Graham Stack in Berlin -

New Sberbank chief German Gref has pledged to boost the mortgage financing operations of Russia's largest bank. He might succeed, thanks to the fallout from the US sub-prime crisis and increasing demand for mortgages in the regions.

With a 0.5-percentage-point cut in its mortgage products announced March 24 and a cut in consumer lending rates, Gref lent substance to his promises to end the bank's hypertrophied lending policy. He can be sure of the Kremlin's approval; only two weeks previously, on March 5, President Vladimir Putin publicly criticized Sberbank's strategy. "Only 18.11% of your assets are from corporate clients, 52.1% from individuals, but you lend in equal proportions to both. So it follows you finance corporate clients out of individuals' deposits. Why? Sheer laziness?" Putin asked rhetorically.

Gref knew the correct answer: "We should be working for the population, helping people with their needs: housing, purchases." This admission was easy for him, since he had made the same argument throughout his years as economy minister, which ended in late 2007 with his appointment to head up Sberbank. Since then, he has attracted new talent from international investment banks and consultancies, and launched a review of Sberbank's strategy that's expected to see a shift to a more liberal lending strategy. The March 24 announcement is a step in this direction.

Answer to the apartment question

For all the general talk of retail lending, the heart of the matter is developing mortgage lending - a central reform policy launched under Dmitry Medvedev when he was first deputy prime minister, and one that's set to continue when he assumes the presidency in May.

The Kremlin has homed in on mortgage expansion as the key to one of Russia's oldest and most intractable problems, famously referred to by writer Mikhail Bulgakov as "the apartment problem," where the problem is the lack thereof. Analysts estimate five new cities the size of Moscow are needed to bring per capita Russian housing space up to a Western European level.

Mortgage lending is in its infancy in Russia, but grew astronomically in 2007 by 140%, or $17.6bn, in nominal terms, to total $30bn at end of 2007. But it's still an embryonic business. Mortgages only equal 2.3% of GDP, or $211 per capita, compared with 10-15% of GDP in Poland, Hungary and the Czech Republic. Only 10-15% of real estate in Russia is bought using bank loans, compared with an estimated 30-40% of deals in other Central and Eastern European countries. Total mortgage debt, an estimated 59 euros per capita, ranks among the lowest in Europe, ahead of only Ukraine, according to the European Mortgage Association.

Such under-penetration suggests that 2007's explosive growth is set to continue. Moreover, according to Natalia Orlova, chief economist at Alfa Bank, the mortgage market offers the highest-quality loans of any market, delivering average non-performing loan rates of below 1% for mortgage portfolios.

The sub-prime crisis is bound to shave off some of that growth, says Alfa Bank's real estate expert Brady Martin, because, "40% of mortgages were made available from money raised abroad, so the mortgage market will grow slower than the 140% of recent years."

But Sergei Zharov, executive director one of the leading private mortgage lenders KIT Finance, plays down the effect on lending growth in Russia. "In Russia, there is simply a massive pent-up consumer demand for products ranging from fridges and televisions to mortgages for apartments," Zharov told bne in December. "And the rate of default on mortgages is around 0.5%. Russians pay their debts - it's part of the mentality."

State banks take up sub-prime slack

However, the global financial turbulence has impacted on the structure, if not perhaps the volume, of mortgage lending. Alexander Semenyaka, head of the Federal Agency for Mortgage Financing, announced March 21 that 2007 had seen the state-owned banks Sberbank and VTB dramatically increase market share on the mortgage lending market, despite years of shrinking market share.

According to Semenyaka, speaking to the daily Vedomosti, at the start of 2007 Sberbank and VTB together had a share of 15% of the mortgage volume. By the end of the year, their share had reached 31%, with 10 large private banks holding around 33%. It was the smaller banks that surrendered market share over the year. Some 40% of mortgage lending at the start of 2007 was by banks outside the top 12. By the end of 2007, the figure had plunged to 25%. Regional and smaller banks experienced difficulties obtaining funding in the wake of the liquidity crisis and responded by cutting lending and selling their mortgage portfolios to state banks.

"The fast-growing private banks who pioneered many retail products and have been cutting inroads into Sberbank's markets share in recent years are reliant on wholesale financing," explains UralSib banking analyst Leonid Slipchenko. "But mortgage lending really requires long-term funds, and it is the state banks with their huge deposit assets that have these."

Another trend in mortgage lending that began in 2007 is the shift in growth away from Moscow to the regions. Regional data suggest that mortgages were expanding in Russia's regions in the second half of 2007. The share of mortgages issued in Moscow in the second half of 2007 dropped to 16.8% of the Russian total, against 30.2% in the first half. "Growth possibilities in Moscow are slowing as prices soar and more and more real estate is built by investors," says Alfa Bank's Orlova. Most notably in St Petersburg, the volume of new mortgages issued in the second city was almost twice that in the first half of the year, reaching 7% of the Russian total.

The jury is out on how these two trends - a relative strengthening of state bank lending and accelerating regional growth - will interact. Sberbank has not only better access to long-term financing than private banks thanks to its deposits, it also has a major advantage when it comes to competing for the regional market: an extensive network of branches. This explains why the mortgage market outside Moscow remains dominated by Sberbank, which issues 90% of its mortgages to the regions, with runners up UralSib 81.6%, Absolut 59.8% and VTB 56.7%. "Sberbank's branch network is a huge advantage, and it could support their market share" says UralSib's Slipchenko.

Will Sberbank under Gref build on the slight growth in mortgage market share achieved in the second half of 2007, or revert to its trend of declining share of mortgage and overall retail lending?

Natalia Orlova sees a lot of the regional growth being captured by the aggressive private banks moving out from Moscow to the regions, and is sceptical about lumbering Sberbank's ability to control costs. Ironically, she sees Sberbank as more suited to work with corporate clients - for all that one might wish otherwise. "Gref was thinking more as minister of the economy than as CEO of the real existing Sberbank," says Orlova of the latest Sberbank interest rate cuts. "After all, he's new to the banking business."

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