With most major markets in Asia-Pacific set to introduce the International Financial Reporting Standard ("IFRS") 9 by 2018, regional banks' earnings and regulatory capital ratios could face increased pressure and volatility, according to Fitch Ratings.
IFRS 9 requires banks to switch to recognising and providing for expected credit losses ("ECL") on financial assets, rather than the current practice of providing only when losses are incurred, Fitch said. It will also change the way that banks account for a wide range of financial assets.
Fitch said it expects the adoption of the new standard to lead to greater provisioning and earlier recognition of credit losses, which will have an impact on banks' financial statements and regulatory capital.
The agency said that moving to an expected-loss approach would require significant changes in processes, including greater integration of credit risk management and internal accounting systems. Banks would also need more data on how portfolios perform though the credit cycle, and will need to build models of expected losses.
"It is too early to estimate the full effects of IFRS 9 on provisions, profitability and capital, as banks have been reluctant to disclose much beyond acknowledging that provisioning will need to be raised," Fitch said. "For some markets, the change in accounting standards is happening at a time when banks are struggling to meet progressive increases in minimum capital requirements as Basel III is phased in."
The agency said the local equivalent of IFRS 9 could be delayed in India due to challenges faced by the banking system in meeting the capital required by March 2019 for Basel III.
"Banking systems that have been characterised by under-reporting of impaired assets also look vulnerable to the potential rise in provisioning," it said. "In China, banks are required to make provisions on reported loans at rates higher than in most other jurisdictions, but IFRS 9 could still expose asset-quality problems...given the amount of non-loan credit disguised as financial assets."
In contrast, the financial impact of IFRS 9 for banks could be softened by regulatory framework practices in countries such as Australia, Hong Kong, Korea, Malaysia, the Philippines, Singapore and Taiwan, the agency said.
While banks would still face provisioning pressures in these markets, their current regulatory frameworks either already involve elements of the expected-loss approach, or banks hold reserves that regulators did not allow them to fully release when IAS 39 was introduced, it said. In addition, regulators in most of these countries have forced banks to hold higher reserves, which will provide a buffer against potential losses, it added.