Victoria Belozerova of Global Rating -

Mortgage loans first became popular in Russian in 2005, and many banks were attracted by the wide-open market. Banks that began built up portfolios aggressively in early 2006 had established themselves as market leaders by the start of 2007. Then, as competition increased, borrowers were offered increasingly attractive terms in an effort to sustain growth, including no down-payment loans, financing for the purchase of homes still under construction, minimal checks on creditworthiness, and so on. Naturally, interest rates in such cases were somewhat higher than on the more conservative loans offered by Sberbank, for example, but this approach did allow banks that had not been active in retail to become key mortgage market players.

Recent events in the American mortgage market have exposed a whole range of problems caused by banks taking on excessively high-risk mortgages, which ultimately leads to a deterioration in loan book quality despite comparatively modest returns. In developed markets, mortgages are frequently securitised. As loan quality fell, that led to a sharp decline in demand for mortgage-backed bonds, and investors took losses on what had been considered a low-risk instrument. As a result, approaches to valuing mortgage-backed paper are now being re-examined - not only in the United States, but around the world.

These events were not repeated in Russia, which saw no comparable drop in portfolio quality. Russia's mortgage market is less well developed and only a handful of players have securitised their loans. Even so, the risk of losses will clearly prompt investors to take another look at their portfolios, especially the pros and cons of diversifying into mortgages. Some funds will be shifted into classic low-risk instruments such as government debt. That worries Russian banks, and not just those that work with mortgages.

Western markets are the largest and growing sources of funds for Russia's banks, but under current circumstances they face the risk of declining external capital flows. As a result, many banks are trying to restructure their domestic assets and liabilities, hoping to ride out the crisis in this way. For example, several banks have rolled out new retail deposit lines in the past month. Others have announced plans to cut back growth in loans. Assuming that banks take a balanced approach to evaluating risks, we believe the banking sector can withstand a drop in western capital flows and maintain its stability.

Current trends could actually provide a competitive advantage to certain banks, such as the state-owned financial institutions that have generated funding by issuing shares or foreign-owned banks whose Moscow subsidiaries can draw on the cash flows of a parent group, which far outweigh the volume of business they do in Russia.

Other banks, however - those that are more dependent on western financing - will be forced to scale down growth in loans and raise the price of their services, and that is likely to cost them market share. Banks with a stable source of funds are therefore well placed to increase their market share and can choose from a wider range of potential borrowers. This trend will be especially apparent in the market for personal mortgages, where financing is long-term and interest rates are lower than in other market segments. Banks therefore need to ensure that they have stable and predictable access to long-term resources and that demand for their mortgage-backed paper is assured.