currency has improved in recent weeks and months on the back of a narrowing of Vietnam's economic imbalances (the country has run trade surpluses of late and inflation has fallen well into single-digit territory) This has led to a gradual replenishment of the country's foreign reserve stock,

to an US$23bn or 12 weeks of import coverage (from nine weeks in June) However, we note that foreign reserves remain at critically low levels Should we see renewed selling pressure on the VND, as locals flee for the relative sanctuary of US dollars and gold, the authorities may be forced to turn to the IMF to stave off a banking sector and balance of payments crises

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Economic Outlook

Ratings Downgrade A Late Response, Economic Recovery On Track

BMI View: Vietnam's economy remains on track for a robust recovery in 2013, and we view consensus

estimates on growth as being overly pessimistic The latest credit downgrade by rating agency Moody's Investors Service has failed to surprise the bond markets and we believe that this is because concerns over the build up of bad debt in the banking sector have long been priced by investors Furthermore, latest economic indicators also support our view that economic conditions in Vietnam are improving and we are maintaining our view that real GDP growth will come in strong at 7.0% in 2013

Latest data published by the General Statistics Office (GSO) showed that Vietnam's real GDP growth accelerated from 4.7% year-on-year (y-o-y) in Q212 to 5.4% in Q312, reinforcing our view that the economy is poised for a robust recovery as we head into 2013 It is worthwhile to note, however, that the general consensus remain deeply cautious towards the country's economic outlook According to the latest Bloomberg survey consisting of 11 economists, the median forecast for Vietnam's real GDP growth for 2013 currently stands at 5.8% while the mean forecast averaged slightly higher at 6.2% This, in comparison to our forecast for the Vietnamese economy to grow by a heady 7.0% in 2013, highlights the degree of pessimism that the consensus presently holds – and what we view as an extreme in bearish macro sentiment

Ratings Downgrade Failed To Surprise Investors

Interestingly, Vietnam's foreign and local currency debt ratings were downgraded on September 28 by ratings agency Moody's Investors Service from B1 to B2, citing lower growth prospects and risks to the state balance sheet from weakness in the banking system The latest downgrade places Vietnam's credit rating five notches below investment grade, on par with countries such as Egypt and Cambodia We see the downgrade as coming somewhat behind the curve We have been warning of a surge in bankruptcies since the beginning of the year and the government has responded speedily by tightening supervision over the banking sector and introducing reforms to merge ailing banks Furthermore, we believe that the worst case scenario of a banking crisis has already been contained

Indeed, judging from the muted response in the bond markets following the ratings downgrade, it appears that the risks of a potential bailout of ailing banks by the Vietnamese government have long been priced

in by investors As the accompanying chart shows, 10-year Vietnamese sovereign bond yields have remained largely stable within a narrow trading range of 10.25-10.50% in recent months Yields on two-year sovereign bonds have begun to tick up in recent weeks, following a higher-than-expected reading on inflation in September (headline consumer price inflation accelerated from 5.0% y-o-y in August to 6.5%

in September, after recording 13 consecutive monthly declines since August 2011) However, looking at the broader trend for bond yields (where yields have fallen substantially from the peak of around 12.5-

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13.0% to current levels of around 10.0%), we believe that the recent uptick in yields do not warrant cause for alarm

Early Signs Of A Recovery

Looking at more recent economic data, we point out that industrial production expanded by 9.7% y-o-y in September, a significant increase from 4.4% in August and the fastest rate of expansion since February Retail sales for the first nine months of the year also grew by a robust 17% y-o-y, suggesting to us that domestic demand is also starting to pick up These factors reinforce our view that economic conditions in Vietnam are improving and the economy is on track for a swift recovery over the coming quarters Accordingly, we are maintaining our view that real GDP growth will come in strong at 7.0% in 2013, and

we believe that signs of an improving economic outlook over the coming months will soon reignite bullish sentiment towards Vietnam's growth prospects

Threat Of Slower Growth Yet To Undermine Efforts For Reforms

Rapid credit growth and reckless lending practices among local banks have resulted in a build up of bad debt over the years, fuelling concerns among investors that reigniting economic growth will prove to be a challenging task in 2013 The economic slowdown in 2011 led by aggressive monetary tightening by the SBV, resulted in a surge in NPLs and prompted banks to aggressively cut down on lending to small-and-medium sized enterprises (SMEs) Growing evidence that real GDP growth could miss the government's target of 6.0-6.5% in 2012 has so far failed to derail the SBV's efforts to push ahead reforms – an

encouraging sign that the government is willing to tolerate slower growth in return for macroeconomic stability

Over the longer term, we expect this restructuring of the banking sector alongside efforts to speed up the privatisation of state-owned enterprises (SOE), to boost the quality of economic growth in Vietnam Although these reforms are unlikely to witness a smooth process, we should nonetheless see a more efficient banking system that would allow real GDP growth to average at a robust 7.1% over the next decade A more efficient credit system should also see consumer price inflation averaging a benign 5.3% over the same period

Expenditure Breakdown

Private Consumption: We expect private consumption to grow at a relatively subdued pace of 4.9% in

2012 before accelerating towards 5.6% in 2013 However, we note that the risk of a sustained collapse in exports and further bankruptcies among SMEs, could potentially lead to widespread job losses in export-driven sectors Uncertainties over the outlook for employment could in turn, prompt households to cut back on spending

Gross Fixed Capital Formation: We foresee a significant pickup in private sector investment growth in

2013 We believe with lending rates will gradually ease over the coming months as the effect of recent

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rate cuts by the SBV begins to kick in Accordingly, we expect gross fixed capital formation growth to accelerate from 4.3% in 2012 to 5.6% in 2013

Public Spending: We expect total public spending to remain relatively resilient in 2013, expanding at a respectable pace of 5.4% However, there is limited room for the government to increase spending further due to concerns over the need to finance a potential bailout of ailing state-owned commercial banks

Net Exports: Net exports remain the biggest downside risk to our outlook for the Vietnamese economy given that we expect external demand to remain sluggish as we head into H113 Despite recording an average monthly trade surplus of US$172mn since June 2012 (resulting in a year-to-date surplus of US$77mn), we do not see the case for a substantial pickup in external demand in the near term

Accordingly, we expect exports to expand at a moderate pace of 6.5% in 2013

Table: Vietnam – Economic Activity, 2008-2016

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