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Investment Research — General Market Conditions

6 October 2009

Latvia - Escalation of crisis


Non-recourse loans in Latvia?
THE STATEMENTS IN THIS TEXT ARE SUBJECT TO CONSIDERABLE
Today’s key points
UNCERTAINTY DUE TO THE UNCLEAR INFORMATION SITUATION.
The tensions between Latvia and
According to several news agencies the Latvian prime minister has asked his legal experts
to bring forward a bill that will limit mortgage lenders’ liability to the value of the their lenders have reached a new
collateral – not the size of the loan. As far as we can tell, there are indications that the level. There is news out that the
proposal will apply to prime residence loans only; second homes and buy-to-let properties Latvian Prime Minister may
would thus not be covered if this is correct. These make up some 50% of all mortgage propose draconian legal
loans. However, the Latvian newspaper Diena today states that the law would apply to all measures that will have large
existing loans without closer specification, so the situation is unclear. Any legal bill will ramifications for foreign banks in
probably take a few months to draught; however, a law to the effect implied here can be Latvia
made to be applied retroactively. The proposal as it stands also
This will for all practical reasons be a non-recourse model, where mortgage borrowers implies a removal of a major
can hand in the keys to the bank, and not be liable for anything. obstacle for the Latvians to
devalue their currency
According to the article, the purpose is to stop lenders (=banks) to make claims on
borrowers’ other assets, if a sale of the collateral cannot cover the loan.

Furthermore, the legal experts are asked to come up with a proposal, where a bank that
repossesses a house is liable to provide the family with somewhere else to live, and
the new place should be accepted by the borrower => this could mean that if a bank
repossesses a 150sqm home it has to offer the previous owner another home – however,
this does not have to be the same size, and the borrower can reject the home, thereby
prolonging the situation.

According to the spokesman of the Prime Minister these steps have been taken on the
back of the current situation on the financial markets and borrowers’ increasing problems
to service their loans.

Where does this leave the banks active in Latvia? In a very bad position. With property
prices down some 70% from the peak, it must be tempting to stop paying mortgage loans
for borrowers with negative equity, which applies to the majority of mortgage borrowers
in Latvia today.

The major advantage from the Latvian government’s point of view is that
devaluation will no longer pose a big problem! The major obstacle has been the fact
that loans are made out in EUR, but collateral has been in LVL, and thus a devaluation
would make loans increase substantially relative to the value of the collateral (i.e. real
estate). This issue would be removed since the value of loans can never exceed the value
of the LVL-denominated collateral, and all mortgage loans implicitly would be in LVL.
Senior Analyst
Pär Magnusson
+45 45 12 85 15
prma@danskebank.dk

Senior Analyst
Per Grønborg
+45 45 12 80 51
pgrn@danskebank.dk

www.danskeresearch.com
Latvia - Escalation of crisis

Why is this proposal flashed now? Maybe it should be viewed as a bargaining chip in the
light of the increased pressure from both IMF and the Swedish government on the Latvian
government to deliver on the terms agreed upon with the IMF and EU funding.

Conclusion: This proposal could be a part of the political bargaining with IMF/EU.
Everything might be solved overnight if a compromise can be reached, but the risk
premium on Latvian banking business is sky-rocketing at the moment. The ramifications
of this proposal lest 50% or more of all mortgage loans are covered by the proposal could
be very severe for especially Swedbank and SEB. EUR/SEK is no doubt vulnerable
to this growing tension, as is the mortgage bond spreads of especially Spintab bonds.

Latvian lending book (Q209A)

Swedbank: SEK 61bn – of which SEK 29.5bn to private customers

SEB: SEK46bn – of which SEK11bn is household mortgages

Nordea: EUR3.1bn

Danske Bank: 1.4% market share in Latvia – approx. DKK3bn

DnB Nor: NOK 22.5bn of which 49% is at the risk of Nord LB.

Source: Danske Markets

2| 6 October 2009
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Latvia - Escalation of crisis

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