Taiwanese banks, especially those in the private sector, face increasing default risks from leveraged products due to the depreciation of the Chinese yuan, Fitch Ratings said in a report released on Sunday.
“Latest financial reports show the exposure of Taiwanese banks to customer defaults rising in the wake of the yuan’s sudden depreciation this summer,” the global ratings agency said.
Fitch pinpointed such financial derivatives as yuan-based target redemption forwards (TRF) that allow buyers to bet on the Chinese currency, with most contracts sold in the range of 6.35 yuan and 6.5 yuan against the US dollar and due to mature in the first half of next year.
Customers could fail to honor their losses in the event of a drastic yuan depreciation, therefore driving up provisions charges, Fitch said, adding that the Chinese currency softened to 6.4 on Friday, down another 3 percent from August.
If the yuan falls 10 percent, private Taiwanese lenders, which represent 49 percent of the sector’s total assets, could incur losses of NT$79 billion (US$2.4 billion), or 0.4 percent of their assets and 5 percent of their equity, Fitch forecast.
The estimate assumes that TRF holders fail to honor 40 percent of their overall losses, bringing the sector’s return on assets down to 0.6 percent next year, from an expected 0.7 percent this year, the agency said.
Earnings from derivatives sales amounted to about 14 percent of banks’ net profits, Fitch said.
The banks would be able to absorb the losses, but at a significant cost to their already modest returns, the agency said.
“The associated financial impact is containable, but the exposure highlights domestic lenders’ weakness in risk governance, and opportunism as they seek higher growth and earnings opportunities amid the highly competitive banking sector in Taiwan,” Fitch said.
Taiwanese banks generally demand collateral that covers 60 percent to 70 percent of mark-to-market losses and only a small number of clients have difficulty meeting the requirement, the lenders said.
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