AHML. Housing and the mortgage lending market RESULTS FOR 2014:

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1 Housing and the mortgage lending market RESULTS FOR 2014: Research Centre March, 2015

2 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Table of Contents Main Conclusions and Forecasts... 3 Economic review: Results for 2014:... 6 Mortgage Lending Market: Devaluation of Rouble Has Stimulated Demand on Real Estate Purchasing Market of Mortgage-Backed Securities: Still Growing Housing and Construction Market: Mortgages Are The Main Driver of Development Housing and Mortgage Lending Markets in Regions Results of 's Activities in AGENCY FOR HOUSING MORTGAGE LENDING ()

3 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Main Conclusions and Forecasts In 2014 the economics of the country was under the influence of external negative factors - sanctions, drop in oil prices, capital markets restrictions. All these factors have led to the devaluation of rouble which in relation to a dual currency basket has dropped by more than 61% within the year and to the growth of rates in the financial markets including an unprecedented rise in funding costs for banks. The devaluation of rouble stimulated consumer demand which was financed primarily through prior savings. The reduction of deposits volume and depositors funds inflow against the background of limited ability to attract funding abroad has forced banks to increase deposits rates, and then loans rates as well, both for private and corporate clients. On the other hand, banks remain limited in their ability to accumulate loan portfolios. The slowdown of the credit portfolio growth rates allowed to alleviate the liquidity situation to a certain extent. Nevertheless the problem of raising long-term funding will remain in the current economic environment. Overall the mortgage market in 2014 was still the soundest segment of household lending and the main driver for its growth. For example, the volume of originated consumer (non-mortgage) loans in 2014 declined by 7.6% as compared with the same period of the previous year, whereas the volume of mortgage loans increased by 30%. Consumer (no mortgage) loans debt with overdue payments over 90 days amounted to 10.7% of the total consumer loans debt (being increased by 1.5 times from the beginning of the year). Overall in 2014, 1,012,312 mortgage loans were originated with the total value of RUB 1,762.6 bn, which is 1.2 times higher than the corresponding figures for the previous year in numerical terms, and 1.3 times higher in monetary terms. However, monthly rates of loans origination during the year were declining - from 52% in January to 13% in November as a result of the growth mortgage rates and the tightening of banks' requirements for borrowers. In December the demand for mortgages and housing was warmed up as a result of devaluation of rouble in the middle of the month and of the anticipation of a sharp rise in mortgage rates, due to raising of the key rate up to 17%. In December a number of banks suspended mortgage lending, including the loans approved earlier or established prohibitive rates at the level of 30% or more. In January 2015, minimal mortgage rates increased up to % (with the exception of certain joint actions with developers for the purchase of housing in specific residential complexes). Another important trend in the mortgage market was the growth of the mortgage portfolio on banks' balance sheets. As of January 1, 2015, the total volume of the mortgage portfolio on banks' balance amounted to RUB 3,520.3 bn, which is 32.9% higher than for the corresponding period of In the mortgage portfolio the NPL share (overdue more than 90 days) is quite stable at 2.1%, largely to the high growth rates of the portfolio itself. Still the growth of overdue debt in absolute numbers could be considered as a warning sign: during 2014 it has increased by 38.8% to RUB 75 bn. The growing role of securitization (secondary mortgage market) should be mentioned as a potential source of funding for new mortgage loans. On the whole, within 2014 twenty six issues of mortgage-backed securities were arranged totalling RUB bn and secured by residential properties loans. participated in twenty deals with a combined volume of RUB bn (66% of the total volume of issued MBS). Even during the general deterioration of the macroeconomic situation and slowing down of the pace of growth in the mortgage market, housing mortgage lending is still one of the basic sources AGENCY FOR HOUSING MORTGAGE LENDING ()

4 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, of the housing market growth. The share of the deals with the mortgage loans hit another record level in 2014: According to the Federal Registration Service 26.7% of all property rights registered in housing deals were acquired with a mortgage loan. In general, the housing market in the end of the year increased by 10%, and in many respects it was promoted by a feverish demand in December: in Q3 a housing market showed zero growth and in Q4 it amounted to 10%. Sustainable growth of the mortgage lending origination for five years lead to the increase in construction volumes for new housing. By the end of 2014 new housing completion amounted to million apartments of 81.9 million sq m 1, which set an all-time record in housing construction in Russia (even compared to the Russian Federation as a part of the USSR). However, in terms of industrial housing construction, Russia has not yet reached the maximum level of 1987 (68.6 million sq m): in 2014, the construction of 46.4 million sq m industrial housing was completed which corresponds to the level of 1991 Given that at least 40-50% of housing transactions in the primary market were conducted with the use of mortgage lending its development becomes one of the key factors defining the housing industry and significantly contributes the GDP growth. Under these conditions now the slowdown in the mortgage lending market can have a much greater effect on the economy as compared to the situation of In 2014 as compared with 2013, the number of contracts on shared-equity construction of apartment buildings continued its increase: +72% Quarterly growth rates in 2014 compared with the same periods in 2013 also remained high: Q2: +80%, Q3: +66%, Q4: +71%. It forms the foundation for further growth of completed housing construction but on the other hand while expecting the recession of economics it increases construction sector risks. It should be noted that in 2014 the simultaneous increase in mortgage lending and housing construction contributed to balancing of the housing market development - additional demand formed by mortgage loans absorbed the primary housing market. Throughout 2014 despite the general increase of prices (average annual inflation in 2014 totalled 7.8%) average housing prices rose 5.9% a year, which also contributed to preservation of housing demand for investment purposes (in terms of future inflation). Thus it was also possible to observe the decrease of housing prices and consequently the increase of its affordability for the public. In view of continuing impact of external factors on the country's economy it is difficult to talk about possible repetition of the records of 2014 for the coming year. The termination of economic growth observed in early 2015 and the rising inflation against the depreciation of rouble lead to the fall of the real income of the population, as well as the increase of the unemployment rate. The presence of these risks in the current high debt load environment 2 can result in difficulties for households in servicing of their debt obligations and consequently to the increase in the defaults' probability. In addition, the reduction in the capacity of borrowers to refinance their earlier loans will also contribute to the increase of credit risks. Any further developments and realization of the risks accumulated in the banking system will depend on the ability of credit institutions to adapt to changing conditions: decline in demand for loans, the rising cost of funding and increase in overdue loans in the event of the reduction of the real incomes. 1 Including the Crimean Federal District - 8,532 apartments of thousand sq m 2 Based on the entire population and not just the borrowers the share of loan payments in the income of the households now reached the record 20%. AGENCY FOR HOUSING MORTGAGE LENDING ()

5 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, The financial instruments offered by the Central Bank of Russia (mainly in the form of security repurchase agreements (repos) and loans secured by non-marketable assets and guarantees) could now be considered the primary channel for attracting liquidity. However, further increase in the volume of borrowing from the Central Bank of Russia is hampered by the limitations imposed on the categories of securities that banks can pledge or use for repo transactions with the Central Bank of Russia. In this connection estimates that accumulated high quality portfolio of the mortgage loans can be used by the Central Bank of Russia as a reliable collateral to provide liquidity. In such conditions mortgage lending tightening and rising interest rates on loans lead to cooling of the market, but the depth of the impact on the mortgage market in 2015 depends primarily on the length of the period of increased volatility in the financial markets including the interbank lending market and lending pledge of assets. At the same time the Programme elaborated by the Government of the Russian Federation on subsiding interest rates on mortgage loans for the acquisition of housing from a legal entity in the process of building and housing in newly constructed property will allow to support both the mortgage market and the housing industry. AGENCY FOR HOUSING MORTGAGE LENDING ()

6 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Economic review: Results for 2014: Macroeconomics In 2014 the economics of the country was under the influence of external negative factors - sanctions, drop in oil prices, capital markets restrictions. After the three-year period of stabilization at a level of 100+ USD per barrel in August the fall of oil prices started, which stopped at the end of the year at the level of USD per barrel (for Urals oil). The decrease by 50% of the value of the main export resource of Russia in conjunction with the increase of volatility in the financial markets, imposition of sanctions and trade restrictions accelerated the outflow of capital from Russia. By the end of 2014 according to the Central Bank of Russia it set a record since USD bn, which is almost 2.5 times more than in Figure 1: Dynamics of oil prices and capital outflows from Russia Urals oil price dynamics Capital outflows, USD bn. Source: Federal State Statistics Service, Ministry of Economic Development, Central Bank of Russia, Reuters, analysis To ensure the trade balance in the current environment, starting from the middle of November 2014, the Central Bank of Russia abandoned its support for the rouble exchange rate within the boundaries of the so called floating corridor and moved to the floating exchange rate policy, with inflation targeting as a major objective. However, the devaluation of rouble (within the year a rouble fell against the US dollar by 1.7 times and against euro - by 1.5 times) a quarter of which occurred in December causing an inflation shock: price growth in December became a record one for this month for last 16 years (+2.6% to a previous month), while an inflation rate reached 11.4% by the end of the year (compared to December, 2013). Figure 2: US dollar/euro exchange rates against Russian rouble, Source: The Central Bank of Russia AGENCY FOR HOUSING MORTGAGE LENDING ()

7 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Under these circumstances people wishing to secure their savings demonstrated dramatic demand for foreign currency cash and durable commodities including residential real estate, cars, land. In December retail trade turnover increased by 5% (compared to December, 2013) noting the fact that starting from June, 2014, the growth rate has not exceeded 2% (annualized). Figure 3: Retail trade turnover on a comparable basis, in % to the corresponding month of the previous year Source: The Federal State Statistics Service Active consumer demand and import substitution contributed to keeping the rate of GDP growth, albeit at a minimum value. According to the Federal State Statistics Service within 2014 the Russian economics grew by 0.6% (the previous year - by 1.3%). At the same time business activity remains low: investments in fixed assets have decreased by 2.5% while the consumer confidence index has fallen down to a record level since the end of Figure 4: Dynamics of GDP and inflation in Russia Consumer price index, annual average,% GDP growth relative to the previous year, % Source: Federal State Statistics Service, Ministry of Economic Development, Central Bank of Russia, Reuters, analysis The rising prices and the economic growth slowdown have a negative impact on the income and the living standards of the population. By the end of 2014 the disposable income of the population fell by 1%, although due to the indexation of wages for the public sector employees, disposable income increased (+ 1.3%) by the end of In 2015, the reduction of the real income is expected primarily due to high inflation, as well as to the possible increase of unemployment including in an indirect form. The expectation of the living standards deterioration is also demonstrated by the consumer confidence index falling in Q (according to the Federal State Statistics Service) down to the figures of the crisis period in AGENCY FOR HOUSING MORTGAGE LENDING ()

8 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Realization of these risks in the current high debt load environment 3 can lead to significant increase in the household defaults on loans and as a consequence to significant losses for banks. Very similar developments can now be observed in the unsecured consumer lending sector: according to the Central Bank of Russia, the share of overdue unsecured consumer loans increased in December to 17.8%. As a result, the leaders of consumer lending sector had to increase manifoldly their reserves for possible losses on existing loans. 4 Combined with the reduction in the loan portfolio growth rate 5, it resulted in the shrinking profit and losses for some banks. Figure 5: The population debt load dynamics Dynamics of households debt load, , % share of individual loans overdue within the reporting period,% Source: The Central Bank of Russia, analysis In addition, the reduction in the capacity of borrowers to refinance their earlier loans will also contribute to the increase of credit risks. According to the research of the Central Bank of Russia the largest retail banks 6 have a significant share of the loans approved for borrowers who already have outstanding debt owed to the bank: for the first quarter of 2014 the share of such borrowers was 41% by the number of loans and 44% by volume. As a result the growth rate of the individual lending sector dropped while mortgage lending remained one of the major sources for the growth in the banks' loan portfolio. The volume of the approved consumer (non-mortgage) loans in 2014 declined by 7.6% compared to the same period of the previous year, while the volume of mortgage loans increased by 30%. The share of mortgage loans in the total volume of lending to individuals in 2014 increased by 5 pp. (compared to 2013) and hit the record of 20.4%. 3 Based on the entire population, not just the borrowers, the share of loan payments in the income of the households now reached the record 20%. 4 For 2014 the reserves for possible losses in the entire banking sector have increased by 43.1%, which is 2.8 times higher than the corresponding figures for 2013 (+15.3%). 5 As of January 1, 2015, the growth rate in the unsecured consumer loans sector for the past 12 months amounted to 8.9%; as of January 1, 2014 it amounted to 31.3%. 6 See Financial Stability Review. June 2014 AGENCY FOR HOUSING MORTGAGE LENDING ()

9 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Banking Sector In order to lower the increased inflation expectations in 2014 the Central Bank of Russia gradually increased its key interest rate from 5.5% to 17%. These actions consequently raised the funding cost and affected the banking sector as well: the yield on 5-year Russian FL bonds increased by 4.3 pp in a year to the level of 14.2% (as of December 30, 2014), while Mosprime 6M rate - by 5.8 pp to 24.3%. Figure 6: Dynamics of rates in , % Source: The Central Bank of Russia, analysis The rise in the funding cost has led to the increase in lending interest rates both to individuals and to businesses. Besides, the current economic conditions (low growth rate in industrial production, high level of credit interest compared to the profitability of the business, insufficient internal funds and high exchange rate volatility) for business do not stimulate companies to take part in new investments and, consequently, reduce the demand for loans from corporate (nonfinancial) sector. In addition, noticeable signs emerged of deterioration in the quality of corporate debt: in 2014 the volume of companies' overdue debt increased by 33% whereas the corresponding figure for the entire 2013 is 7%. The main reasons for this trend is the reduction of enterprises' profits and the increase of loan interest rates, what restricts the possibility to refinance earlier loans and reduces the possibility of servicing of own debt obligations. AGENCY FOR HOUSING MORTGAGE LENDING ()

10 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 7: Interest rates dynamics (loans to individuals, corporate entities and interbank rates) Weighted average interest rates on loans to individuals, by maturity Weighted average interest rates on loans to non-financial organizations, by maturity Source: The Central Bank of Russia, analysis The tightening conditions for raising funds internationally (especially for companies and banks directly affected by the sanctions) have increased demand for the foreign debt refinancing from corporate (non-financial) sector and have contributed to the rapid decrease of the amount of foreign liabilities of Russian banks (-20% in 2014). However, even on the domestic market it has become increasingly difficult for companies to obtain debt financing due to the banks' expectations of deterioration in the financial condition of borrowers. On the other hand, banks remain limited in their ability to accumulate loan portfolios: their capital adequacy ratio continues to decrease. At the end of December their ratio of equity to the assets weighted by their risk levels has decreased to 12.5%, the lowest figure since 2005 (for example, in early 2010 the capital adequacy ratio reached almost 21%). The share of banks with a minimum capital adequacy (N1: 10% - 12%) in assets of the banking system increased during 2014 by 2.5 times - up to 47%. AGENCY FOR HOUSING MORTGAGE LENDING ()

11 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 8: Dynamics of the capital adequacy levels in the banking sector Equity to assets weighted by risk levels ratio (capital adequacy), banking sector overall, % end of period Number of banks with the minimal capital adequacy ratio (N1 = 10-12%) and their share in the banking sector assets, end of period Source: The Central Bank of Russia The slowdown in lending volume growth rates allowed to improve the 'liquidity situation' a little but the problem of the attraction of long-term sources of funding in the current environment is not solved. The financial instruments offered by the Central Bank of Russia (mainly in the form of security repurchase agreements (repos) and loans secured by non-marketable assets and guarantees) could now be considered the primary channel for liquidity attraction. The role of these instruments in credit institutions funding has become even more important after the actual cessation of interbank lending operations in December, In 2014, the total debt of credit institutions to the Ministry of Finance and the Central Bank of Russia increased by 5.1 trillion roubles. The share of funds provided by the Central Bank of Russia in the aggregate increase of individual/corporate loans portfolio in 2014 amounted to 69.1%. Figure 9: The volume of liquidity support to banks from the Central Bank of Russia and the Ministry of Finance, RUB bn Source: Central Bank of Russia, Center for Macroeconomic Analysis and Short-Term Forecasting AGENCY FOR HOUSING MORTGAGE LENDING ()

12 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, However, further increase in the volume of borrowing from the Central Bank of Russia is hampered by the limitations imposed on the categories of securities that banks can pledge or use for repo transactions with the Central Bank of Russia. In this connection, holds an opinion that the accumulated high quality portfolio of mortgage loans can be used by the Central Bank of Russia as a reliable collateral to provide liquidity, the potential of which is practically unused. Thus, as of , mortgage-backed securities in the amount of not more than RUB 340 bn (less than 10% of total mortgage debt) were included in the Lombard list of the Central Bank of Russia, the securities of which can be used as a collateral for loans. At the same time mortgages loans are higher-quality assets compared to other consumer loans: the share of mortgage loans with overdue payments for more than 90 days was 2.1% compared with 7.9% for other loans to the public. Figure 10: Overdue loans (90+ days) granted to individuals in the total accumulated debt during , % Source: The Central Bank of Russia, analysis The consequence of the conservation of this 'liquidity situation' is likely to become the tighter access to banks' credits for end borrowers. The support for banking system can be implemented by providing access to sources of long-term funding for more reliable mortgage lending, for example against collateral of mortgage assets or mortgage-backed securities, as well as in within a programme, similar to the Vnesheconombank's Programme of investments to affordable housing and mortgages. To support the banking sector due to decrease of financial markets availability and transfer to a floating exchange rate of rouble, the Central Bank of Russia decided to ease the banking regulation. In particular, credit institutions are entitled until when they calculate prudential norms on foreign currency transactions, to use the official exchange rate of the rouble set by the Central Bank of Russia for Credit institutions also can not degrade the quality assessment of the debt servicing, regardless of the evaluation of the borrower's financial position. In order to diversify mortgage lending by the level of risk for the calculation of the mandatory standards there were introduced two new weighting factors of risk: 50% - for mortgage lending with a low level of risk (principal debt does not exceed RUB 50 mln, LTV at the date of origination - not more than 50%, PTI at the date of origination - not more than 40%); AGENCY FOR HOUSING MORTGAGE LENDING ()

13 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, % - for mortgage lending with a higher level of risk (LTV at the date of origination is more than 90%). However, in order to limit the risks connected with lending the public in foreign currency from April 1, 2015 weighted risk factor for newly originated loans was increased from 150% to 300%. AGENCY FOR HOUSING MORTGAGE LENDING ()

14 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Mortgage Lending Market: Devaluation of Rouble Has Stimulated Demand on Real Estate Purchasing In 2014, 1,012,312 mortgage loans were originated with the total value of RUB 1,762.6 bn, which is 1.2 times higher than the corresponding figures for the previous year in terms of origination and 1.3 times higher in monetary terms. Figure 11: Dynamics of the volume and the number of originated mortgage loans during * * Information on the number of loans originated before 2008 is not available. Source: The Central Bank of Russia Considering the tension in financial and currency markets real estate has become a popular target for investments. The analysis of banking statistics shows that investments to housing are now considered an alternative to bank deposits. The second factor of the mortgage market growth is the realized demand of future periods. Many people who were going to buy a house for their own needs, but those who waited for the right moment to do it realized that in short-term outlook an improvement of conditions is not probable and decided not to delay the purchase of a house and to use a mortgage loan. Throughout 2014 monthly rates of loans origination during the year were declining - from 52% in January to 13% in November as a result of mortgage rates growth and tightening banks' requirements for borrowers. In December, the demand for mortgages and housing was warmed up as a result of devaluation of rouble in the middle of the month and of the anticipation of a sharp rise in mortgage rates, due to raising of the key rate up to 17%. In such circumstances the potential borrowers, who had a loan approval in hand hurried to take the opportunity to get a loan at the approved rates. AGENCY FOR HOUSING MORTGAGE LENDING ()

15 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 12: The dynamics of the mortgage loans volume growth for , % to the corresponding month of the previous year Source: Central Bank of Russia, analysis The majority of the participants reviewed at the end of 2014 basic conditions of mortgage lending: raised the down-payment, abolished the possibility of obtaining a loan on two documents or a statutory personal income statement in the free form. A number of participants suspended in December mortgage lending or established prohibitive rates at the level of 30% or more. In January 2015, minimal mortgage rates increased up to % (with the exception of certain joint actions with developers for the purchase of housing in specific residential complexes). These actions, combined with rising interest rates on loans lead to the cooling of the market, but the depth of the impact on the mortgage market in 2015, depends primarily on the length of the period of the increased volatility in the financial markets, including the interbank lending market and lending pledge of assets. At the same time the Programme elaborated by the Government of the Russian Federation on the subsiding of the interest rates on mortgage loans for the acquisition of housing from a legal entity in the process of building and housing in the newly constructed property will allow to support both the mortgage market and the housing industry. On average in 2014, the mortgage origination rate in roubles was 12.5% which corresponds to the level of However, in December, mortgage loans on average were originated at the rate of 13.2%, while in January, at the rate of 14.2%, which is the highest rate since the end of AGENCY FOR HOUSING MORTGAGE LENDING ()

16 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 13: Rates for mortgage loans (in roubles) originated during a month ( ), % Notes: According to s estimations, anomalously low monthly origination rates in November 2013 and March 2014 were the result of some inaccuracies, made by individual banks in filling in reporting forms and rounding. Actual origination rates were, according to s estimations, of about % in November 2013 and about % in March 2014 Source: The Central Bank of Russia In general we can say that the banks in 2014 tried to keep mortgage rates low enough, at that integrating a multi-direction pricing policy depending on the marketing strategy and the availability of different sources of funding, and were reluctant to increase the rates. The main method of competition against these conditions was the reduction of requirements for mortgage borrowers, already started in According to the Central Bank of Russia starting from the beginning of 2013 and till Q there was noted a significant increase of loans origination with initial payments of 10-20% and on the other hand a decrease of loans origination with initial payments of over 60% which can be an indication of mitigation of the banks' mortgage lending standards within this period, and of an increase in the volume of origination of mortgage loans with a higher credit risk. In general according to the Central Bank of Russia the mortgage portfolio of banks includes 47.5% share of loans with a down payment of less than 30%, and 27.7% share of loans with a down payment of less than 20%, which can potentially be a source of systemic risks. At the same time the quality of a mortgage portfolio is still at a high level. The share of mortgage loans with a term of delay of payments more than 90 days is 2.1%, while total mortgage loans without a single overdue payment is 95.5%. AGENCY FOR HOUSING MORTGAGE LENDING ()

17 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 14: The structure of overdue debt in terms of delay for , % Source: The Central Bank of Russia, analysis However, this stability is mainly provided by mortgage portfolio high growth rates (+ 33% in 2014). In absolute terms the non-performing loans (overdue more than 90 days) increased in 2014 almost by 39% up to RUB 75 bn. Even at the beginning of 2015 together with the possible reduction of mortgage origination one can observe the trend of the increase not only in the volume but also the share of overdue mortgage payments. Table No. 1 Grouping of mortgage loans overdue payments by delay terms Total mortgage loans outstanding debt as of 01/01/2014 as of 01/01/2015 Remaining amount of principal debt, RUB mln % Remaining amount of principal debt, RUB mln All mortgages in the portfolio, including: 2,648, ,520, to 90 days past due 10, , to 180 days past due 6, , over 180 days past due 47, , Source: The Central Bank of Russia % In case of a sharp slowdown in the market which is already probable at the beginning of 2015 the quality of the banks' mortgage portfolios will begin to deteriorate rapidly. An example of this trend is the situation with the unsecured consumer lending. Banks should carefully assess credit risks and avoid the unnecessary reduction of requirements for borrowers - in case of a sharp deterioration in an economic situation it is the borrowers, receiving illegal salaries, not able to confirm their income with 2-PIT certificate, who will suffer the most. In addition the borrowers having a mortgage loan besides to consumer loans will also be vulnerable. On the other hand compared to the situation of mortgage borrowers are now much more resistant to exchange rate shocks. By the end of 2014 the share of mortgage loans in AGENCY FOR HOUSING MORTGAGE LENDING ()

18 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, foreign currency in an aggregate mortgage portfolio amounted to only 3.9%, having dropped down by 0.3 percentage points for the year. Let us remind you that in 2005 the share of foreign currency debt in an aggregate portfolio was more than 50%, while in it was not less than 20%. The share of foreign currency debt started to fall after crisis, when currency mortgages origination was virtually ceased. Thus, in 2014 only 750 foreign currency loans were originated against 1,011,562 loans in roubles. Overall, the mortgage market remained the soundest segment of household lending and the major driver for its growth in Thus, the volume of approved consumer (non-mortgage) loans in 2014 declined by 7.6% compared to the previous year while the volume of mortgage loans increased by 30%. Consumer (no mortgage) loans debt with overdue payments over 90 days amounted to 10.7% of the total consumer loans debt (being increased by 1.5 times from the beginning of the year). Such situation has already led to the fact that the leaders of consumer lending increased reserves for possible losses on loans 7 manifoldly and reduced the profit (indicated losses) at the end of However, their ability to increase interest income due to the growth of a loan portfolio in current environment is limited due to the low value of equity (12.5% - the lowest value since 2004) and a decrease in demand for credit products. 7 For 2014 reserves for possible losses in the entire banking sector have increased by 43.1% which is 2.8 times higher than the corresponding figures for 2013 (+15.3%). AGENCY FOR HOUSING MORTGAGE LENDING ()

19 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Market of Mortgage-Backed Securities 8 : Still Growing Despite the increased volatility and the reduced interest of investors in the Russian capital markets, mortgage-backed securities market continues to show growth largely due to the implementation of programmes of and Vnesheconombank on mortgage-backed securities purchase. In 2014, there were 26 issues of mortgage-backed securities secured by loans originated on the pledge of real estate including from the bank's balance (DeltaCredit Bank, VTB 24 bank and Gazprombank). Within Vnesheconombank's Programme there were performed 14 issues of mortgage-backed securities (mainly in December). The total volume of emissions for the reporting period amounted to RUB bn being an increase by 1.6 times compared to the same period of the previous year (RUB bn). Share of the raised funds (through the issuance of mortgage-backed securities) in the reporting period from the total volume of originated loans was 13.1% (compared to 10% for the previous year). At the same time, market participants, issuing MBS, have funded approximately 16% (excluding Sberbank - 40%) of a total volume of originated mortgage housing loans for the entire 2014, from this source. Figure 15: The volume of mortgage-backed securities issuance in Source: The Central Bank of Russia, analysis Senior tranche average weighted rate 9 of mortgage securities by the end of the year was 9.1% per annum compared with 8.5% in 2013 (excluding senior tranches issued under the Vnesheconombank Programme at an interest rate of 3%). 8 Hereinafter the mortgage-backed securities are understood as securities backed by mortgage loans. 9 Including issues form the banks' balance. AGENCY FOR HOUSING MORTGAGE LENDING ()

20 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 16: Comparison of the weighted average interest rates of mortgage loans in roubles and senior tranches rates for MBS, Source: The central Bank of Russia, analysis It is noteworthy that the weighted average interest rate of senior tranches for mortgage securities issues implemented in December 2014 is significantly lower than the values of the basic financial market indicators. These transactions, the preparation of which was carried out throughout 2014 were mainly technical in nature and the main buyers of mortgage-backed securities was VEB (within Vnesheconombank's Programme of investments to affordable housing construction and mortgage lending in ) and credit institutions, have provided the mortgage collateral for these mortgage-backed securities. In addition many participants use the securitization for the subsequent refinancing of mortgage-backed securities in the Central Bank of Russia through REPO tools. The share of mortgage-backed securities issued by special mortgage agent (SPV) amounted to 84.5% of the total MBS issuance (in %). The share of MBS issuance from the bank's balance was 16.5% in 2014 (against 23.7% in the previous year). AGENCY FOR HOUSING MORTGAGE LENDING ()

21 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 17: Comparison of the senior tranches yield for MBS, 5-year Federal loan bonds and the key rate of the Central Bank of Russia in , % per annum Source: The Central Bank of Russia, Reuters, analysis AGENCY FOR HOUSING MORTGAGE LENDING ()

22 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Housing and Construction Market: Mortgages Are The Main Driver of Development Despite the general deterioration of the macroeconomic situation and slowing down of the pace of growth in the mortgage market, housing mortgage lending is still one of the basic sources of the housing market growth. The share of the deals with the mortgage loans hit another record level: According to the Federal Registration Service, all property rights (26.7%) registered in housing deals in 2014, were purchased with a mortgage loan. In general, the housing market in the end of the year increased by 10%, and in many respects it was promoted by a feverish demand in December: in Q3 a housing market showed zero growth and in Q4 it amounted to +10%. Figure 18: The dynamics of the real estate market and the share of mortgage loans in transactions with housing, results of the year, Source: Federal Registration Service, analysis Sustainable growth of the mortgage lending origination for five years lead to the increase in construction volumes for new housing. By the end of 2014 new housing completion amounted to million apartments of 81.9 million sq m 10, which set an all-time record in housing construction in Russia (even compared to the Russian Federation as a part of the USSR). However, in terms of industrial housing construction, Russia has not yet reached the maximum level of 1987 (68.6 million sq m): in 2014, the construction of 46.4 million sq m industrial housing was completed which corresponds to the level of Given that at least 40-50% of housing transactions in the primary market were conducted with the use of mortgage lending its development becomes one of the key factors defining the housing industry and significantly contributes the GDP growth. Under these conditions now the slowdown in the mortgage lending market can have a much greater effect on the economy as compared to the situation of Including the Crimean Federal District - 8,532 apartments of thousand sq m 11 Further in the section the rates are presented with exclusion of data on the Crimean Federal District AGENCY FOR HOUSING MORTGAGE LENDING ()

23 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 19: The volume of the annual housing construction in Russia, million sq.m Source: The Federal State Statistics Service, analysis By the end of 2014 investments to housing were still growing: for the period January-December, 2014, investments growth totalled to RUB bn, which is 16.7% higher than a year before. In this case, 41% was funded by the public as a part joint construction of apartment buildings (RUB bn, % compared to January-December 2013). Figure 20: Investments in housing and funds received from public for equity participation in construction, Source: The Federal State Statistics Service, analysis Significant impact of mortgage lending to the construction market is indirectly confirmed by the data of the Federal Registration Service, according to which the share of contracts on joint AGENCY FOR HOUSING MORTGAGE LENDING ()

24 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, construction with attraction of credit funds and special-purpose loans in the entire volume of contracts on joint construction rose by 9% at the end of 2014, compared to However, within the quarters, this share decreased in Q and Q (in Q the share amounted to 30%, in Q3-28%, in Q4-26%). In 2014, compared with 2013, the number of contracts on joint construction of apartment buildings continued to increase: +72% Quarterly growth rates in 2014 compared with the same periods in 2013 also remained high: Q2: +80%, Q3: +66%, Q4: +71%. It forms the foundation for further growth of completed housing construction but on the other hand while expecting the recession of economics it increases construction sector risks. Figure 21: Registered contracts on equity participation of citizens in the construction of housing in Source: Federal Registration Service, analysis In 2014, construction was mainly carried out in cities and towns million sq m (share of the total volume of completed housing construction is 73.5%), in rural areas million sq m. As compared with the corresponding period of a previous year, the growth in housing construction reached 12.3% and 22.6%, respectively. The structure of housing construction completeness at the end of 2014 compared with the corresponding period of a previous year remained virtually unchanged: 43% of all new housing was built by individuals at their own expense and with the use of loans (self-built housing), and about 4% of housing construction was completed in 2014, with the use of budget funds. At the same time the growth of housing construction in 2014 in relation to 2013 occurred largely at the expense of industrial home construction. Thus, the contribution of this sector to an increase of housing construction was 58%, which is 16 percentage points above the level of AGENCY FOR HOUSING MORTGAGE LENDING ()

25 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 22: Structure of housing composition for Total floor area of residential buildings in % of all housing constructed Source: The Federal State Statistics Service, analysis Dynamic development of mortgage lending (at least 40-50% of transactions were performed with the usage of this instrument) becomes one of the main determinants for a housing construction sector and makes significant contribution to GDP growth. Under these conditions now the slowdown in the mortgage lending market can have a much greater effect on the economy as compared to the situation of It should be noted that in 2014 the simultaneous increase in mortgage lending and housing construction contributed to balancing of the housing market development - additional demand formed by mortgage loans absorbed the primary housing market. In 2014, prices for residential housing rose on the average by 5.9% a year, which is 7.8% less than average annual inflation rate. Thus, in real terms, prices for residential housing in 2014 were decreasing. Figure 23: Housing affordability index in the primary and secondary markets in , % Source: The Federal State Statistics Service The level of housing affordability remained virtually unchanged as compared to Thus, housing and mortgage markets were developing in 2014 in a balanced way, without a 'bubble' formation. AGENCY FOR HOUSING MORTGAGE LENDING ()

26 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 24: Housing affordability index in (2005 = 100%) The index is calculated as the ratio of the real housing market price index (primary market / secondary market, less the inflation) and the real personal disposable income. A decrease in the index shows that the housing affordability is growing. Source: The Federal State Statistics Service, analysis In the conditions of economy's fall into a recession, price increase and decline in real incomes of the population, we can expect weakening of the housing market (drop in the number of transactions) and decrease in housing prices in real (net of inflation) terms. AGENCY FOR HOUSING MORTGAGE LENDING ()

27 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Housing and Mortgage Lending Markets in Regions Mortgage lending in the regions The general trends in the development of the housing mortgage lending market that were observed in Russia as a whole, were typical for most of the regional mortgage lending markets. In 2014, the difference between the rates in the regions decreased (the coefficient of variation decreased to 2.1% as compared with 2.4% in 2013). The highest average weighted rate on mortgage loans in roubles (13%) was recorded in the Republic of Adygea, and the lowest (10.9%) one was recorded in Sevastopol. The average rates in Russia of % were recorded in 68 Russian regions, including Moscow, St. Petersburg, as well as Tyumen, Novosibirsk, Leningrad and Moscow regions. Figure 25: Ranking of regions (in descending order) in terms of the average weighted interest rates on existing mortgage loans (YTD, as at the period end) in Source: The Central Bank of Russia As compared with 2013, the rates rose in 34 regions, decreased in 43 regions and remained unchanged in 6 regions. The growth in loan granting was observed in 82 regions of Russia, while a decrease was noted in one region (Khanty-Mansi Autonomous District). It should be noted that the rates were grouped on the regional level by the Central Bank of Russia based on the place of permanent residence of the borrower. AGENCY FOR HOUSING MORTGAGE LENDING ()

28 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 26: Top 30 Russian regions with the highest volume of granting mortgage loans in 2014 (in descending order), RUB mln Source: The Central Bank of Russia During 2014, the total volume of mortgage loans originated in the five leading regions (Moscow, Moscow region, St. Petersburg, Tyumen region and the Republic of Tatarstan) amounted to RUB 563 bn (31.9% of the total origination). This figure practically corresponds to the data for 2013 (32.7%), which shows a stable concentration of the mortgage lending market on the regional level. In 2014, the largest number of mortgage loans was originated in Moscow, Moscow region, St. Petersburg, Republic of Tatarstan and Tyumen region. Together, 21.6% of all mortgage loans were originated in these regions, like in a previous year (21.7%). In the Q4 2014, 11 regions demonstrated an average fall in the number of originated mortgage loans (as compared with the same period of the previous year) of 8% (including in Khanty- Mansiysk Autonomous District by 12%, in Yamal-Nenets Autonomous District, the Republic of Tyva and Altai Territory of 11%, in Moscow and Omsk region of 6% and in the Komi Republic of 1%), whereas the volume of mortgage loans fall was recorded in 6 regions: in the Republic of Tyva - by 21%, in the Khanty-Mansiysk Autonomous District - by 16%, in Tyumen region - 10%, in the Chelyabinsk region - by 4%, in the Yamal-Nenets Autonomous District - by 36%, in the Altai Territory - by 2%. 102,042 loans for a total amount of RUB bn were originated in Moscow and the Moscow Region during 2014, which is 1.3 times higher than the corresponding level of 2013 in quantitative and monetary terms. The share of Moscow and the Moscow Region amounts to 10.1% in quantitative and 18.9% in monetary terms of the total volume of mortgage loans originated in Russia. Last year, the share of Moscow and the Moscow Region was 9.8% and 19.0%, respectively. The rates on mortgage loans in roubles were 12.5% in Moscow and the Moscow Region, while the average loan maturity was 14.6 years. Among the features of the mortgage lending market in the Moscow Region, we should first of all note a considerably higher average loan amount RUB m, reaching 3.9 RUB m in Moscow, and 2.7 RUB m in the Moscow Region. It will be recalled that an average loan amount in Russia was 1.7 RUB m in This dynamic was due, first of all, by significant difference in the price of real estate. AGENCY FOR HOUSING MORTGAGE LENDING ()

29 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Housing Market In 8 regions, 12 the growth rate of the housing market in 2014 was more than twice higher than the average rates in Russia, and in two regions 13 the housing market fell by more than 13%. Following the results of IV quarter of 2014, the decline in the number of housing transactions was observed in 11 regions, including in the Republic of Ingushetia by 15% as compared with the IV quarter of Following the results of Q3 2014, the decline in the number of housing transactions was observed in 29 regions, including in the Krasnodar Territory by 75% as compared with the III quarter of In Q1 2014, there were only 6 such regions, in the Q2-9 and in Q3 there were 29 of them. Largely, the decrease in the number of regions where housing transactions dropped, was fostered by high demand for housing in December. Nevertheless, as the mortgage lending market, whose influence on the housing market was growing in most regions in recent years, is slowing down, the decline in the demand for housing may become even greater and affect more regions, then in Q3. Figure 27: Growth rates of the number of transactions in the housing market in the subjects of the Russian Federation in Q4 2014, % (compared with Q4 2013) Source: Federal Registration Service, analysis In 2014, there was an increase in sales of housing in the housing market in the Moscow Region (Moscow and the Moscow Region): as compared with 2013, the number of transactions 14 increased by 29.1%. The share of the rights encumbered by mortgage in the transactions with housing increased from 28.9% to 29.8%. 12 The Moscow Region, the Jewish Autonomous Region, the Amur Region, the Leningrad Region, the Kaliningrad Region, the Republic of Dagestan, the Arkhangelsk Region (including the Nenets Autonomous District), the Chuvash Republic 13 the Krasnodar Territory, the Republic of Ingushetia 14 By the number of property rights to housing registered in the transactions with housing. AGENCY FOR HOUSING MORTGAGE LENDING ()

30 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 28: Number of rights registered in the transactions with housing and the share of rights encumbered by mortgage in Moscow and Moscow region in Source: Federal Registration Service, analysis In the Moscow Region, the housing market was growing in Q4 the same way as on the other territories of Russia: an increase in the number of housing transactions in comparison with Q is 24%. For comparison: in Q3 2014, as compared with the same period of 2013 the growth amounted to 18%, in Q as compared to Q to 41%, in Q as compared with Q to 38%. Housing prices 15 In 2014, the situation with housing prices in the regions was as follows: The prices increased on the primary market (the price index for 2014 as compared with 2013 is more than 100%) in 73 regions, including in the Karachay-Cherkess Republic %, in the Kamchatka Territory %, in the Leningrad Region %, in the Moscow Region %, in Moscow %, and in St. Petersburg % as compared with Of these, higher than the inflation 16 in 21 regions. A decrease in nominal prices was observed in 6 regions: in the Vologda Region %, in the Novgorod Region %, in the Khabarovsk Territory %, in the Kaluga Region %, in the Chelyabinsk Region %, in the Lipetsk Region % as compared to Prices increased on the secondary market (the price index for 2014 as compared 2013 is higher than 100%) in 79 regions, including in the Karachay-Cherkess Republic %, in the Leningrad Region %, in the Moscow Region %, in St. Petersburg %, and in Moscow %. Of these, higher than the inflation in 15 regions. A decrease in prices was observed in three regions: in the Tver Region %, in the Vologda Region %, and in the Khabarovsk Territory %. Construction The share of housing constructed by individuals at their own expense and using loans in the total floor area of the housing commissioned in 2014 amounted to: in Russia as a whole %; in the Republics of Dagestan and Tuva, in the Kabardino-Balkar Republic, in Karachay-Cherkessia, in 15 All figures are given excluding the Crimean Federal District 16 Hereinafter regional CPI was used in the analysis of prices in the regions AGENCY FOR HOUSING MORTGAGE LENDING ()

31 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, the Chechen Republic, as well as in Belgorod, Lipetsk and Tambov Regions - from 70.4% to 95.5%. Figure 29: The share of commissioning of housing constructed by developers in 2014, % of the total commissioned housing Source: The Federal State Statistics Service, analysis The largest volumes of housing construction by developers in 2014 were achieved in large-scale investment and industrialized regions. In the Moscow Region %, in St. Petersburg - 6.4%, in Moscow - 6.2%, in the Krasnodar Territory - 5.1% of total floor area of housing constructed by developers commissioned in Russia. 50.4% of the total volume of housing constructed by developers in the country was commissioned in ten leading regions during 2014 (previous year %). Thus, it can be said that the construction of housing by developers in Russia reflects the high concentration of the economics as a whole. AGENCY FOR HOUSING MORTGAGE LENDING ()

32 RESEARCH CENTRE/ THE QUARTERLY REPORT/ MARCH, Figure 30: Top 30 regions of Russia in terms of the volume of commissioned housing constructed by developers in 2014, thousand sq m Source: The Federal State Statistics Service, analysis Following the results of 2014, as compared with , the largest increase in completing housing constructions by developers was observed in the Moscow Region - 1,466.5 thousand sq m (+29%), in the Krasnodar Territory thousand sq m (+36%), in St-Petersburg thousand sq m (+22%), in the Chelyabinsk Region thousand sq m (+56%). The largest decrease in completing housing constructions by developers was observed in the Republic of Ingushetia thousand sq m (-46%), in the Primorsk Territory thousand sq m (-22%), and in the Krasnoyarsk Territory thousand sq m (-9%). Figure 31: Commissioning of housing in 2014 per 1,000 persons, % of the average in the Russian Federation Source: The Federal State Statistics Service, analysis 17 The information on the Crimean Federal District for 2013 is not available. AGENCY FOR HOUSING MORTGAGE LENDING ()