AXIA Research Page 1

Initiating Coverage

Equity / Banks / Cyprus

April 21, 2016

Cypriot Banks: Hidden value tied to on-going macro recovery but NPL challenges remain...

We are initiating coverage on Bank of Cyprus (PT €0.20) and Hellenic Bank (PT €1.45) with Neutral ratings.

We acknowledge that economic activity has gained strength, indicating that the country has turned the

corner, but are also cognisant of the still high non-performing exposure (NPE) levels for banks’ under

coverage (NPE ratio: 62% and 59%, respectively). We think that both banks provide medium-term upside

potential as the macroeconomic situation continues to normalise and asset quality improves. We also

acknowledge the ability to play these stocks as a proxy for the macro recovery over the long term, while a

resolution to the Cyprus issue could positively impact the economy (including key sectors).

Cyprus’ early exit from the bailout program

Cyprus became the fourth EU country to successfully exit its bailout program, following Ireland, Spain and

Portugal. Eurozone finance ministers and the International Monetary Fund recently confirmed that the

island nation has exited its three-year €10bn bailout program on 31 March. Cyprus absorbed €7.25bn of

the total €10bn earmarked in the bailout program, while also recording economic growth in 2015, a year

earlier than initially expected. The country has outperformed almost every major economic indicator over

the last 3 years with authorities, albeit with some delays in certain reforms areas (i.e. privatisation of

CYTA), showing a true commitment to pushing ahead the necessary fiscal and structural reforms. The

Country’s debt was lower than forecasted during 2013 (108% vs. 125%), while it also achieved a budget

surplus and witnessed improvements in its current account balance for 2015.

Elections, maintaining a prudent fiscal path and tackling non-performing loans

Upcoming elections could delay certain privatisations, while some calls for a reversal of key reforms could

arise across the political spectrum. However, we see little risk in this area as we view that the resulting

government is incentivised to continue with necessary reforms, tackle the difficult issue vis-à-vis NPLs (or

90 DPD) and maintain prudent fiscal consolidation, which will potentially drive rating upgrades, allow for

continued stabilisation of the banking sector and ultimately re-admit the country in the European Central

Bank’s QE program as well. In addition, continued monitoring by the European Commission of budget and

structural reform performance adds additional weight to our view. Impressive progress has been achieved

in the banking sector, as capital positions and liquidity have been restored. Importantly, new foreclosure

and insolvency rules should accelerate NPLs reductions, while tangible results in the medium-term would

improve momentum and potentially provide additional upside to these stocks versus our baseline case.

Cypriot economy still on a fiscal consolidation path

Economic growth performed better than expected during 2015, but a large corporate debt overhang

combined with a weaker external environment could weigh on the outlook going forward. The

government is committed to retaining fiscally prudent measures, but given the potential for missing

targets, political and policy uncertainty could emerge, leaving investors wary of the overall growth

outlook. Our baseline calls for political stability and prudent steps vis-à-vis fiscal and structural reforms.

Long-term sector value, but wary of large NPLs that could weigh on earnings recovery

Cypriot banks currently trade at 0.4x P/TBV on average, at a discount to EU peers. In terms of operational

performance, Cypriot banks continue to bolster capital buffers, displaying improvements in asset quality

metrics. M&A could also play out if driven by acquisitions of smaller foreign operations. We maintain a

constructive outlook for the sector. Going forward we think that a continued recovery will positively

impact banking stocks, generating higher profits and enhancing book, while cleaning-up NPEs will remain

a pivotal issue for the sector over the medium-term.

Upside risks: (i) positive macro developments; (ii) stronger NIM; (iii) adherence to fiscal consolidation and

structural reforms; (iv) political stability; (v) reunification of island.

Price Targets

Bank of Cyprus 0.20

Hellenic Bank 1.45

Ratings

Bank of Cyprus Neutral

Hellenic Bank Neutral

Price/Tangible Book

FY16e FY17e FY18e

Bank of Cyprus 0.45x 0.42x 0.38x

Hellenic Bank 0.33x 0.31x 0.28x

Average 0.39x 0.36x 0.33x

EU Peers 0.75x 0.73x 0.69x

Prices: As of April 20, 2016

Please see important disclosures at the end of this report

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Relative Performance (Y-t-D): Greek Banks versus Peers

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AXIA Research Page 2

Contents

Executive summary 3

Turning the page: Then, now & looking to the future 5

Political front: Stability to consolidate, reforms to continue 14

Significant achievements: An example to follow... 18

Competitive Landscape 20

NPL management: New Regulatory Framework 48

Company Profiles 54

Bank of Cyprus: Transformation on the right track...value play 55

Hellenic Bank: Enhanced capital buffers provides flexibility 60

Disclosures 65

21 April 2016

Prices in this report are based on closing prices as at 20 April, 2016

AXIA Research Page 3

Executive Summary

Following the collapse of its banking sector in early 2013, which resulted in the country entering into a bailout

program, its second largest bank, Laiki Bank, being wound down and another, Bank of Cyprus, being

recapitalized in March 2013 via a depositor bail-in, Cyprus has now turned the corner and exited its bailout

program without any successor arrangement. Just three years later, a modest economic recovery is evident

and is gaining strength, with fiscal performance on track, non-performing loans stabilising and bank deposits

continuing to rise. Despite the need to maintain fiscal prudence (given the high-level of public debt combined

with the need for additional structural reforms to drive growth and create employment, and key

privatisations), there are clear signs that efforts are finally producing results. In this context, the underlying

commitment and strict adherence to the majority of the austerity program and structural reforms have clearly

helped steer the country out of the crisis, while also allowing the banks to weave through the difficult

operating conditions at the outset of the crisis in 2013.

We are initiating coverage on Cypriot banks with a Neutral but constructive outlook for the sector. Recently,

macro developments and improvements in underlying operating trends (mainly related to asset quality) assisted

by the pick-up of restructurings, provide for positive momentum.

Notwithstanding, challenges remain given the high-level of NPEs, with system NPEs currently at circa 45%

(December 2015). We acknowledge that investors will focus on the May 2016 parliamentary elections, which

could raise concerns on the political resolve to pursue structural reforms, though this scenario remains outside

the scope of our baseline case.

In addition, negotiations on finding a solution to the Cyprus problem (defined on page 13) have picked up over

the past 6 months, which could potentially provide for a comprehensive and economically sustainable solution.

The Central Bank of Cyprus (CBC) cooperative borrower framework, KPIs for reducing NPE stock, recently

adopted foreclosure and insolvency laws (sales now permitted), and SREP, sets the scene for the Cypriot banks

to deal more efficiently with NPEs, whilst also ensuring that capital levels remain above minimum targets

(11.75%).

At a company specific level: We see upside risk for Bank of Cyprus driven by earnings momentum from

continued improvements in funding costs and asset quality, which should drive the bank’s near-term investment

case. Turning to Hellenic Bank, we expect the bank’s superior net loans-to-deposit ratio to allow it to strategically

target specific sectors of the economy for resumption of lending, having already extended €400mn of new loans

during 2015, while the bank maintains a strong NPE coverage ratio as well.

Table 1: Valuation versus Peers

Rating

Target Price

Current Price

P/TBV 2016E 2017E

P/E 2016E 2017E

RoTE 2016E 2017E

Bank of Cyprus Neutral 0.20 0.15 0.45x 0.42x 15.44x 7.00x 2.9% 6.0%

Hellenic Bank Neutral 1.45 1.06 0.33x 0.31x 10.07x 4.28x 3.3% 7.2%

Average

0.39x 0.36x 12.75x 5.64x 3.1% 6.6%

Premium/(discount) to EU Banks

-48.2% -49.9% 27.1% -36.7% -59.0% -22.0%

Europe

0.75x 0.73x 10.03x 8.91x 7.5% 8.4%

Source: S&P Capital IQ, AXIA Research

We think that the on-going capital level improvements of the banks under coverage will place them in a better

position to tackle NPE stock. The banks’ turnaround story is strongly related to the on-going recovery of the

Cypriot economy, which to date has clearly outperformed all initial forecasts.

We expect 2016 to be a profitable year, with book value being generated from 2017 onwards. Funding costs are

expected to improve considerably in the medium-term driven via lower deposit costs for both banks under

coverage, while an on-going reduction in Emergency Liquidity Assistance (ELA) for Bank of Cyprus will also

positively impact earnings.

Asset side spreads are expected to continue to remain under pressure over the medium-term, picking up

gradually from 2018 onwards as loan disbursements pick-up pace. Asset quality will continue to normalise as

moderate growth is expected in the domestic economy over the medium-term, assisted also via continued

restructurings, with recently voted legislation to help tackle and contain strategic defaulters (NPL sales are also

likely).

Cyprus has by all accounts turned the

corner and exited its bailout without any successor arrangement, sending positive signals...

For the Bank of Cyprus, we see upside risk driven by earnings momentum from continued improvements in funding costs and asset quality...

Hellenic Bank’s superior net loans-to-deposit ratio allows for the resumption of lending to strategic targeting of specific sectors of the economy, albeit having extended €400mn in 2015, while the bank also maintains a strong coverage ratio...

We expect 2016 to be a profitable year, with sufficient profits able to generate book value from 2017 onwards...

AXIA Research Page 4

Our price targets (PTs) for the banks under coverage are calculated based on a RoTE/CoE valuation approach. We

adopt 2018E as our reference year, which captures an earnings recovery. Our estimates are discounted back to

end- 2016, which is our PT reference year. This is in-line with our baseline case that on-going macro / milestones

will be achieved in the near to medium-term.

We think that Cypriot banks trade at a discount to EU peers because: 1) the Country’s on-going economic

recovery resulting in the need for adjustments to high leverage levels; 2) investor concerns vis-à-vis the high

level of NPEs; 3) domestic profitability is still in recovery; 4) need for additional reforms and uncertainty on the

ability to achieve fiscal targets set given international headwinds. These are key drivers impacting investment

cases over the near-to-medium term.

In this report we provide an overview of the Cypriot banking landscape and key issues for investors. We note

that we have recently held discussions with the banks under coverage, in order to better assess underlying

operating trends, bank specific themes and sector/macro outlook. We have also held discussions with

macroeconomists to better gauge the economic outlook and challenges going forward.

AXIA Research Page 5

Turning the page: Then, now & looking to the future

In March 2013, just over 5 years after adopting the Euro currency, Cyprus requested formal assistance for a

bailout agreement supported by the European Stability Mechanism (ESM) and the International Monetary Fund

(IMF). More specifically, the agreement comprised a €9.0bn contribution from the ESM and a €1.0bn

contribution from the IMF.

A number of factors contributed to this event: (i) Cyprus had accumulated large imbalances leading up to the

global financial crisis; (ii) the deteriorating situation in Greece from 2011 onwards exacerbated concerns and

resulted in Cypriot sovereign spreads soaring; (iii) the subsequent Greek debt restructuring (PSI) significantly

impacted the balance sheets of Cypriot banks.

Moreover, on the domestic front poor management of public finances, weak corporate governance within the

banking sector, poor prudential regulation, twin deficits (both primary and current account balances), and a lack

of political will to take hard decisions necessary to adopt corrective actions to return the economy to a stable

path, all contributed to the chain of events that followed.

From a historical viewpoint, the banking system grew in terms of assets from about 420% of GDP in 2005 to over

700% in 2010, with domestic banks representing some 600% of GDP. Moreover the sector was highly

concentrated with the two largest banks, Bank of Cyprus and Laiki Bank, making up some 500% of GDP by 2010,

while the Coop credit sector combined added a further 100% of GDP (IMF: Cyprus Selected Issues, No. 14/314;

October 2014). Non-resident deposits in Cyprus increased considerably in actual terms (+73% during 2005-2010),

while banks also expanded operations abroad, mainly in Greece, where deposits also increased considerably (see

below). This allowed banks to disburse credit at a much quicker pace, with domestic credit increasing from 167%

of GDP in 2005 to 260% in 2010. These factors fuelled a rapid boom in the property market which effectively

burst in 2009.

Figure 1: Total Banking System Assets (% of GDP) Figure 2: Combined Deposits (% of GDP)

Source: Central Bank of Cyprus, European Central Bank, AXIA Research

The large exposure of Cypriot banks to the real estate market, combined with the aforementioned property bust,

resulted in a deterioration in asset quality. In addition, Cypriot banks were also heavily exposed to Greece with

holdings of Greek loans (via Greek operations) and Greek government bonds.

The Greek crisis in 2010 and 2011 impacted confidence in Cypriot banks and the sovereign, which effectively lost

market access in 2011. In addition, the loss of confidence resulted in deposit outflows as a Greek debt

restructuring plan began to emerge in 2011, resulting in banks’ tapping ELA from the Central Bank of Cyprus

(CBC). Moreover, Greek PSI and large loan losses for banks both domestically and in Greece, resulted in an

assessment that the two largest banks were in-fact insolvent.

What followed was unprecedented at the time, with troubled banks resolved or restructured and recapitalised

via the participation of both uninsured depositors and creditors (otherwise known as ‘burden sharing’). In order

to further stabilize the situation, capital controls were imposed so to as to preserve financial stability (on both

domestic and external payments). Bank of Cyprus managed to raise capital at the time, while Laiki Bank, in 2012,

required support amounting to €2.0bn to meet capital requirements. In February 2013, an independent

assessment was released, revealing significant capital needs for the Cypriot banks, adding additional stress to the

already difficult situation.

Cyprus has proved to be a true turnaround case...we think that the

situation will continue to stabilise as fiscal prudency is maintained and confidence returns to the banking system....

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Factors contributing to the crisis: (i) large imbalances and poor management of public finances; (ii)

situation in Greece from 2011 impacting Cypriot sovereign spreads; (iii) Greek PSI; (iv) weak corporate governance within the banking sector; (v) property market bust; etc...

The large exposure of Cypriot banks to the real estate market, combined with the subsequent property burst in 2009, resulted in a deterioration in asset quality. In addition, Cypriot banks were also heavily exposed to Greece with holdings of Greek loans

(via Greek operations) and Greek government bonds...

We are initiating coverage on the Cypriot banks with

a constructive outlook for the sector. Recent macro developments and improvements in underlying operating trends in the banking sector, mainly related to asset quality, add weight to our view...

AXIA Research Page 6

With public debt at already high levels (debt-to-GDP stood at 79.3% of GDP at end 2012), the decision to

recapitalise the banks with public support was deemed unfeasible, while initial thoughts for the imposition of a

one-off levy on deposits of all banks was rejected by the Cypriot Parliament. As a result, the authorities decided

to intervene with Laiki Bank and Bank of Cyprus. Accordingly, Bank of Cyprus acquired certain assets and

liabilities of Laiki Bank.

Moreover, authorities, in March 2013, passed a bank resolution law, focusing on the following: (i) the Greek

branches of Cypriot Banks (namely Hellenic Bank, Laiki Bank and Bank of Cyprus) would be sold to a Greek bank;

(ii) Cyprus Popular Bank’s insured deposits, ELA and various assets were left in a run-off unit; and (iii) Bank of

Cyprus was recapitalised with the participation of creditors and uninsured depositors.

Certain assets and liabilities of Laiki Bank were subsequently transferred to Bank of Cyprus, with sufficient assets

to cover insured deposits and ELA and to allow for minimum capital requirements, while uninsured deposits and

other assets remained with the legacy bank to be wound down over time. Bank of Cyprus was subsequently

recapitalised through a bail-in of deposits (deposit-to-equity conversion) on uninsured deposits, following a bail-

in of equity shareholders and bondholders. Moreover, Cypriot operations in Greece were ring-fenced and sold

off to Piraeus Bank.

As part of the initial recapitalisation of Bank of Cyprus, 37.5% of uninsured deposits were converted into equity,

with 22.5% blocked as an additional buffer in determining final capital needs, while 30% were blocked and 10%

were released. In accordance with a fair-value assessment, necessary to determine Bank of Cyprus final capital

needs (based on a minimum Core Tier 1 of 9%), authorities adjusted the aforementioned perimeter, converting

47.5% of uninsured deposits into equity, with the bulk of frozen uninsured deposits converted into time deposits

with 6, 9, and 12 month maturities (and extendable by equivalent periods if necessary), while 15% of deposits as

opposed to the initial 10%, were released. The transfer of certain operations of Laiki Bank to Bank of Cyprus also

resulted in an amount of €11.4bn of ELA funding transferred at the acquisition date.

Table 2: Problem Bank

1. Sale of the CPB and BoC Greek operations to Piraeus bank (Greece)

At the time of the sale, both Greek branches had a positive net asset position. The sale reduced the size of the balance sheets of the two banks by 1/3 and also contingent liabilities of the Cypriot government to cover almost €9.0bn of insured Greek deposits.

2. Transfer of deposits of CPB’s UK branch to the UK subsidiary of BoC

In return, the Bank of Cyprus subsidiary received an equal amount of cash, which the Laiki Bank branch held as reserves at the Bank of England.

3. Resolution of CPB by transferring assets, insured deposits, interbank liabilities, and ELA to BoC

Laiki Bank was not viable as a standalone institution, having limited collateral buffers for its large ELA funding (about €10bn), given deteriorating asset quality. It was decided to transfer part of it to Bank of Cyprus. The value of the transferred assets exceeded the value of the liabilities, such that the transferred Laiki Bank balance sheet had a CT1-ratio of 9% under the stress test scenario. Uninsured deposits and remaining assets were left in Laiki Bank under liquidation. In exchange for the positive net asset position in the transfer, the unit under liquidation received Bank of Cyprus shares.

4. Recapitalization of BoC with participation of bank creditors, including uninsured depositors

The recapitalisation was done under the auspices of the new bank resolution law, which required participation of bank creditors in the order of seniority. As part of the final decision, authorities converted 47.5% of uninsured deposits into equity, with the bulk of frozen uninsured deposits converted into time deposits with 6, 9, and 12 month maturities (and extendable by equivalent periods if necessary), while 15% of deposits were released.

Source: IMF, AXIA Research

In addition to the private banks being restructured or recapitalised, the bailout agreement also envisaged the

restructuring of the credit cooperative sector as well. The sector in 2013 comprised of some 93 Credit

Cooperative Institutions, while following consolidation moves, the sector now includes 18 Coops under the one

entity Cooperative Central Bank (CCB).

Troubled banks were resolved or restructured and recapitalised via the participation of both uninsured depositors and creditors. In order to

further stabilize the situation capital controls were imposed so to as to preserve financial stability (on both domestic and external payments)...

Certain assets and liabilities of Laiki Bank were subsequently transferred to Bank of Cyprus, with sufficient assets to cover insured deposits and ELA in order to allow for minimum capital requirements, while uninsured deposits

and other assets remained with the legacy bank so as to be wound down over time. Bank of Cyprus was recapitalised through a bail-in of depostis (deposit-to-equity conversion) on uninsured deposits, following a bail-in of equity shareholders and bondholders...

AXIA Research Page 7

Figure 3: Total Banking System Assets, 2012 (% of GDP) Figure 4: Real Residential House Prices (Index)

Source: European Central Bank, International Monetary Fund, AXIA Research

Figure 5: Current Account Balance (% of GDP) Figure 6: Net International Investment position (€/bn)

Source: Eurostat, AXIA Research

The resulting recession, though not as deep as initially expected, negatively impacted asset quality given the

high-level of indebtedness. Accordingly, banks began to curtail credit to the local economy, with households

consuming less and using a larger portion of income to repay debt obligations, while corporates with specific

exposures to the domestic economy (e.g. construction, real estate, etc.), given their limited buffers, entered into

restructuring agreements with banks in order to support an orderly deleveraging process (note that based on

IMF empirical evidence, deleveraging generally taking 7 to 10 years for households, but less for corporates as the

maturity of debt is generally shorter). Restoring the health of the financial sector was a key priority under the

Economic Adjustment Programme (EAP). Following Bank of Cyprus’ recapitalization at end-July 2013, the bank’s

management team finalized its restructuring plan aiming to improve the quality of the bank’s balance sheet,

boost capital levels and ensure that the bank returns to profitability over the medium-to-long term.

Bank of Cyprus’ restructuring plan focused on the following measures: (i) domestic activities and an orderly

disposal of foreign operations; (ii) establishing a dedicated internal unit to manage troubled debtors; (iii)

strengthening risk management; (iv) improving operational efficiency with specific cost containment measures;

(v) normalising funding conditions; (vii) enhancing capital levels, among others. Similarly, Hellenic Bank was

recapitalized in October 2013 with private funds (equity participation and conversion of Tier I convertible

instruments - Cocos), while the government also restructured and recapitalized cooperative credit institutions

and merged them into 18 entities. The CBC also established a new code of conduct for banks and a loan arrears

framework to facilitate debt restructurings/workouts. Following a fair value assessment of the cooperative

sector and the approval of the restructuring plan by the European Commission, €1.5bn in capital was injected

into the sector. As a consequence, the above actions allowed the authorities to implement a step-by-step

strategy aimed at boosting capital buffers and progressively lifting capital controls. Moreover, the government

decided to lift all capital controls in April 2015, with positive deposit trends during all of 2015, and inflows

continuing into early 2016. The lifting of all restrictions indicated that confidence had returned to the banking

sector.

The resulting recession, though not as deep as initially expected, resulted in deteriorating asset quality given the high-level of indebtedness....

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Targeted policies vis-a-vis the Cypriot banking system allowed for the eventual lifiting of all capital controls in April 2015...this marked a turning point for the country, signalling a return of confidence in the

banking system....

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AXIA Research Page 8

Figure 7: Total Deposits (100=March 2013) Figure 8: Non Performing Loans (100=September 2013)

Source: Central Bank of Cyprus, AXIA Research

Another critical point for the Country’s EAP related to the decision to adopt a new insolvency and foreclosure

law, which was considered imperative to reduce the high-level of non-performing exposures (NPEs) that had

reached approximately 48% at end December 2014 (NPL ratio stood at 42% at end December 2013). The new

mortgage law effectively streamlined the foreclosure procedure by allowing the sale of loan collateral to be

conducted by mortgage creditors, without the involvement of government agencies, so as to ensure a balanced

but swift process.

Regarding the insolvency legislation, the new law on personal insolvency provides tools for viable individual

debtors to restructure debts while keeping, where possible, their primary residence. In addition, the new

corporate examinership law, involving the process for seeking to rescue companies facing insolvency from

creditors, is expected to positively impact restructuring actions for viable businesses. In combination, these

reforms should provide incentives to borrowers and banks to engage in restructuring discussions as well as

provide the necessary tools to advance deleveraging and tackle strategic defaulters. In order to protect

vulnerable groups, the recently introduced guaranteed minimum income scheme also provides a safety net. The

CBC also designed a new framework to incentivise loan restructurings, enable prompt monitoring of

restructuring progress and requiring corrective actions as needed.

To this end, the CBC has set quarterly targets for NPL restructuring since June 2015, on a bank-by-bank basis, and

began publishing the aggregate targets for the first time in September 2015. Initial results for end-September

show that while in the aggregate banks did not meet targets, the pace of restructuring has picked up, greater use

has been made of long-term restructuring agreements, and re-default rates have fallen.

Based on these results, the CBC will continuously review targets and identify bank-specific actions to address

shortcomings. To ensure restructuring performance is adequately reflected, banks are required to update on a

quarterly basis budgets and to adjust provisioning levels commensurate with actual restructuring performance.

Debt restructuring formed a pivotal issue under the country’s EAP, via: (i) building banks’ capacity to deal with

NPL/NPEs, including setting up internal workout units and procedures; (ii) strengthening the supervisory

framework; and (iii) reforming the legal framework for private sector debt restructuring to incentivise banks and

borrowers to voluntarily restructure debt, with unilateral measures (such as liquidation) left as an option when

the borrower’s viability cannot be restored.

Note also that a law was adopted in November 2015 allowing banks to sell individual loans or segments of their

loan portfolio, while safeguarding small borrowers as per the Code of Conduct even if loans are sold.

Leading up to the EU-wide stress test results in 2014, which also included an asset quality review, Bank of Cyprus

undertook and successfully completed a €1.0bn capital raise, while Hellenic Bank also raised a combined €204mn

in moves to further strengthen capital levels.

Another critical point for the country’s EAP related

to the decision to adopt a new insolvency and foreclosure law, which was considered imperative to reduce the high-level of non-performing loans...

Debt restructuring formed a pivotal issue via: (i) building banks’ capacity to deal with NPLs - setting up internal workout units;

(ii) strengthening supervisory framework; & (iii) reforming legal framework for private sector debt restructuring...

The Cypriot government also adopted a law in November 2015 allowing banks to sell individual or loan portfolios...

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AXIA Research Page 9

The ECB stress tests were conducted in 2014 with the Single Supervisory Mechanism using identified

provisioning shortfalls for Bank of Cyprus, Hellenic Bank and the CCB. Accordingly, Bank of Cyprus and Hellenic

Bank took additional provisions, while CCB raised provisions by circa €525mn (IMF Country Report N. 16/26;

January 2016). In line with SSM requirements, the government provided an upfront injection of €175mn (1% of

GDP) of additional public funds into the CCB in late December 2015, following Parliamentary approval. The CCB

also agreed to an updated restructuring plan with DG Comp, as required under the EU state aid framework.

European Commission: Approves additional aid for Coops on the basis of an amended restructuring plan

On 18 December 2015, the European Commission (EC) approved additional state aid (€175mn) for the CCB and

its subsidiaries in line with EU state aid rules. The EC viewed that additional restructuring measures would

ensure that the bank becomes viable in the long-term, whilst distortions of competition will be minimised. As a

result, the Tier 1 ratio of the Coops increased to 14%, while recognition of additional provisions in 3Q:15

boosted the coverage ratio of 90-day past-due loans to 50%. The restructuring plan envisions the following:

(i) Operational restructuring: preserving the basic structure of the coop sector with its 18 individual

Cooperative Credit Institutions (CCIs) (reduced via mergers from earlier 93 in 2013–14) and the CCB. The

plan envisages further centralising key managerial and back-office functions. The CCIs will retain several

banking functions that directly relate to interfacing with customers, including accepting deposits and

extending loans, under strict adherence with the policies defined by the CCB. However, most other

functions, namely NPL management, financial management and control, credit risk management, and

audit, will be further centralized at the CCB. The CCB will also oversee the balance sheet of the entire coop

sector, and will be responsible for the management of capital and liquidity. All employees of the individual

CCIs will become staff of the CCB, and ownership of all CCIs’ nonfinancial assets will be transferred to the

CCB. The wage reductions (up to 25% for the highest paid employees) as part of the previous plan carry

over to the new plan.

(ii) Privatization: the updated plan also foresees the gradual dilution of the current 99% public ownership of

the CCB by raising new capital. As a first step, measures to support an initial listing on the Cyprus Stock

Exchange are expected by 2017, and by September 30, 2018, the CCB is expected to sell on the Exchange

new shares equal to at least 25% of existing capital. Two additional share issuances (by June 30, 2019 and a

year later) are also planned. Shares will also be offered to strategic investors. At the end of this process,

the Republic of Cyprus is expected to see its stake in the CCB fall to 25% or less.

The CCB and its subsidiaries, the CCI (together "the Cooperative group"), have played an active role in the

Cypriot banking sector. As a result of the deep recession, a high proportion of the Cooperative group's loan

book became non-performing. The group needed capital injections of €1.5bn from the State to cover the

losses, which the EC approved in February 2014 on the basis of a restructuring plan.

The funds were provided to Cyprus by the European Stability Mechanism (ESM) in the context of the EAP. As a

result of the recapitalisation, the Cypriot State became a significant shareholder (99% stake) of the CCB, which

in turn obtained control over the previous coops. The group has also set up an internal non-performing loan

management division and started to develop more robust risk management and IT functions.

However, the assessments carried out in 2015 by the ECB, identified that the bank did not make sufficient

provisions compared to the size of its defaulted loans portfolio (so-called "provisioning shortfall"). The bank

made the requested additional provisioning in 3Q:15, but as a consequence, needed additional capital of

€175mn.

In this context, the bank needed additional state funding to be able to comply with the ECB's capital

requirements. Cyprus' newly created Recapitalisation Fund, which is financed by levies from the banking sector,

plans to provide the necessary recapitalisation in exchange for ordinary shares in the Cooperative Central Bank.

Source: European Commission, AXIA Research

European Central Bank stress tests in 2014 resulted in Cypriot banks taking additional provision charges...

On 18 December 2015, the European Commission (EC) approved additional state aid (€175mn) for the CCB and its subsidiaries in line

with EU state aid rules... The EC viewed that

additional restructuring measures would ensure that the bank becomes viable in the long-term, whilst distortions of competition will be minimised. As a result, the Tier 1 ratio of the Coops increased to 14%, while recognition of additional provisions in 3Q:15 boosted the coverage ratio of 90-day past-due

loans to 50%...

AXIA Research Page 10

Maturity structure of public debt

The Cypriot government has repaid the €1.1bn Laiki bond transferred to Bank of Cyprus, using the proceeds from

a 7-year Eurobond issues in April 2015 and from the 10-year issue in October 2015, while in combination with a

2013 debt exchange, other liability management operations and the replacement of debt with official EU-IMF

financing sources, has managed to extend the average maturity of public debt.

Moreover, the yield of the 7-year Eurobond currently stands at 3.5%, having decreased in the previous months

due to the ECB’s QE program, while some upward pressure is likely following the formal exit from the EU-IMF

program given the resulting exclusion from QE. This is primarily driven by the ECB rule which stipulates that

under the QE program, purchases of sub-investment grade countries is only possible if a formal program is in

place.

Note that in this context, Cypriot government sovereign bonds in the amount of €285mn have been purchased

by the ECB as of November 2015, or just below 50% of the maximum estimated purchase perimeter (circa

€600mn).

As noted, the sovereign, following a series of upgrades by credit rating agencies, also issued a 10-year €1.0bn

Eurobond in October 2015 at a yield of 4.25%, despite credit ratings remaining several notches below investment

grade. Approximately half of the proceeds were used to buy back existing debt scheduled to mature in the

coming years.

Figure 9: Cyprus Sovereign (%) Figure 10: Spreads vs. German bund (%)

Source: Bloomberg, AXIA Research

Eurogroup Statement on Cyprus: A historical day for the Country

On 7 March 2016, the Eurogroup issued the following statement:

“The Eurogroup supports the Cypriot government's decision to exit its macroeconomic adjustment programme

without a successor arrangement. The Eurogroup commends the Cypriot authorities for the overall successful

implementation of the programme and the important achievements made in the past three years, and also

thanks the institutions for their vital contribution towards this end.

The Eurogroup welcomes the fact that economic activity has continued on a positive trend, and the banking

system has further healed. The commitment of the authorities and the Cypriot people to the overall programme

agreements has also been essential to a fiscal performance that has exceeded expectations. These positive

developments have been instrumental in regaining investor confidence in the Cypriot economy, with the

sovereign returning to the international markets.

The Cypriot banking system in particular has undergone a deep transformation. The ground covered since

March 2013 has been significant and the reform measures, which have been executed or are underway are

essential to restoring the Cypriot financial system to viability. However, work must continue with determination

to secure the reduction of the non-performing loan ratio to healthier levels. This includes the rigorous and swift

implementation of the insolvency framework and foreclosure laws adopted in 2015 together with further

measures including the legislation on sale of assets and effective use of the full range of the available non-

performing loan management tools.

At the same time, the Eurogroup notes that the last prior action under the current review has not yet been

completed. The privatisation of the Cypriot Telecommunications Authority would be another growth-enhancing

step. Along with public administration reform and other structural reforms discussed during the programme,

A significant milestone was achieved on 7 March 2016...official creditors approved the country’s exit from the EAP without the need for a successor arrangement...

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

Sep-1

5

Oct-1

5

No

v-15

Dec-1

5

Jan-1

6

Feb-1

6

Mar-1

6

Ap

r-16

Cyprus Spain Portugal Germany Italy

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

Sep-1

5

Oct-1

5

No

v-15

Dec-1

5

Jan-1

6

Feb-1

6

Mar-1

6

Ap

r-16

Cyprus Spain Portugal Italy

The Cypriot government has repaid the €1.1bn Laiki bond transfered to Bank of Cyprus, using the proceeds from a 7-year Eurobond issues in April 2015 and from the 10-year issue in October 2015, while in

combination with a 2013 debt exchange, other liability management operations and the replacement of debt with official EU-IMF financing sources, has managed to extend the aveage maturity of public debt...

AXIA Research Page 11

this would cement the improvements in public finance and support sustained economic growth.

In total, about 30% of the EUR 9 bn programme envelope remains unutilised. We note that the IMF programme

is expected to come to an end today, 7 March.

Against this background, the Eurogroup welcomes the reaffirmed commitment by the Cypriot authorities to

sustain public finances consolidation and the reform momentum over the medium term, in order to address the

remaining vulnerabilities. The Eurogroup will continue supporting the reform process in Cyprus, inter alia in the

context of post-programme surveillance and of the regular EU and euro-area specific monitoring frameworks”

Source: Eurogroup, AXIA Research

Note that Cyprus will remain under post-programme surveillance until the country has repaid at least 75% of the

financial assistance received or circa €5.5bn. Moreover, under the post-programme surveillance, the European

Commission in liaison with the ECB will have regular review missions to analyse fiscal and financial developments

and report semi-annual assessments which may recommend further measures when necessary.

Reforms set to continue

Despite the fact that Cyprus exited the EAP, several reforms are required to be implemented both in the public

sector and semi-governmental entities.

The three major reforms that need to be implemented include the adoption of the National Health Scheme

(NHS), the privatization of CyTA, changes in the operation of semi-governmental organization and several

reforms regarding the public sector.

Moreover, delays in passing the relevant legislations by the House of Representatives are evident given the

suspension of the Parliament’s operation on 14 April 2016, as a result of the upcoming Parliamentary Elections

scheduled for May 22. The Parliament in its last session voted (with votes of the opposition) against the

privatization of CYTA and Electricity Authority of Cyprus until the end of 2017. At the same time, the ports

authority privatization is progressing as planned.

Table 3: List of structural reforms due to be passed in the House of Representatives

Structural Reforms Description

Revenue Administration Establishing an integrated legal framework for tax procedures, identifying tax assessment

backlogs, reducing collectible arrears and enforcing the larger taxpayer office (LTO)

Public Financial Management

Secondary legislation of the Fiscal Responsibility Budget System Law (FRBSL)

Privatizations Cyta’s privatization has encountered many setbacks due to a political debate on benefits of

the privatization and discussions with unions Electricity Authority of Cyprus (EAC) has been removed from the privatizations list

Growth Strategy Improvement of Cyprus’ business environment primarily in the areas of tourism and real

estate

Public Administration Reform the wage-setting framework for the general government

Facilitate the mobility of staff across the civil service

Source: IMF, AXIA Research

Moreover, the IMF has also noted that Cypriot authorities should continue with encouraging a more ambitious

approach to corporate deleveraging by enhancing and complementing the measures already in place.

Table 4: Household and Non-Financial Corporations Private Debt % GDP

2013 2014 Household debt Non-financial corporations Household debt Non-financial corporations

Germany 54.9% 42.6% 53.8% 40.8% France 54.7% 59.0% 55.2% 59.9% Austria 51.0% 64.0% 50.6% 63.0% Greece 64.4% 64.6% 62.3% 66.4% Italy 42.8% 68.5% 42.3% 66.9% Portugal 84.4% 92.6% 80.0% 88.4% Spain 76.1% 97.5% 71.9% 90.3% Netherlands 113.8% 97.7% 111.6% 102.9% Ireland n/a 169.3% n/a 174.7% Cyprus 123.9% 212.4% 126.7% 219.4% Luxembourg 55.0% 253.2% 56.6% 233.4%

Source: Eurostat, AXIA Research

Corporate debt overhang remains a key issue...

Cyprus will remain under post-programme surveillance until the country has repaid at least 75% of the financial asstance received or circa €5.5bn. Moreover, under the post-programme surveillance, the European Commission in liaison with the European Central Bank (ECB) will

have regular review missions to analyse fiscal and financial developments and report semi-annual assessments which may recommend further measures when necessary...

AXIA Research Page 12

Cyprus Banking sector stock performance

From the below charts, we can see that since the beginning of the year the share price performance of Bank of

Cyprus and Hellenic Bank have outperformed the SX7P, and for most of the period other peripheral banking

indices.

Figure 11: BoC & HB share prices vs. SX7P Figure 12: BoC & HB share prices vs. Indices (ES, IT & PT)

Source: Bloomberg, AXIA Research

Cypriot banks under coverage trade at an average 40% discount to European banks on P/TBV (50% to Spanish

banks), with circa 8-10% RoTE over the medium-to-long term. We think this discount reflects: 1) the Country’s

on-going economic recovery resulting in the need for adjustments to high leverage levels; 2) investor concerns

vis-à-vis the high level of NPEs; 3) domestic profitability is still recovering; 4) need for additional reforms and

uncertainty on the ability to achieve fiscal targets given international headwinds; 4) lack of liquidity in shares;

and 5) absence of dividends;

We believe that this discount to peers will close over the medium term as recent polls indicate that the resulting

government is likely to remain committed to prudent fiscal policies, pushing through additional and remaining

structural reforms (as mentioned above). Following through with these additional reforms is likely to drive

sovereign rating upgrades, which upon reaching investment grade level, will allow the country to benefit once

again from the ECB quantitative easing program. In addition, Bank of Cyprus is pursuing a listing on the London

Stock Exchange by year-end 2016, while Hellenic Bank is examining a secondary listing on a separate exchange in

2017.

In our view, valuations should begin to price in longer-term earnings potential should: 1) the government prove

that it can balance fiscal consolidation and remain committed to implementing agreed reforms; 2) renewed

confidence in the banking system is maintained; 3) bank’s focus on cost optimisation - efficiency gains – deal

with the large level of NPL/NPE stock; 4) funding costs continue to decrease, especially in so far as Bank of

Cyprus is concerned given the outstanding ELA funding; 5) further reduction in NPL stock levels that could

improve the bank’s capital position; 6) better GDP dynamics from a pick up in investments;

Figure 13: P/TBV – European Banks

Source: S&P Capital IQ, AXIA Research

We think that both banks provide medium-term upside potential as the

macroeconomic situation continues to normalise and asset quality improves. We also acknowledge the ability to play stocks under coverage as a proxy for a macro recovery over the long-term...

70

75

80

85

90

95

100

105

110

31

-Dec

4-Jan

8

-Jan

12

-Jan

16

-Jan

20

-Jan

24

-Jan

28

-Jan

1-Feb

5

-Feb

9-Feb

1

3-Feb

1

7-Feb

2

1-Feb

2

5-Feb

2

9-Feb

4

-Mar

8-M

ar 1

2-M

ar 1

6-M

ar 2

0-M

ar 2

4-M

ar 2

8-M

ar 1

-Ap

r 5

-Ap

r 9

-Ap

r 1

3-A

pr

BOC GA HB CY SX7P Index

60

70

80

90

100

110

31

-Dec

4-Jan

8

-Jan

12

-Jan

16

-Jan

20

-Jan

24

-Jan

28

-Jan

1-Feb

5

-Feb

9-Feb

1

3-Feb

1

7-Feb

2

1-Feb

2

5-Feb

2

9-Feb

4

-Mar

8-M

ar 1

2-M

ar 1

6-M

ar 2

0-M

ar 2

4-M

ar 2

8-M

ar 1

-Ap

r 5

-Ap

r 9

-Ap

r 1

3-A

pr

BOC GA HB CY ES Index IT Index PT Index

0.00

0.20

0.40

0.60

0.80

1.00

1.20

1.40

1.60

Jan-1

2

Ap

r-12

Jul-1

2

Oct-1

2

Jan-1

3

Ap

r-13

Jul-1

3

Oct-1

3

Jan-1

4

Ap

r-14

Jul-1

4

Oct-1

4

Jan-1

5

Ap

r-15

Jul-1

5

Oct-1

5

Jan-1

6

Ap

r-16

P/TBV Average

AXIA Research Page 13

The “Cyprus problem”: Reunification Talks – Is a breakthrough possible?

Over the last few months there have been increased efforts aimed at solving the long-standing Cyprus problem,

with both sides becoming increasingly more involved in the UN-sponsored negotiations that resumed in May

last year (though progress has slowed lately due to the upcoming elections). Moreover, with a remarkable

turnaround in the economic situation, just 3-years after the collapse of the Cypriot banking sector, there is a

renewed enthusiasm that a settlement can be finally reached. Furthermore, there have been increased

international efforts to help drive the process to finding a solution. Turkey still though refuses to recognise the

Greek Cypriot government as the government of the entire island.

A settlement of the Cyprus problem would bring to an end the decades-old division of the island - a Greek

Cypriot south and a Turkish Cypriot north.

Nevertheless, the rejection of the solution in a referendum in 2004, depicted the difficulties involved with

achieving a solution (the proposal was supported by 24% of the Greek Cypriots and 65% of the Turkish

Cypriots).

Following the election in April 2015 of a moderate Turkish Cypriot leader, Mustafa Akinci, to the presidency of

the unrecognised Turkish Republic of Northern Cyprus (TRNC), the atmosphere between the two sides in the

peace talks has been more positive.

Reaching a settlement will involve tackling some complex and clearly sensitive issues, and any agreement

would have to be approved in separate referendums on both sides.

The main challenges to resolving the Cyprus problem include agreeing on: (i) power sharing arrangements, in

what would be a federal state; (ii) the transfer of territory from de facto Turkish Cypriot to Greek Cypriot

control and vice versa; (iii) the future status and rights of Turkey, Greece and the UK, which are security

guarantors under the 1960 Treaty of Guarantee; (iv) how much dispossessed property is to be reinstated,

exchanged for other property or compensated for; (v) how the resettlement of displaced individuals would

occur as a result of an agreement; (vi) how compensation and resettlement might be financed (European

Union, World Bank, etc); and (vii) how the various levels of government will be funded.

Finally, recent newsflow indicates that reunification of Cyprus may see a breakthrough later this year. In

addition, Cyprus hopes to become an energy hub in the eastern Mediterranean, while the reunification could

drive investment and booster prosperity for both sides. A resolution to the Cyprus issue could positively impact

the economy, including key sectors such as tourism and shipping.

Source: AXIA Research

AXIA Research Page 14

20

19

8

5 1 1

1 1

DISY AKEL DIKO EDEK European Party Green Party Citizens Alliance Independent

Political front: Stability to consolidate, reforms to continue

Despite the three years of continuous fiscal consolidation, the imposition of capital controls and the ensuing

recession, significant resilience was demonstrated by the Cypriot political landscape, given that the President

Nicos Anastassiades (DISY) has been enjoying sufficient parliamentary support from DIKO on economic matters

as well as support from the opposition party AKEL on thorny issues like the “Cyprus problem”. Note that in

relation to the latter, negotiations with the other side are currently ongoing under the auspices of UN with the

support of the US and Russia and the partial involvement of the three guarantor powers (UK, Greece and

Turkey).

The upcoming parliamentary elections are set to take place on May 22, whereas Cyprus’ House of

Representatives suspended its operations on April 14. Furthermore, post the May elections, the next (local)

elections are scheduled for December (mayoral), whereas the presidential term expires in February 2018.

There are some concerns that the exit from the program in combination with the upcoming Parliamentary

elections in May could increase political pressure towards assuming a more relaxed stance on the reforms front.

However, we view that, similarly to the case of Portugal, the EC will continue to assess and put pressure aiming

at fiscal discipline that will open up and make the economy more competitive, whilst targeting the completion of

the key privatisations.

May 2016 General Parliamentary Elections will lead to further political consolidation

Taking into account that since Cyprus is a Presidential democracy (as opposed to a Parliamentary democracy),

which implies that Presidential elections are not called in the event that the President’s party loses the majority

in Parliament, the upcoming parliamentary elections on May 22 are not expected to have a radical impact on the

political status quo, given that according to the latest polls the right wing party DISY is leading the race.

Figure 14: Current Composition of House of Representatives

Source: Cypriot Parliament, AXIA Research

Moreover, the result of the May 2016 general elections is not expected to jeopardise political stability in the

Country not only given the anticipated outcome, hence the victory of the EU pro reforms DISY over the leftist

AKEL, but also from the fact that signs of political mentality shift have been recorded.

In particular, we note that voters started to gradually realize the importance of reform implementation,

distancing themselves from populist rhetoric. In addition, a positive catalyst concerning the political landscape is

the fact that almost every political party maintains a clear stance on Eurozone membership and EU policies, as

well as in relation to the international front where there is a common uniform ground and policy mix.

Polls place DISY as the most likely winner, though high abstention raises concerns

Voting polls conducted by different pollsters indicate a solid lead of DISY over AKEL, as depicted also by a c5%

spread in relation to voting intention. Although polls data suggest that the gap could narrow as the election date

approaches, we do not see significant game changers that could lead to a different outcome. In addition, note

that a similar trend has been recorded in relation to voting abstention, which is estimated to be above 20%.

The latter, could be attributed to the voter’s financial difficulties driven by the EAP or the lack of trust and

confidence in the political landscape of the country. However, the fact that DISY has been in the lead for both

the House of Representatives and Presidential fronts since 2011 and 2013 respectively, thus having voted and

implemented all required structural reforms as per Troika guidelines, coinciding also with the imposition of

Significant resilience was demonstrated by the Cypriot political landscape over the last 3 years...

The upcoming parliamentary elections are set to take place on May 22, whereas Cyprus’ House of Representatives suspended its operations

on April 14...

The result of Cyprus May 2016 general elections is not expected to jeorpadize political stability in the country not

only given the anticipated outcome, hence the victory of the EU pro reforms DISY...

56 seats

AXIA Research Page 15

20

18

19

18

9

11

5

5

2

3

1

1

May' 11

May' 06

DISY

AKEL

DIKO

Movement of Social Democrats

European Party

Green Party

capital controls and the bail-in of depositors, whilst currently still managing to lead in the polls, indicates that

voting intention has become more consistent.

As a result, note that as we move closer to the elections date, we view that abstention will progressively start to

decline, as voters will have a more rationale stance towards the objective of the elections.

Furthermore, the elections environment will polarize to a greater extent, driving probably abstention, if not to

historical levels, then below the c25% that is currently being suggested in the polls.

Table 5: Snapshot of poll’s results (Feb-Apr’16)

Political Parties / Poll Feb' 16 Mar' 16* Mar' 16** Apr' 16 Average Median

Democratic Party - DISY 20.9% 21.1% 20.2% 22.9% 21.3% 21.0%

Progressive Party of Working People - AKEL 15.2% 16.3% 16.4% 15.8% 15.9% 16.0%

Spread between DISY & AKEL 5.7% 4.8% 3.8% 7.1% 5.4% 5.3%

Democratic Party - DIKO 8.4% 6.4% 8.1% 9.3% 8.0% 8.3%

Movement for Social Democracy - EDEK 3.7% 3.5% 4.0% 4.0% 3.8% 3.9%

European Party1/Solidarity Movement 1.3% 1.1% 2.8% 2.5% 1.9% 1.9%

Green Party 2.8% 2.6% 3.2% 3.5% 3.0% 3.0%

Citizens Alliance 3.8% 4.1% 4.1% 4.8% 4.2% 4.1%

Peoples' National Front - ELAM 2.0% 1.8% 1.6% 1.9% 1.8% 1.9%

Other parties 3.4% 6.9% 3.0% 1.4% 3.7% 3.2%

Abstention 25.0% 29.3% 22.2% 20.4% 24.2% 23.6%

Blank / invalid 2.9% n.a. 3.4% n.a. 3.2% 3.2%

Undecided 10.6% 6.9% 11.0% 13.7% 10.6% 10.8%

Total 100.0% 100.0% 100.0% 100.0%

Source: Prime Market Research, Inside Market Research, AXIA Research Note: 1: Solidarity Movement has absorbed the European Party at end March 2016; * Inside Market Research ; ** Prime Market Research

In particular, polls also indicate that there is lack of interest in relation to AKEL, since the latter structures its

policy on populist rhetoric pillars and has a weak pro-reform agenda.

Figure 15: Previous Compositions of Parliament

Source: Cypriot Parliament, AXIA Research

Furthermore note that currently there are 7 parliamentary parties compared to 6 elected during the last House

of the Representatives elections in 2011, whereas there is also an independent MP. This is attributed to the

withdrawal of one MP from the European Party and his inclusion at a later stage in the Citizens’ Alliance party

that was created in April 2013.

Additionally, note that a MP during the 5 years period 2011-16 left from the centre-right DIKO to remain the only

independent MP. Note that a new party entered the political landscape, formed by an ex-DISY MP, which has

absorbed the European Party at end-March 2016.

AXIA Research Page 16

3.5%

2.7%

3.8%

6.8%

7.7%

10.8%

27.0%

37.8%

0.0% 10.0% 20.0% 30.0% 40.0%

Other parties

ELAM

Message of Hope

Citizens' Alliance

EDEK - Green Party

DIKO

AKEL

DISY

45.5%

26.9% 24.9%

2.7%

57.5%

42.5%

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

DISY AKEL Independent Others

1st Round 2nd Round

Figure 16: Presidential elections results (Feb’ 13) Figure 17: European Parliament results (May 14)

Source: Cypriot Parliament, European Parliament, AXIA Research

The outcome of the elections will not change the reforms agenda: it should accelerate it

Despite the fact that Cyprus exited the EAP, several reforms are required to be implemented both in the public

sector and in semi-governmental entities.

As previously noted, the three major reforms that need to materialise include the adoption of the National

Health Scheme (NHS), the privatization of CyTA, as well amendments in the operation of semi-governmental

organisations and several structural reforms reshaping the public sector.

In relation to the above, the Eurogroup noted that the last prior action under the recent review has not been

concluded, referred to the prerequisite for the privatization of CyTA. The Eurogroup statement highlighted that

implementing the privatization of CyTA would be another “growth-enhancing step”.

Delays are imminent given the upcoming elections, though we would expect that post the new Parliament being

sworn in, the process will pick up pace. The return to economic growth and fresh political momentum could

weigh positively on voters, increasing their tolerance towards challenging, albeit necessary reforms.

Table 6 : List of required structural reforms

Structural Reforms Description

Revenue Administration Establishing an integrated legal framework for tax procedures, identifying tax assessment backlogs, reducing collectible arrears and enforcing the larger taxpayer office (LTO)

Public Financial Management Secondary legislation of the Fiscal Responsibility Budget System Law (FRBSL)

Privatizations Cyta’s privatization has encountered many setbacks due to a political debate on benefits of the privatization and discussions with unions Electricity Authority of Cyprus (EAC) has been removed from the privatizations list

Growth Strategy Improvement of Cyprus’ business environment primarily in the areas of tourism and real estate

Public Administration Reform the wage-setting framework for the general government Facilitate the mobility of staff across the civil service

Source: IMF, AXIA Research

After the upcoming parliamentary elections, we also expect the government to push through with the on-going

discretionary deficit-reducing measures, including material progress vis-à-vis the introduction of the public

administration reform concerning the wage bill and property tax. Also note that special mention needs to be

made vis-à-vis the Integrated Casino Resort, involving a total investment of €300-500mn (or c3% in terms of

GDP), which is currently under way in Cyprus following the enactment of the relevant legislation in July 2015.

According to the specific terms of the legislation, a single license will be issued for 30-years with 15-years

exclusivity and the rights for one world class casino and, at the bidder’s choice, up to four satellite casinos in

different districts. The exact design and layout of the casino is at the discretion of the bidder but indicatively, the

investment includes a casino (up to 200 gaming tables and 2,000 slot machines or more post approval from the

authorities), luxury hotel(s) (with 500 or more rooms), malls, restaurants, shopping, entertainment venues, etc.,

clearly providing for a significant investment for the Cypriot economy. The Cypriot government has been

committed to the project, which has been fast-tracked to enhance the Cypriot tourism product, address tourism

seasonality, combat criminal activity in gaming and attract foreign capital and ancillary economic benefits.

AXIA Research Page 17

In the short term the focus will be on the rating agencies

Since 2013, Cyprus’ sovereign credit ratings have been progressively improving as Credit Rating Agencies (CRAs)

have upgraded Cyprus from 2 to 5 notches. However, Cyprus is still in the speculative grade.

In general, the recent exit from the EAP combined with on-going fiscal and structural reforms, could lead to

further upgrades by CRAs, despite the remaining risks and the reforms to be implemented.

Table 7: Sovereign Ratings Short Term Long Term Outlook Next Review

Fitch Ratings B B+ Positive 22 April 2016

Standard & Poor’s B BB- Positive 16 September 2016

Moody’s Investor Service Not provided B1 Stable 15 July 2016

Source: Rating Agencies, Ministry of Finance, AXIA Research

AXIA Research Page 18

Significant achievements: An example to follow...

Cyprus recently turned the page following three years of painful fiscal adjustment, with unprecedented events

that resulted in the closure of an insolvent bank, large deficits and an inability to access the international

markets. The large vulnerabilities of the banking sector, weak public finances, lax regulatory framework, loss of

competitiveness, and weak political will, left a negative mark on the economy and contributed to the events that

followed in March 2013.

Nevertheless, after significant macro adjustments, the country successfully exited the program, and returned to

growth after several years of recession. Moreover, the country’s successful stabilisation of its economy under

the EAP paved the way for an ongoing recovery, a marked rebalancing of its sources of growth, and a drop in

unemployment. Now, three years later, the island nation can fund itself, whilst many of the fiscal, financial and

structural reforms, have put the country back on a path to sustainable growth.

Importantly, the country’s banking sector is on solid footing, allowing it to better tackle workouts/restructurings

of the large stock non-performing loans, while targeted policies being implemented by the banking sector are

also expected to positively assist the sector’s gradual return to normalisation.

Economic and financial conditions in Cyprus have broadly stabilised, providing the necessary momentum for the

country’s recent exit of the EAP, importantly without a successor arrangement. However, official creditors have

noted that additional reforms are necessary. In addition, risks on the macroeconomic outlook are also impacted

by the high level of private sector indebtedness, while balanced fiscal reforms combined with additional

structural reforms, focusing in particular on agreed privatisations, should drive additional investment in the

country and improve economic sentiment. In addition, potential rating upgrades to the investment grade level

should eventually allow the island nation to re-enter the ECB’s QE program.

Clearly, the country’s successful exit from the EAP was driven by its strict adherence to the austerity measures

and the implementation of reforms, including public sector and pension system reforms.

Figure 18: Real GDP (Y-o-Y; Q-o-Q) Figure 19: Economic Sentiment

Source: European Commission, AXIA Research

The Commission’s latest economic forecast depicts that growth in Cyprus is estimated to reach 1.5% this year

and rise to 2.0% in 2017. The Commission notes that in 2016, domestic demand is forecast to shape growth, as

the support to private consumption from low inflation is set to continue. Moreover, investment growth is

expected to slow, due to a negative base effect from the high number of ship registrations observed in 2015.

Nevertheless, the underlying momentum of investment is according to the European Commission gathering

strength, alongside the easing of credit supply conditions. The drag from falling inventories and public spending

cuts will ease and thus provide some additional support to growth. Net exports are expected to be broadly

neutral to GDP growth, as export growth is forecast to slow reflecting that the positive impact from the

depreciation of the euro looks set to weaken.

Cyprus recently turned the page, following three years of painful fiscal adjustment, with unprecedent events that resulted in the closure of an insolvent bank, large deficits and an inability to access the international markets...

The country’s successful exit from the EAP was driven by its strict adherance to the austerity

measures and the implementation of reforms, including public sector and pension system reforms...

-2.5

-2.0

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

-8.0

-6.0

-4.0

-2.0

0.0

2.0

4.0

1Q

11

2Q

11

3Q

11

4Q

11

1Q

12

2Q

12

3Q

12

4Q

12

1Q

13

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Real GDP QoQ (rhs) Real GDP YoY

60.0

70.0

80.0

90.0

100.0

110.0

120.0

Jan-0

4

Oct-0

4

Jul-0

5

Ap

r-06

Jan-0

7

Oct-0

7

Jul-0

8

Ap

r-09

Jan-1

0

Oct-1

0

Jul-1

1

Ap

r-12

Jan-1

3

Oct-1

3

Jul-1

4

Ap

r-15

Jan-1

6

AXIA Research Page 19

Table 8: European Commission Winter 2016 Forecasts

2014

Annual Percentage Changes

Current Prices

(€/mn) % GDP 96-11 2012 2013 2014 2015 2016 2017

GDP 17,394 100 3.1 -2.4 -5.9 -2.5 1.4 1.5 2.0

Private consumption 12,244 70.4 3.9 -0.8 -5.9 0.6 1.8 1.6 1.4

Public consumption 2,742 15.8 4.8 -3.7 -4.1 -9.0 -2.4 -0.9 0.2

Gross fixed capital formation 2,004 11.5 1.7 -20.5 -15.2 -18.0 10.5 5.6 4.0

of which: Equipment 382 2.2 0.5 -26.1 -15.1 -43.5 8.0 6.6 5.2

Exports (goods & services) 10,438 60.0 2.1 -1.1 1.8 -0.5 3.6 3.2 2.6

Imports (goods & services) 10,317 59.3 2.4 -4.4 -3.0 2.0 4.0 3.4 1.9

GNI (GDP deflator) 16,902 97.2 3.2 -5.7 -6.3 -1.8 1.9 1.4 1.9

Contribution to GDP growth: Domestic Demand 3.5 -5.1 -7.0 -3.7 2.1 1.7 1.5

Inventories -0.2 0.8 -1.4 2.7 -0.5 0.0 0.0

Net Exports -0.2 1.9 2.6 -1.4 -0.2 -0.1 0.4

Employment 2.0 -3.2 -6.0 -1.1 0.8 0.9 1.2

Unemployment Rate - 11.9 15.9 16.1 15.5 14.5 13.2

Compensation of employees 4.0 0.8 -3.3 -4.7 -0.8 1.1 1.4

Unit labour costs whole economy 2.8 0.0 -3.4 -3.3 -1.5 0.4 0.6

Real unit labour costs 0.0 -2.1 -2.1 -2.0 -0.4 0.0 -0.2

HICP - 3.1 0.4 -0.3 -1.6 0.2 1.3

Terms of trade goods 0.0 -0.9 0.2 7.1 1.7 2.1 0.8

Trade balance (goods) -24.6 -18.0 -16.3 -16.2 -18.0 -18.1 -18.1

Current-account balance -8.2 -5.6 -4.5 -4.6 -4.8 -4.9 -5.3

Net lending (+) or borrowing (-) vis-a-vis ROW -7.9 -5.5 -3.1 -3.7 -4.1 -4.2 -4.7

General government balance -3.0 -5.8 -4.9 -8.9 -1.0 0.1 0.2

Cyclically-adjusted budget balance - -4.7 -1.8 -5.3 1.2 1.1 0.4

Structural budget balance - -4.9 -1.5 2.3 0.4 0.7 -0.1

General government gross debt 56.9 79.3 102.5 108.2 108.4 99.9 95.0

Source: European Commission Winter 2016 Forecasts

The Commission also notes in its Winter Forecast that increasing economic growth over the forecast horizon

should lead to further labour market improvements, with unemployment expected to decline to around 13% by

2017. With unemployment still high and inflation expectations still subdued, wage growth is expected to remain

muted in 2016 and 2017.

On the fiscal side, the primary surplus is expected to increase to 2.6% of GDP in 2016 and stay constant in 2017,

largely driven by the improving economic outlook.

This rise is expected despite the kicking-in of items that have been frozen during the programme, such as

increases in wages and pensions.

In 2016, the structural balance is expected to improve slightly, as the headline balance improves and the output

gap continues to narrow. In 2017, however, the structural balance is expected to worsen again despite an

improving headline balance, as the output gap turns positive.

The debt-to-GDP ratio, which stood at 108.2% in 2014, is projected to have peaked, dropping in 2015 to about

108% and to decline to 95% in 2017.

The Commission also notes in its Winter Forecast that increasing

economic growth over the forecast horizon should lead to further labour market improvements, with unemployment expected to decline to around 13% by 2017. With unemployment still high and inflation expectations still subdued, wage growth is expected to remain muted in 2016 and 2017...

On the fiscal side, the primary surplus is expected to increase to 2.6% of GDP in 2016 and

stay constant in 2017, largely driven by the improving economic outlook...

AXIA Research Page 20

0

20

40

60

80

No

v-12

Jan-1

3

Mar-1

3

May-1

3

Jul-1

3

Sep-1

3

No

v-13

Jan-1

4

Mar-1

4

May-1

4

Jul-1

4

Sep-1

4

No

v-14

Jan-1

5

Mar-1

5

May-1

5

Jul-1

5

Sep-1

5

No

v-15

Jan-1

6

Households Corporate

-20%

0%

20%

40%

0

20

40

60

80 D

ec-06

Jun

-07

Dec-0

7

Jun

-08

Dec-0

8

Jun

-09

Dec-0

9

Jun

-10

Dec-1

0

Jun

-11

Dec-1

1

Jun

-12

Dec-1

2

Jun

-13

Dec-1

3

Jun

-14

Dec-1

4

Jun

-15

Dec-1

5

HHs & NFCs loans (lhs) Flow y-o-y (rhs)

Competitive Landscape

The Cypriot economy and in particular the banking sector have undergone significant changes over the last few

years, driven primarily by the country’s recent MoU programme. Though Cyprus, following three consecutive

years of recession, has started gradually to show the first positive signals of growth in 2015, driven mainly by

resilient private consumption, the banking system still faces a number of difficulties given the large non-

performing loan (NPL) levels across both private and corporate credit, current low nominal interest rate

environment reflecting an accommodative stance on monetary policy, as well as the significant need for on-

going deleveraging in almost all sectors of the economy. Over the recent period, households and non-financial

corporations have benefited from a reduction in interest rates, resulting in the ability of the former to benefit

from reduced loan servicing costs, whilst creating room for the latter to benefit from growth in private

consumption and investment.

Accordingly, it is important in a low interest rate environment that necessary deleveraging is not jeopardised,

therefore allowing the restoration of a more balanced financial position to reduce the high-level of indebtedness

and hence higher debt charges, in particular for non-financial corporations.

Notwithstanding, banks continue to increase deleveraging actions and consolidate balance sheets and are seeing

improvements in stabilising NPL formations. While the flow of new NPLs is not increasing, modest credit volume

expansion and non-performing exposure continue to weigh negatively on profitability.

In addition to managing NPLs successfully, the sector faces significant challenges ahead that include amongst

others: (i) the assurance of adequate capitalisation of Greek banks subsidiaries; (ii) the further implementation

of reforms in relation to strengthening supervision, central bank governance and organisation; (iii) the

conclusion of Laiki Bank resolution (or liquidation); and (iv) the continuous restructuring of the Coop sector.

Particularly, note that additional accelerated progress in relation to the Coop front could have a transformational

footprint for the whole Cypriot banking system, not only in favour of improved sector consolidation and a more

efficient management of NPLs, but also as a way to attract investor interest through the required EAP guidelines

to list on the Cyprus Stock Exchange by 2017.

Loan volumes remain under pressure as household credit took the biggest hit during the last 12 months

Cypriot banks, after two consecutive years (i.e. 2013-14) of significant credit contraction, have started to record

positive loan growth in 2015, albeit small by all accounts. Over the last twelve months, credit contraction has

shown signs of resistance, moving constantly to positive territory except for early 2016 data (y-t-d decline

through to February), indicating that although contraction trends have halted, the deleveraging theme continues

to be of primary significance for both non-financial corporations and households).

Figure 20: Credit impulse (Feb’16) (€bn/%) Figure 21: HHs & NFCs Credit (Feb’16) (€/bn)

Source: Central Bank of Cyprus, AXIA Research

Post the early 2013 crisis, the credit market bottomed out in November 2014, standing at €58.7bn, or c€14bn

(0.8 times Cypriot economic output), down from its €72.8bn peak levels in July 2012. Our understanding is that

the weak loan growth dynamics are result of the high level of indebtedness (corporate debt at 4Q:15 stood at

135.3% of GDP, whereas household debt settled at 150.3% of GDP) as well as the economic slowdown in the

Cypriot economy.

The Cypriot economy and in particular the banking sector have undergone significant changes over the last few years, driven mainly by the country’s

recent economic adjustment process... Banks continue to increase de-leveraging actions and to consolidate balance sheets and have

seen improvements in stabilising NPL formations. While the flow of new non-performing loans (NPLs) is not increasing, modest credit volumes expansion and non-performing exposure, continue to weigh negatively on profitability...

AXIA Research Page 21

0

10

20

30

40

50

60

70

80

Dec-0

6

Jun

-07

Dec-0

7

Jun

-08

Dec-0

8

Jun

-09

Dec-0

9

Jun

-10

Dec-1

0

Jun

-11

Dec-1

1

Jun

-12

Dec-1

2

Jun

-13

Dec-1

3

Jun

-14

Dec-1

4

Jun

-15

Dec-1

5

Consumer Mortgage Other retail Corporate

0

10

20

30

40

50

60

70

80 D

ec-05

Jun

-06

Dec-0

6

Jun

-07

Dec-0

7

Jun

-08

Dec-0

8

Jun

-09

Dec-0

9

Jun

-10

Dec-1

0

Jun

-11

Dec-1

1

Jun

-12

Dec-1

2

Jun

-13

Dec-1

3

Jun

-14

Dec-1

4

Jun

-15

Dec-1

5

Euro Non-euro

The Cypriot banking sector still has a long path ahead towards reaching normalised profitability trends, given

that the adjustment process is on-going. Key risks to the Cypriot banking sector are exacerbated by the fact that

it is significantly exposed to certain asset classes, such as construction and real estate.

As a result, deleveraging will remain in the picture for the medium to longer term, as borrowers are expected to

continue to decrease their debt volumes. Specifically in 2015 on a per bank basis, the Bank of Cyprus domestic

operations recorded a 2.6% y-o-y decline, whereas domestic (i.e. group) loans for Hellenic Bank were up 2.6% y-

o-y when adjusting for the €124mn selective write-offs relating to legal amendments.

Comparatively, according to the Central Bank of Cyprus data total system loan volumes recorded a 2.1% y-o-y

increase for 2015. In addition, we understand that is likely for Hellenic Bank to return to healthy credit expansion

earlier than Bank of Cyprus, as is illustrated from quarterly data as well. In particular, Hellenic Bank has recorded

positive loan growth for both 3Q:15 and 4Q:15 as loans increased on a q-o-q basis by 0.5% and 0.3%,

respectively, whereas Bank of Cyprus domestic loans were down 1.0% and 1.5% on a quarterly read, respectively

for the same period.

Figure 22: HHs & NFCs credit volume by segment (Feb’16) (€/bn)

(€/bn)

Figure 23: System credit by currency (Feb’16) (€/bn)

Source: Central Bank of Cyprus, AXIA Research

Table 9: Cyprus Loans Market Shares

Domestic loans (€/bn) Domestic loans market share (%)

2013 2014 2015 2013 2014 2015

Bank of Cyprus 22.8 21.2 20.7 35.9% 34.5% 32.9%

Hellenic Bank 4.4 4.4 4.4 6.9% 7.2% 7.0%

Cooperative Central Bank 13.4 13.1 12.8 21.0% 21.3% 20.4%

Cyprus Development Bank 0.4 0.4 n.a. 0.7% 0.7% n.a.

Alpha Bank Cyprus¹ 5.1 5.1 5.3 8.0% 8.6% 8.4%

Eurobank Cyprus 1.1 1.2 1.6 1.8% 2.0% 2.5%

Piraeus Bank 0.8 0.8 n.a.² 1.3% 1.4% n.a.

RCB Bank³ 6.4 7.0 n.a. 10.1% 11.5% n.a.

Other 9.1 8.2 18.1 14.3% 13.4% 28.8%

Subtotal 54.5 53.3 44.7 85.7% 86.6% 71.2%

System loans⁴ 63.6 61.5 62.8 100.0% 100.0% 100.0%

Source: Central Bank of Cyprus; Presentations; Financial Statements; AXIA Research (Calculations)

Notes: 1 Includes Emporiki Bank Cyprus balances, 2. Piraeus Bank has proceeded with the divestment of Cypriot operations, 3. Group figures, 4. December 2015 figures

Hellenic Bank managed to provide new lending, despite its cautious stance vis-à-vis credit expansion as new

credit volumes targeted mainly creditworthy businesses and households. Hellenic Bank’s total new lending for

2015 reached €377mn, reflecting the bank’s “build” element strategy of expanding the loan portfolio and

increasing market share from its current 7.0% (December 2015 data). In particular, total new lending consisted

of €300mn to business and the remaining €77mn from non-business credit (€13mn consumer and €64mn

mortgages).

To this end, note that Hellenic Bank plans to maintain the positive momentum in new credit, primarily by

capitalizing on the funding of Cypriot corporates in conjunction with the European Investment Bank.

In addition, Hellenic Bank recently announced a €20mn trade facilitation programme with EBRD. Through the

facility the EBRD will issue guarantees in favour of international commercial banks covering the political and

AXIA Research Page 22

-5.0%

-4.0%

-3.0%

-2.0%

-1.0%

0.0%

1.0%

2.0%

3.0%

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

BoC HB System

131%

0%

40%

80%

120%

160%

0

20

40

60

80

Dec-0

6

Jun

-07

Dec-0

7

Jun

-08

Dec-0

8

Jun

-09

Dec-0

9

Jun

-10

Dec-1

0

Jun

-11

Dec-1

1

Jun

-12

Dec-1

2

Jun

-13

Dec-1

3

Jun

-14

Dec-1

4

Jun

-15

Dec-1

5

L-t-D (rhs) Loans (lhs) Deposits (lhs)

-15.0%

-10.0%

-5.0%

0.0%

5.0%

Mar-1

3

May-1

3

Jul-1

3

Sep-1

3

No

v-13

Jan-1

4

Mar-1

4

May-1

4

Jul-1

4

Sep-1

4

No

v-14

Jan-1

5

Mar-1

5

May-1

5

Jul-1

5

Sep-1

5

No

v-15

Jan-1

6

Corporate Consumer Mortgage Other retail

0%

30%

60%

90%

120%

150%

180%

1Q

07

3Q

07

1Q

08

3Q

08

1Q

09

3Q

09

1Q

10

3Q

10

1Q

11

3Q

11

1Q

12

3Q

12

1Q

13

3Q

13

1Q

14

3Q

14

1Q

15

3Q

15

Household Debt as % of GDP Corporate Debt as % of GDP

commercial payment risk of the transactions undertaken by Hellenic Bank, enabling the bank to offer a wider

range of products to its customers base.

Looking to Bank of Cyprus, the evolution of its domestic loan book over the last 2.5 years has recorded a

significant contraction, albeit an important deceleration of the downward momentum has occurred over the

recent quarters. Importantly, despite the on-going deleveraging, the bank managed to provide new lending of

€0.6bn during 2015 to support the economic recovery and promising sectors.

Figure 24: System Loans-to-Deposit Ratio (Feb’16) (€bn/%) Figure 25: System credit by segment y-o-y evolution (Feb’16) (%)

Source: Central Bank of Cyprus, AXIA Research

Recall that Bank of Cyprus cannot be compared directly with Hellenic Bank in terms of loan book momentum

cycles, as the former has acquired in 2013 certain assets and liabilities of Laiki, hence it was impacted more

substantially by worsening asset quality dynamics. Despite the above, Bank of Cyprus maintains the largest

market share, followed by Cooperative Central bank which captures c20% of the total Cypriot loan market.

Figure 26: Credit impulse q-o-q (4Q:15) (%) Figure 27: Credit to GDP (4Q:15) (%)

Source: Central Bank of Cyprus, Presentations, Financial Statements, AXIA Research

Note that Hellenic Bank has a limited international presence (except for Representative Offices in Moscow,

Johannesburg, Saint Petersburg and Kiev), hence its loan book evolution depends primarily on domestic

developments and trends, whereas circa 91% of Bank of Cyprus credit portfolio is geographically focused in

Cyprus, thus offering some level of diversification and flexibility, compared to Hellenic Bank, albeit still driven by

the domestic investment case.

AXIA Research Page 23

19.0%

9.7%

20.7%

50.6%

Mortgages Consumer SMEs Corporate

0.6 0.7

0.8 0.7

2.6 2.7

0.2 0.2 0.1 0.1

4.4 4.4

0.0

1.0

2.0

3.0

4.0

5.0

6.0

2014 2015

Mortgages Consumer SMEs Corporate Other

4.7 4.4

0.9

0.0

1.0

2.0

3.0

4.0

5.0

2Q

12

3Q

12

4Q

12

1Q

13

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Domestic (lhs) International (lhs)

24.0

20.7

4.4 1.9

-15.0%

-10.0%

-5.0%

0.0%

5.0%

10.0%

15.0%

0.0

5.0

10.0

15.0

20.0

25.0

30.0

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Domestic (lhs) International (lhs) Group y-o-y (rhs)

22.6

28.4

4.4 4.3

2.4 2.2

5.1 4.7

11.8 11.4

23.8 22.6

0.0

5.0

10.0

15.0

20.0

25.0

30.0

2014 2015

Mortgages Consumer SMEs Corporate

Figure 28: BoC Group Loans by segment (4Q:15) (€/bn) Figure 29: BoC Group Loans evolution (4Q:15) (€bn/%)

Source: Presentations, Financial Statements, AXIA Research

International operations of Bank of Cyprus in terms of loans are focused on a stable presence in the UK, and on-

going divestments of all other foreign operations.

Figure 30: BoC Group Loans by segment (4Q:15) (%) Figure 31: BoC Group Loans by geography (4Q:15) (%)

Source: Presentations, Financial Statements, AXIA Research

In terms of detailed composition of the loan book of each bank, Bank of Cyprus has clearly the largest exposure

in corporate loans (c.51%) followed by SMEs with c21% according to 2015 data, indicating the different business

model the bank maintains compared to Hellenic Bank, which has a credit portfolio consisting primarily of SMEs

(c62%), with corporates accounting for only c4% of the total loan book.

Figure 32: HB Group Loans by segment (4Q:15) (€/bn) Figure 33: HB Group Loans evolution (4Q:15)1 (€/bn)

Source: Presentations, Financial Statements, AXIA Research; Note: 1: International loans effectively reflect the exposure of the Greek branch network sold in 1Q13

We view that the objective for both Bank of Cyprus and Hellenic Bank is to capitalize on the rebound of the

Cypriot economy and on the improvement in asset quality, thereby seeking to increase domestic loan market

share going forward by injecting healthy credit into the Cypriot economy.

91.4%

5.3% 1.2% 2.1%

Cyprus UK Russia Other Countries

AXIA Research Page 24

14.9%

16.0%

62.3%

4.7% 2.2%

Mortgages Consumer SMEs Corporate Other

-45%

-30%

-15%

0%

15%

30%

0

20

40

60

80

Dec-0

6

Jun

-07

Dec-0

7

Jun

-08

Dec-0

8

Jun

-09

Dec-0

9

Jun

-10

Dec-1

0

Jun

-11

Dec-1

1

Jun

-12

Dec-1

2

Jun

-13

Dec-1

3

Jun

-14

Dec-1

4

Jun

-15

Dec-1

5

NFCs (lhs) Households (lhs) System Deposits y-o-y (rhs)

-10.0

-5.0

0.0

5.0

10.0

15.0

20.0

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

1Q

10

3Q

10

1Q

11

3Q

11

1Q

12

3Q

12

1Q

13

3Q

13

1Q

14

3Q

14

1Q

15

3Q

15

Deposits (HHs & NFCs) (lhs) Commercial Gap (rhs)

1.3

0.7

1.2

0.2 0.3

0.7

1.3

0.7

1.1

0.3 0.3

0.7

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

Retail Trade Construction & Real Estate

Manufacturing Tourism Other sectors

2014 2015

Figure 34: HB Group Loans by segment (4Q:15) (%) Figure 35: HB Group Gross Loans by sector (4Q:15) (€/bn)

Source: Presentations, Financial Statements, AXIA Research

Funding and Liquidity: Deposit levels improve offering Cypriot banks additional liquidity

Although loan book trends point to continued system deleveraging in 2016, deposit growth for households and

non-financial corporations have displayed positive signs over last 5 months, after 41 consecutive months of

contraction. In particular, the c€22bn deposit outflow over the last c3.5 years can be explained by: (i) the

economic downturn of the Cypriot economy that started in 2012 and accelerated swiftly in 2013; (ii) the March

2013 one-off bail-in imposed on private deposits over €100,000 according to EAP’s requirements for

restructuring the financial sector; and (iii) the negative effect of the on-going fiscal consolidation as per EAP

structural commitments up until March 2016.

Figure 36: System Deposits and Commercial Gap (4Q:15) (€/bn) Figure 37: Aggregate Deposits (Feb’16) (€/bn and y-o-y)

Source: Central Bank of Cyprus, AXIA Research

Despite the complete lifting of capital controls on deposit withdrawals last April and the negative interest rate

environment, aggregate bank deposits are stabilizing - as described earlier - from year end-2014 through mid-

2015. To that end, increased deposit flow has been registered in the largest core domestic banks, including

Cooperative Bank, Bank of Cyprus and Hellenic Bank.

In addition, the 2015 events in Greece that resulted in increased economic and political uncertainty resulted in

deposit outflows in the Greek subsidiaries of Cypriot banks during the first half of 2015, which were primarily

transferred to the abovementioned core domestic banks. At this point, following Greece signing the new ESM

programme in August 2015, deposits of Greek subsidiaries have been gradually recovering.

Note that according to February 2016 data, depositor’s confidence (i.e. households and non-financial

corporations) in the banking system is gaining a relatively positive momentum (+2.2% y-o-y).

AXIA Research Page 25

227.8% 223.5%

313.8%

45.6% 35.4% 47.2%

91.6% 68.0% 83.3%

0.0%

50.0%

100.0%

150.0%

200.0%

250.0%

300.0%

350.0%

2013 2014 2015

Alpha Bank ¹ Eurobank Piraeus Bank²

Table 10: Cyprus Deposit Market Shares

Domestic deposits (€/bn) Domestic deposit market share (%)

2013 2014 2015 2013 2014 2015

Bank of Cyprus 12.7 11.3 12.7 27.0% 24.5% 27.6%

Hellenic Bank 5.5 6.3 6.1 11.7% 13.8% 13.4%

Cooperative Central Bank 13.5 12.4 12.7 28.7% 26.9% 27.7%

Cyprus Development Bank 0.5 0.4 n.a. 1.0% 0.9% n.a.

Alpha Bank Cyprus¹ 2.2 2.3 1.7 1.0% 0.9% 3.7%

Eurobank Cyprus 2.5 3.5 3.3 5.3% 7.5% 7.2%

Piraeus Bank 0.9 1.2 n.a.² 1.9% 2.7% n.a.

RCB Bank³ 1.7 1.9 n.a. 3.7% 4.2% 0.0%

Other 7.4 6.8 9.4 15.8% 14.8% 20.5%

Subtotal 39.6 39.3 36.6 84.2% 85.2% 79.5%

System deposits 47.0 46.1 46.0 100% 100% 100%

Source: Central Bank of Cyprus; Presentations; Financial Statements; AXIA Research (Calculations)

Notes: 1. Includes Emporiki Bank Cyprus balances 2. Piraeus Bank has proceeded with the divestment of Cypriot operations 3. Group figures

It is important to note that the reduction in credit and in particular non-healthy loan volumes as well the

expected continuing improvements in deposit levels could start reducing the commercial gap significantly,

bringing it down to normalised levels as depicted during the period 2010-2011 (90-110%).

Diagram 38: Liquidity of Greek banks branches (L-t-D)³ (4Q:15)

(%)

Source: Presentations; AXIA Research

Notes: 1. Includes Emporiki Bank Cyprus balances; 2. 9M:15 Figures; 3. Gross Loans

Note that the majority of Cypriot banks do not depend on Eurosystem funding, albeit there was a significant

increase during recent years due to the large restructurings/resolutions in the banking sector after the events of

March 2013. In particular, the Bank of Cyprus received a significant ELA loan (c€11.4bn) in a bid to cover

necessary funding needs as part of its acquisition of certain assets and liabilities acquired from Cyprus Popular

Bank (CPB or “Laiki”), whereas the “bad” bank has been placed into resolution and currently remains under

special administration.

AXIA Research Page 26

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

-8.0

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

Jan-0

8

Jun

-08

N

ov-0

8

Ap

r-09

Sep

-09

Feb

-10

Ju

l-10

D

ec-10

M

ay-11

O

ct-11

M

ar-12

A

ug-1

2

Jan-1

3

Jun

-13

No

v-13

A

pr-1

4

Sep-1

4

Feb-1

5

Jul-1

5

Dec-1

5

Deposit Flow (m-o-m) (lhs) Eurosystem Funding (rhs)

-60%

-40%

-20%

0%

20%

40%

60%

Dec-0

6

Jun

-07

Dec-0

7

Jun

-08

Dec-0

8

Jun

-09

Dec-0

9

Jun

-10

Dec-1

0

Jun

-11

Dec-1

1

Jun

-12

Dec-1

2

Jun

-13

Dec-1

3

Jun

-14

Dec-1

4

Jun

-15

Dec-1

5

NFCs HHs System Deposits

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

80.0

Dec-0

5

Jul-0

6

Feb-0

7

Sep-0

7

Ap

r-08

No

v-08

Jun

-09

Jan-1

0

Au

g-10

Mar-1

1

Oct-1

1

May-1

2

Dec-1

2

Jul-1

3

Feb-1

4

Sep-1

4

Ap

r-15

No

v-15

Euro Non-euro

11.1

3.3

34%

14%

0%

10%

20%

30%

40%

-

2.0

4.0

6.0

8.0

10.0

12.0

Jun

-13

Au

g-13

Oct-1

3

Dec-1

3

Feb-1

4

Ap

r-14

Jun

-14

Au

g-14

Oct-1

4

Dec-1

4

Feb-1

5

Ap

r-15

Jun

-15

Au

g-15

Oct-1

5

Dec-1

5

Feb-1

6

ELA Funding (lhs) as % of Total Assets (rhs)

Figure 39: Deposits by category evolution (Feb’16) (%) Figure 40: Deposits by currency (Feb’16) (€/bn)

Source: Presentations, Financial Statements, AXIA Research

Recourse to Eurosystem funding continues to follow a significant downward trend in 2015, declining by around

€3.8bn (-45% y-o-y; over 22% of GDP) over the year to €4.7bn. Since the peak observed in September 2012 of

approximately €13.6bn, the accumulated reduction has been approximately €8.9bn through 2015, and a further

reduction has been recorded at end-March 2016 (-14.0% y-t-d). In particular, the sharp drop in Eurosystem

funding is attributed to the substantial drop of ELA dependence as ECB liquidity records more moderate

fluctuations. Accordingly, ELA dependence relates only to Bank of Cyprus, as it is the only bank that received ELA

support. Specifically, ELA reliance is expected to be terminated by year end 2017according to the bank’s medium

to long term targets. In our view, this is an achievable target for Bank of Cyprus as currently (i.e. end March

2016) ELA exposure stands at €3.3bn. Moreover, the improvement on the macro front following the recent

conclusion of the EAP will provide some required normalisation for an expected inflow of new domestic

deposits, as well as the repatriation of deposits from abroad.

Figure 41: BoC reliance to ELA funding (Mar’16) (€bn/%) Figure 42: Eurosystem Funding m-o-m evolution (Mar’16) (€bn/%)

Source: Presentations, Central Bank of Cyprus, AXIA Research

Figure 43: Eurosystem Funding (1Q:16) (€bn/%) Figure 44: Eurosystem Funding & Deposits (Feb’16) (€bn)

Source: Presentations, Central Bank of Cyprus, AXIA Research

-40.0%

-20.0%

0.0%

20.0%

40.0%

60.0%

80.0%

100.0%

0.0

4.0

8.0

12.0

16.0

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

ELA Funding (lhs) ECB Funding (lhs) Eurosystem Funding (rhs)

-30.0%

-20.0%

-10.0%

0.0%

10.0%

20.0%

30.0%

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

3Q

12

4Q

12

1Q

13

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

1Q

16

ELA Funding ECB Funding ELA Funding (q-o-q)

AXIA Research Page 27

7.9 8.2

1.0 1.0

4.3 5.0

0.0

5.0

10.0

15.0

20.0

2014 2015

Time deposits Savings accounts Current & demand accounts

13.2 14.2

121.2%

162.7%

0.0%

50.0%

100.0%

150.0%

200.0%

250.0%

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Group Domestic¹

14.2

22.6

-12.0%

-8.0%

-4.0%

0.0%

4.0%

8.0%

0.0

5.0

10.0

15.0

20.0

25.0

30.0

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Deposits (lhs) Loans (lhs)

Deposits q-o-q (rhs) Loans q-o-q (rhs)

Furthermore, Bank of Cyprus has designed an action path towards reducing ELA funding, which among others

includes: (i) the benefit from continuous deleveraging; (ii) the retention of cash earnings from operations; (iii)

regaining access to wholesale and interbank market; and (iv) new issuance of senior unsecured debt and repos,

assuming there is market conditions favourable environment.

Figure 45: BoC Group Deposits by type (4Q:15) (€/bn) Figure 46: BoC Domestic Deposits by segment (4Q:15) (€/bn)

Source: Presentations, Financial Statements, AXIA Research

In October 2015, the restructuring of Bank of Cyprus retained mortgage covered bonds resulted in Moody’s

upgrading its rating on the bank to Baa3 from B1. Following the upgrade to investment grade, the covered bonds

became eligible collateral for the Eurosystem credit operations and therefore have been placed as collateral for

accessing funding from the ECB. Through this transaction, the Bank has raised €550mn of ECB funding for the

repayment of ELA. Fitch also recently upgrade the same bond by three notches (just one notch below investment

grade).

During 4Q:15 the Republic of Cyprus repaid a bond held by the Bank of Cyprus for €340mn. Through the covered

bond transaction, the bond repayment and deposit inflows during 4Q:15 and early 2016, about €1.6bn of ELA

was repaid post 30 September 2015, reducing ELA to a current level of €3.3bn. In total, ELA has been reduced by

€8.1bn or 71% since its peak of €11.4bn in April 2013.

Figure 47: BoC Net Loans-to-Deposits (4Q:15) (%) Figure 48: BoC Group Deposits & Loans evolution (4Q:15) (€bn/%)

Source: Presentations, Financial Statements, AXIA Research, Note 1. Gross Loans

Accordingly, ECB assistance has been broadly stable of late, though falling since August 2013. According to latest

CBC data, system ECB reliance has declined by 29.0% y-o-y, settling in at €0.7bn, while on a y-t-d basis it is down

by 16.9%.

7.0 7.8

2.8 3.6

1.5 1.3 11.3 12.7

-1.0

1.0

3.0

5.0

7.0

9.0

11.0

13.0

15.0

2014 2015

Households Non financial Corporations Other

AXIA Research Page 28

67.8%

50.4%

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

80.0%

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

2.8 2.4

0.4 0.6

2.9 3.0

0.2 0.2

6.3 6.1

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

2014 2015

Time deposits Savings Demand Notice

50.0%

16.0%

23.0%

5.0% 6.0%

Cyprus Other EU Russia Other countries Non EU

-8.0%

-4.0%

0.0%

4.0%

8.0%

0.0

2.0

4.0

6.0

8.0

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Deposits (lhs) Loans (lhs)

Deposits q-o-q (rhs) Loans q-o-q (rhs)

Figure 49: HB Group Deposits by type (4Q:15) (€/bn) Figure 50: HB Group Net Loans-to-Deposit (4Q:15) (%)

Source: Presentations, Financial Statements, AXIA Research

On the other hand, Hellenic Bank funds all its loans via customer deposits as there is no exposure to Eurosystem

funding, except for €236mn of TLTROs, and no dependence on the interbank market. Accordingly, deposits will

continue to represent the main funding source of the Cypriot banking system.

Figure 51: HB Group Deposits by geography (4Q:15) (€/bn) Figure 52: HB Gross Loans & Deposits evolution (4Q:15) (€bn/%)

Source: Presentations, Financial Statements, AXIA Research

Bank of Cyprus realized a substantial increase in customer deposits during 2015 (+7.7% y-o-y), driven by

domestic customer base which recorded a €1.4bn y-o-y pick up (+12.2% y-o-y), whereas international deposits

declined by 19.7% y-o-y due to the disposal of its Russian operations. However, the customer deposit base in the

UK increased by 13.7% y-o-y, offsetting the Russian divestment to some extent.

The latter registers an improvement on the funding side, as depicted by L-t-D ratio, which at 4Q:15 decreased by

20% y-o-y on the back of the increasing provision levels, settling in at 121% (4Q:14 reading at 141%), whereas

the new medium term targets, as announced by the bank, foresee a further drop.

Furthermore, Hellenic Bank’s deposits were down only by 3.3% y-o-y in 2015, despite the decline in deposit

interest rates imposed by the bank, and did not change its market share, whereas on a q-o-q basis, 4Q:15

deposits declined 2.5%. The bank places emphasis on the maintenance of a stable customer deposits base, as it

is expected to remain its primary funding source.

That said, we think that Hellenic Bank has an advantage compared to Bank of Cyprus, because it has no ELA

exposure, making the bank less sensitive to deposit rate pricing strategies. In addition, maintaining a significantly

healthy L-t-D ratio, Hellenic Bank is in a position to increase its lending base, while attracting targeted deposit

customer offerings at more competitive deposit rates.

AXIA Research Page 29

-0.40%

-0.20%

0.00%

0.20%

0.40%

Jan-1

3

Mar-1

3

May-1

3

Jul-1

3

Sep-1

3

No

v-13

Jan-1

4

Mar-1

4

May-1

4

Jul-1

4

Sep-1

4

No

v-14

Jan-1

5

Mar-1

5

May-1

5

Jul-1

5

Sep-1

5

No

v-15

Jan-1

6

Mar-1

6

Euribor 1 month Euribor 3 month

-1.0

1.0

3.0

5.0

7.0

9.0

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

Consumer Retail Mortgage Other lending Euribor 1 year

3.0

4.0

5.0

6.0

7.0

8.0

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

NFCs: Overdrafts NFCs: Loans up to €1mn NFCs: Loans over €1mn

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

HHs NFCs HHs: Euro Area NFCs: Euro Area

Diagram 53: Coop Key Balance Sheet indicators (€bn/%)

Source: Financial Statements, AXIA Research

Funding Costs

Euribor rates started to come under pressure from April 2014 onwards, falling into negative territory during

2Q:15. Specifically, 1M Euribor and 3M Euribor settled in at -0.31% and -0.23%, respectively in March 2016. Note

that this downward trend, as a result of actions carried out by the ECB to keep benchmark interest rates at low

levels - even under specific circumstances reducing them - impacts both deposits and loans, since rates are based

on Euribor as a reference rate plus an additional spread.

Figure 54: 1M and 3M Euribor rates (Mar’ 16) (%) Figure 55: New Deposits rates vs. Euro Area (up to 1yr)

Source: Central Bank of Cyprus, Bloomberg, AXIA Research

As a result, ultra-low Euribor rates have a negative impact on yields and affect net interest income. Furthermore,

the declining interest rates are driving lower time deposits costs. The latter indicates an improving customer

spread for the Cypriot banking system, though delayed, given that deposit rates (due to maturity) take longer to

adjust.

Figure 56: Front Book Loans consumer (up to 1yr) vs. Peers (%) Figure 57: Back Book Loans consumer (up to 5yrs) vs. Peers (%)

Source: European Central Bank, Central Bank of Cyprus, AXIA Research

10.1 10.0 9.9 9.5 9.3

12.4 12.6 12.7 12.7 12.7

73.1% 72.0%

74.0%

76.0%

78.0%

80.0%

82.0%

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

4Q14 1Q15 2Q15 3Q15 4Q15

Net loans (lhs) Deposits (lhs) L-t-D (rhs)

AXIA Research Page 30

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

Greece Spain Italy Cyprus Portugal

0.0

1.0

2.0

3.0

4.0

5.0

6.0

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

Greece Spain Italy Cyprus Portugal

3.0

5.0

7.0

9.0

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

Greece Spain Italy Cyprus Portugal

2.0

4.0

6.0

8.0

10.0

12.0

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

Greece Spain Italy Cyprus Portugal

1.0

3.0

5.0

7.0

9.0

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

Greece Spain Italy Cyprus Portugal

1.0

2.0

3.0

4.0

5.0

6.0

7.0

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

Greece Spain Italy Cyprus Portugal

We view that there is still room for a further decline in deposit costs as the difference between back and front

book remains at c25bps, especially on the households’ rates front with agreed maturity up to 2 years.

Figure 58: Front Book Loans consumer (up to 1yr) vs. Peers (%) Figure 59: Back Book Loans consumer (up to 5yrs) vs. Peers (%)

Source: European Central Bank, Central Bank of Cyprus, AXIA Research

In relation to the evolution of Hellenic Bank’s book rates in 2015, the reduction of loan interest rates early in

2015 (euro base rate on loans in euro has decreased in March 2015 by 1%) had an immediate negative impact on

the bank’s interest margin, as 12-month fixed deposit rates did not adjust immediately, but gradually throughout

the year (in accordance with the maturity schedule of the fixed deposits).

Figure 60: Front Book Loans housing (up to 1yr) vs. Peers (%) Figure 61: Back Book Loans housing (up to 5yrs) vs. Peers (%)

Source: European Central Bank, Central Bank of Cyprus, AXIA Research

Hellenic Bank’s negative margin on term deposits stood at 125 bps at year end 2015 (c165bps at 1Q:15),

justifying the lower remuneration in the renewal of deposits and in new deposits offered, compared to early

2015 (Jan-15), when it was 135bps higher at 260bps.

Figure 62: Front Book Deposits HHs (up to 1yr) vs. Peers (%) Figure 63: Back Book Deposits NFCs (up to 1yr) vs. Peers (%)

Source: European Central Bank, Central Bank of Cyprus, AXIA Research

AXIA Research Page 31

0.0

1.0

2.0

3.0

4.0

5.0

6.0

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

Greece Spain Cyprus Portugal

0.0

1.0

2.0

3.0

4.0

5.0

6.0

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

Greece Spain Italy Cyprus Portugal

3.5

4.5

5.5

6.5

7.5

8.5

9.5

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

Greece Spain Italy Cyprus Portugal

3.0

5.0

7.0

9.0

11.0

13.0

Jan-0

8

Jul-0

8

Jan-0

9

Jul-0

9

Jan-1

0

Jul-1

0

Jan-1

1

Jul-1

1

Jan-1

2

Jul-1

2

Jan-1

3

Jul-1

3

Jan-1

4

Jul-1

4

Jan-1

5

Jul-1

5

Jan-1

6

Greece Spain Italy Cyprus Portugal

573 537 536 527

139 119 104 100

434 418 432 427

0

100

200

300

400

500

600

700

1Q15 2Q15 3Q15 4Q15

Loans Yield Cost of Deposits Customer spread

2.60%

1.25%

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

Jan-1

5

Feb-1

5

Mar-1

5

Ap

r-15

May-1

5

Jun

-15

Jul-1

5

Au

g-15

Sep-1

5

Oct-1

5

No

v-15

Dec-1

5

Note that the average deposit rates for Hellenic Bank (on both front and back books excluding non-euro

currencies) of current, savings notice and fixed deposits were 0.1%, 0.3%, 0.6% and 1.1%, respectively, for 2015.

Figure 64: Front Book Deposits NFCs (up to 1yr) vs. Peers (%) Figure 65: Back Book Deposits NFCs vs. Peers (%)

Source: European Central Bank, Central Bank of Cyprus, AXIA Research

On the system’s loan rates front, spreads for new loans to households related to housing and consumer credit

are falling over the past twelve months (c100bps and c125bps annual drop, respectively), albeit with some

fluctuations during the year.

Figure 66: Front Book Loans consumer (up to 1yr) vs. Peers (%) Figure 67: Back Book Loans consumer (up to 5yrs) vs. Peers (%)

Source: European Central Bank, Central Bank of Cyprus, AXIA Research

However, front book loan rates for corporates have registered a clearer downward trend (down c120bps for

NFCs up to €1.0mn and down c290bps for NFCs over €1.0mn, respectively) as due to lack of volume growth

during 2015, which eventually offset lower deposit costs. The picture on new corporate deposits proved to be

more mixed, as depicted by relative fluctuations over the last 12 months (c95bps annual decrease for NFCs up to

1yr maturity).

Figure 68: BoC yields evolution (bps) Figure 69: HB Deposit interest rates evolution (%)

Source: Presentations, AXIA Research

AXIA Research Page 32

1.0

1.5

2.0

2.5

3.0

3.5

Dec-1

0

Mar-1

1

Jun

-11

Sep-1

1

Dec-1

1

Mar-1

2

Jun

-12

Sep-1

2

Dec-1

2

Mar-1

3

Jun

-13

Sep-1

3

Dec-1

3

Mar-1

4

Jun

-14

Sep-1

4

Dec-1

4

Mar-1

5

Jun

-15

Sep-1

5

-80.0

-60.0

-40.0

-20.0

0.0

20.0

-5.0

-4.0

-3.0

-2.0

-1.0

0.0

1.0

2.0

1Q

11

2Q

11

3Q

11

4Q

11

1Q

12

2Q

12

3Q

12

4Q

12

1Q

13

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

RoA RoE

3.84%

4.23%

3.54%

3.79% 3.86%

3.69% 3.67% 3.69%

3.90% 3.82% 3.81%

3.94%

3.79% 3.70%

3.30%

3.50%

3.70%

3.90%

4.10%

4.30%

4.50%

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Domestic Group

Similarly, Bank of Cyprus saw a c50bps decline in loan yields during 2015, partially due to loan restructurings as

well as a gradual repricing of deposits (4Q:15 at 100bps), negatively impacting domestic customer spread.

Net Interest Margin Outlook

Net interest margin (NIM) has been relatively stable for the Cypriot banking system over the recent quarters,

averaging 300bps in 2014, whereas according to the latest available data (3Q:15), in 2015 NIM has been moving

some 30bps lower compared to 2014.

The above reduction is attributed to the on-going efforts of Cypriot banks to deleverage balance sheets. Going

forward, we expect that de-risking actions will weigh negatively on NIM, as Cypriot banks, in a bid to offer

realistic loan restructurings to debtors, will provide lower loan rates, enabling more debtor friendly loan

repayment schedules. That said, the latter might result in further declines in loan yields, requiring banks to

adjust their loan rates by restoring demand and managing competition.

As a result, we view that although the continuous re-pricing of deposits might partially offset the pressure from

decreased loan rates, eventually this action will not manage to drive NIM higher than current levels over the

short-to-medium-term.

Nevertheless, the return of the Cypriot economy to positive growth as well as the recently improved established

legal framework concerning NPL management may improve loan repayment workouts, hence positively

impacting NIM.

Figure 70: System NIM (%) Figure 71: RoE and RoA (%)

Source: Central Bank of Cyprus, International Monetary Fund, AXIA Research

Hellenic Bank’s NIM recorded a substantial annual drop (c120bps) in 2015, due to the material time lag between

decreases in loan yields in March 2015 and benefits from deposit rate reductions towards year end 2015. In

addition, the y-o-y drop is attributed to methodological alignments applied in interest income recognition, with a

respective decline in loan loss charges as well. Bank of Cyprus faced a milder impact (c15bps), despite the

implementation of loan restructuring and deleveraging actions. Note that Bank of Cyprus 13% y-o-y drop in NII

reflects the repayment of a Cyprus sovereign bond in June and December 2015. The bank’s strategy over the

short to medium term involves new credit origination as well as maintaining loan yields at current levels in order

to mitigate NII pressure.

Figure 72: BoC and HB NIM Figure 73: BoC NIM (q-o-q)

Source: Bank of Cyprus, Presentations, AXIA Research

3.90% 4.07% 3.99% 3.94% 3.94% 3.88% 3.85% 3.79%

3.60% 3.44% 3.35% 3.17%

2.50%

2.00% 2.00% 2.00% 1.00%

2.00%

3.00%

4.00%

5.00%

1Q

14

1H

14

9M

14

FY14

1Q

15

1H

15

9M

15

FY15

BoC HB

AXIA Research Page 33

14.8

45.6

0.0

10.0

20.0

30.0

40.0

50.0

0.0

4.0

8.0

12.0

16.0

20.0

1Q

11

2

Q1

1

3Q

11

4

Q1

1

1Q

12

2

Q1

2

3Q

12

4

Q1

2

1Q

13

2

Q1

3

3Q

13

4

Q1

3

1Q

14

2

Q1

4

3Q

14

4

Q1

4

1Q

15

2

Q1

5

3Q

15

Uneployment (lhs) NPL ratio (rhs)

-4.0%

-2.0%

0.0%

2.0%

4.0%

-1.0

-0.8

-0.5

-0.3

0.0

0.3

0.5

0.8

1.0

Oct-1

3

Dec-1

3

Feb-1

4

Ap

r-14

Jun

-14

Au

g-14

Oct-1

4

Dec-1

4

Feb-1

5

Ap

r-15

Jun

-15

Au

g-15

Oct-1

5

Dec-1

5

NPLs / NPEs flow System m-o-m

Furthermore, taking into account the intention of Bank of Cyprus to eliminate ELA dependence by 2017, we

understand that the latter costly funding tool will result in additional NIM pressure compared to Hellenic Bank,

which has no Eurosystem funding. Nevertheless, according to management’s guidance we do not expect NIM to

fall below 300bps over the medium term, whereas by 2017 a c50bps drop could be seen. In the medium to long

term we expect that funding mix and liquidity conditions to continue their current momentum, thus placing

further pressure on NIM. In our view the key driver is the large benefits stemming from lower term deposit costs

going forward - at least in the short to medium term. We remain cautious on corporate loans spreads, as

increased pressure could be seen further as well as these could decrease at an accelerating rate.

Asset Quality

The biggest positive catalyst for Cypriot bank investment cases is the ability to reduce the high level of non-

performing (NPLs) or non-performing exposures (NPEs), as per the recent new definition established by the EBA,

as well to maintain sufficient capital ratios going forward, thereby not being penalized by increased loan loss

charges relating to non-healthy assets. Accordingly, asset quality trends at year end 2015 depicted that after 5-

years of continuing deterioration, new NPL/NPE formations have slowed across the Cypriot banks. Specifically,

note that according to official CBC data, in December 2015, system NPE ratio stood at 45.8%, down 30bps m-o-

m, whereas it recorded a 220bps decline vis-à-vis its peak reading in October 2015 at 48.0%.

Figure 74: System NPLs and NPEs flow and evolution (€/bn, %) Figure 75: System NPLs and Unemployment (%)

Source: Central Bank of Cyprus, Eurostat, IMF, AXIA Research

Note 1. In December 2014 the new NPE methodology per EBA guidelines has been adopted

Note that the NPE ratio decrease provides a promising signal in relation to the halt of deterioration in asset

quality, since the 30bps m-o-m drop is not attributed only to the decrease of total (i.e. system) credit facilities

but also due to the reduction of €0.7bn in non performing exposures as well.

Furthermore, according to Eurostat data, the unemployment rate started to decline during the year, settling in at

13.1% in December 2015 (370bps drop y-o-y). Taking into account that anecdotal evidence points to a positive

correlation between NPL levels and the unemployment rate, improvements in the labour force front could be a

positive indicator that NPL levels have flattened out, thus further deceleration should be anticipated over the

short to medium term.

Nevertheless we should highlight that during 2015 a relative fluctuation in NPE volumes was registered, most

likely driven by non-normalized macro conditions and the delay in the establishment of an effective NPL

management framework, providing the required tools for successful restructurings and for tackling strategic

defaulters.

New NPL formations could pick up if stresses in the banking sector accelerate again...

AXIA Research Page 34

17.8%

49.7% 32.2%

16.0%

46.0% 33.7%

0%

20%

40%

60%

80%

100%

Dec-1

4

Jan-1

5

Feb-1

5

Mar-1

5

Ap

r-15

May-1

5

Jun

-15

Jul-1

5

Au

g-15

Sep-1

5

Oct-1

5

No

v-15

Dec-1

5

Other Corporates SMEs Households

0.0

5.0

10.0

15.0

20.0

25.0

30.0

Dec-1

4

Jan-1

5

Feb-1

5

Mar-1

5

Ap

r-15

May-1

5

Jun

-15

Jul-1

5

Au

g-15

Sep-1

5

Oct-1

5

No

v-15

Dec-1

5

Corporates SMEs Households

30.0%

34.0%

38.0%

42.0%

46.0%

50.0%

54.0%

58.0%

Sep-1

3

No

v-13

Jan-1

4

Mar-1

4

May-1

4

Jul-1

4

Sep-1

4

No

v-14

Jan-1

5

Mar-1

5

May-1

5

Jul-1

5

Sep-1

5

No

v-15

System HHs NFCs

10.0

18.4

38.6

44.9 44.7 45.6

0.0

10.0

20.0

30.0

40.0

50.0

4Q11 4Q12 4Q13 4Q14 2Q15 3Q15

Cyprus Greece Ireland Italy Portugal Spain

Figure 76: NPE volumes by segments (Dec’15) (€/bn) Figure 77: NPEs by segment as of total system NPEs (Dec’15) (%)

Source: Central Bank of Cyprus, AXIA Research

According to the CBC, impairment charges recognised by the sector as a result of successive asset quality reviews

by the central bank and ECB, is likely to contribute to a slowdown in provisioning needs going forward, insofar as

expectations remain vis-a-vis the current macroeconomic scenario and other assumptions in the calculation of

expected losses.

We view that as the economy continues to stabilise new delinquencies are likely to decelerate during 2016,

resulting in lower NPE volumes. The recent exit of Cyprus from the EAP should result in improved

macroeconomic conditions, hence the appearance of normalising trends. However, note that the latter trends

need to become more imminent, before driving a substantial decrease in NPEs, which tend to lag behind

economic growth.

We understand that the biggest driver towards a swift NPE reduction will be from increased loan restructurings

implemented by the “bad” bank internal units, as well as from new mitigating toolkit via the recently established

framework (i.e. AMCs, sales/and or servicing options) and not necessarily from the improvement of the Cypriot

economy (however any additional reductions in NPEs due to improved economic activity adds upside to our

expectations).

Figure 78: NPL/NPE¹ ratio (Dec’ 15) (%) Figure 79: NPL ratio across other European Peers (3Q:15) (%)

Source: Central Bank of Cyprus, International Monetary Fund, AXIA Research;

Note 1. In December 2014 the new NPE methodology per EBA guidelines has been adopted

CBC also notes in its recent economic bulletin (December 2015) that despite the improvement in loan

restructurings and rapid consolidation in the banking sector, the effective tackling of NPLs should accelerate as

the evolution of the system’s portfolio credit quality is expected to continue to be hindered by the still high level

of indebtedness of the non-financial private sector, and the typical lag of default levels vis-à-vis economic

activity.

In addition, the recovery in the domestic economic activity is not broadly based yet nor is it significant in certain

sectors (e.g. construction sector). Cypriot banks continue to face the highest NPL portfolios in the Eurozone, and

could be compared to Greek banks in the periphery with similar sector characteristics to some extent.

AXIA Research Page 35

39% 38%

0%

10%

20%

30%

40%

50%

60%

70%

Portugal Italy Spain Cyprus NFCs HHs

61.6%

29.1%

45.3%

51.9%

49.7%

20.0%

25.0%

30.0%

35.0%

40.0%

45.0%

50.0%

55.0%

60.0%

65.0%

Jun

-13

Jul-13

Au

g-13

Sep-13

Oct-1

3

No

v-13

Dec-1

3

Jan-1

4

Feb-14

Mar-1

4

Ap

r-14

May-1

4

Jun

-14

Jul-14

Au

g-14

Sep-14

Oct-1

4

No

v-14

Consumer loans Credit cards Housing Households Corporate System

-10.0%

-5.0%

0.0%

5.0%

10.0%

15.0%

20.0%

0.0

5.0

10.0

15.0

20.0

25.0

30.0

Sep-1

3

No

v-13

Jan-1

4

Mar-1

4

May-1

4

Jul-1

4

Sep-1

4

No

v-14

Jan-1

5

Mar-1

5

May-1

5

Jul-1

5

Sep-1

5

No

v-15

NFCs (lhs) HHs (lhs) System m-o-m (rhs)

Figure 80: NPE coverage (Transparency Exercise) (1H:15) (%) Figure 81: NPE Coverage (Transparency Exercise) (1H:15) (%)

Source: Presentations, European Banking Authority (Transparency Exercise), AXIA Research

Similarly, in terms of NPE coverage ratio, Cypriot banks are screening below EU peers. However, on the

household front the Cypriot banking sector is screening relatively close with Spanish banks, as the latter faced

significant housing NPL challenges as well over the recent years. The most problematic loan portfolios stems

from SMEs, which account for approximately of 33.7% of system NPEs, whereas total NFCs NPEs loans account

for 49.7% of total NPEs volumes according to December 2015 data.

Similarly, corporate loans account for c44% of total system volumes (compared to c41% relating to household

debt) at February 2016, and we view that the corporate loan portfolio sets the dynamics in terms of trends and

deleveraging, since it is leading asset-quality deterioration. High indebtedness levels for non-financial companies

- 150.3% of GDP at 4Q:15 - and weak profitability have resulted in distressed financial conditions for non-

financial companies.

Nevertheless, household indebtedness poses a substantial concern to the banking system as well, as the 135% of

GDP ratio at 4Q:15 is well above other EU countries levels. Furthermore, household related NPEs account for

c48% of total system non healthy exposures, suggesting that mitigating actions vis-à-vis NPEs drastic reduction

should be implemented uniformly, as focusing only one front exclusively cannot be sustainable in the long term.

This is partly explained also by the fact that in relation to the biggest challenge namely SMEs NPEs, it is possible

that debtors could have delayed payments on obligations. Note that this has been the case concerning Greek

NPLs, according to which debtors, in a bid to maintain the economic viability of their businesses, apart from SBLs

and/or SMEs loans, could have been granted consumer loans (having primary house residence as collateral)

utilising funds for the day to day operations of the business. As a result of being in financial distress, they could

not meet their obligations multiplying the magnitude effect or would selectively decide not to pay even if they

could, in order to benefit from the loose legal-regulatory framework (strategic defaulters).

Figure 82: NPL Ratio per Loan Segment (Nov’ 14) (%) Figure 83: NPL/NPE¹ levels per segment (Dec’ 15) (€/bn)

Source: Central Bank of Cyprus, AXIA Research;

Note 1. In December 2014 the new NPE methodology per EBA guidelines has been adopted

50%47%

45% 45%41%

35%

0%

10%

20%

30%

40%

50%

60%

Greece Ireland Italy Spain Portugal Cyprus

AXIA Research Page 36

62.9%

4.9%

52.7%

23.9%

9.1%

76.0%

49.6%

39.0%

59.0%

37.1%

55.3%

69.0% 66.4%

39.9%

25.4%

72.0% 74.3%

0.0%

20.0%

40.0%

60.0%

80.0%

100.0%

A

gric

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4Q14 1Q15 2Q15 3Q15 4Q15

The NPE ratio for the corporate loan portfolio stood at c56% at the end of December 2015, or c200 bps lower

compared to a year earlier (down 100bps q-o-q). However, as described earlier, driven by increased fluctuation

during the year, average NPE corporate ratio for 2015 stood at 56.4%. In particular, concerning SMEs NPE ratio

was down by only c40bps to 63.3%, though it peaked at c66% in July 2015, whereas the average reading for the

year was 64.8%. Nevertheless, 4Q:15 data suggests that a downwards trend could be recorded as there has been

registered a 120bps q-o-q decrease.

Looking at specific sectors within the corporate portfolio, like construction and the arts, entertainment and

recreation industries have registered the highest NPE ratios of c76% and c72% respectively, indicating the

magnitude of the issue. According to December 2015 data, out of a 17 different industries as classified by the

CBC, 7 sectors maintain NPE ratios above the total 56% NFCs NPE ratio. This suggests that these problematic

industries should be the primary targets for tackling NPEs since they are the key drivers of deteriorating asset

quality both in terms of volumes and industry characteristics. Furthermore, compared to system NPE ratio, only

7 industries maintain a NPE ratio below the 45.8% mark, indicating the high indebtedness of the Cypriot

corporate segment.

Furthermore, other sectors such as mining and quarrying, water supply as well as human health and social work

services industries maintain NPE ratios lower than the system ranging between c5-25%, hence seem to be more

manageable compared to real estate and construction sectors.

On the other hand, residential non performing have been stabilizing compared to NFCs NPEs, especially over the

last twelve months, albeit decelerating lately. Note that the delay vis-à-vis corporate NPE volumes could be

explained from the fact that unemployment only recently started to decrease. Note that the unemployment rate

peaked in 4Q:14 reaching 16.7%. As a result household NPE ratio settled in at 56.2% in December 2015 (down by

c100bps on m-o-m and c300bps from peak levels in October 2015).

Figure 84: System Corporate NPEs broken down per Industry (Dec’ 15) (%)

Source: Central Bank of Cyprus, AXIA Research

Overall, we view that the stabilisation in Cypriot banks asset quality metrics point to a gradual recovery in

consumer and business confidence, as well as a modest improvement in industrial production from the current

weak levels. Provided the economy’s recovery continues to gain speed, these positive signals drive our view that

new NPE formation will continue to slow.

AXIA Research Page 37

39%

47% 49% 49%

50%

53% 53% 53% 53% 53%

50%

42%

37% 38% 39% 39%

38%

41% 42%

43%

41%

48%

35%

38%

41%

44%

47%

50%

30%

35%

40%

45%

50%

55%

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

NPL ratio (lhs) Coverage (rhs)

51.5%

24.6%

14.1%

9.8%

Corporate SMEs Retail Housing Retail - Other

60.8% 63% 63% 62% 62% 62%

34% 34% 35% 36% 35% 39%

0%

10%

20%

30%

40%

50%

60%

70%

3Q14 4Q14 1Q15 2Q15 3Q15 4Q15

NPE ratio Coverage

3.3%

68.9%

11.1%

5.6% 11.1%

Corporate SMEs Housing Consumer Retail - Other

Figure 85: BoC Group Asset Quality Metrics (%) Figure 86: BoC Group Key Asset Quality Indicators (%)

Source: Presentations, AXIA Research

On a bank stand alone basis, according to 4Q:15 data, Bank of Cyprus NPE ratio stands at 61.8%, c260bps higher

than Hellenic Bank (NPE ratio: 59.2%). This is attributed to a differentiated business strategy adopted over

previous years between the banks to different loan book composition. Note that the biggest challenge in relation

to Bank of Cyprus NPEs appears to be corporate exposures which account of c52% of total NPEs, whereas for

Hellenic Bank the exposure stands at a low c3%.

However, note that SMEs non-performing assets account for c69% of Hellenic Bank’s total NPE exposure, almost

triple compared to Bank of Cyprus. As a result, taking into consideration the aforementioned dynamics in terms

of asset quality we expect a slight delay vis-à-vis the de-risking profile of Bank of Cyprus.

The cost of risk for Bank of Cyprus settled in at 4.3% for 2015, compared to an annualised provisioning charge

2.1% for 9M:15 reflecting the assumption changes in the Bank’s provisioning methodology taking into account

the continuing regulatory dialogue with the ECB.

Figure 87: BoC NPE portfolio (4Q:15) (%) Figure 88: HB NPE portfolio (4Q:15) (%)

Source: Presentations, AXIA Research

As a result, in terms of coverage, Bank of Cyprus managed to increase its specific ratio to 39% at 4Q:15, on the

back of increased accumulated provisions (+500bps y-o-y, +400bps q-o-q), while Hellenic Bank has steadily been

increasing its coverage ratio during the recent quarters as well (+400bps y-o-y and q-o-q ), reaching 50% at year-

end 2015.

€ 2.6bn € 14.0bn

AXIA Research Page 38

0.4

-0.3 0.1

-0.1

-0.6 -0.7

0.7

0.6 0.3 0.4 0.2 0.1

54%

51%

53%

50% 49%

50%

51%

52%

53%

54%

55%

-1.0

-0.5

0.0

0.5

1.0

1.5

3Q14 4Q14 1Q15 2Q15 3Q15 4Q15

Group flows (lhs) Cyprus flows (lhs) Cyprus NPL ratio (rhs) Group NPL ratio (rhs)

38%

46% 41%

51%

32%

39%

26% 31%

49%

57%

0%

10%

20%

30%

40%

50%

60%

4Q14 1Q15 2Q15 3Q15 4Q15

Total Corporate SME Retail housing Retail - Other

4.0%

2.8% 2.8% 2.7%

3.6%

2.1% 2.2% 2.1%

4.3%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

4.0%

4.5%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

4.0%

4.5%

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Group (rhs) Cyprus (lhs)

5.0 5.1

5.4

18.6%

21.6% 21.6%

24.1%

15.0%

17.0%

19.0%

21.0%

23.0%

25.0%

4.2

4.4

4.6

4.8

5.0

5.2

5.4

5.6

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Accumulated Provisions (lhs) % of Gross Loans (rhs)

51% 53% 54% 54% 54% 54% 51%

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Cyprus Russia UK Other countries

7.2 6.9 7.0 7.1 7.2 7.2 7.1 6.8 6.3

3.3 3.4 3.3 3.5 3.1 3.1 3.1 3.0 2.9

1.2 1.2 1.1 1.1 1.2 1.3 1.2 1.1 1.1

1.3 1.3 1.2 1.3 1.2 1.2 1.2 1.1 1.1

13.0 12.8 12.6 13.0 12.7 12.8 12.6 12.0 11.3

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15

Corporate SMEs Retail other Retail housing Series5

Figure 89: BoC NPL formations (€bn/%) Figure 90: BoC NPL ratio by geography (%)

Source: Presentations, AXIA Research

The Transparency Exercise, conducted by the European Banking Authority, and released in November 2015

based on 1H:15 financial results for the Cypriot banks, showed a 35% coverage ratio for the Cypriot banking

system. To this end, we view that in 2H:15 substantial progress has been made as Cypriot banks have managed

to increase their loan loss charges significantly.

Figure 91: BoC Domestic coverage breakdown by segment (%) Figure 92: BoC NPL volumes breakdown by segment (€/bn)

Source: Presentations, AXIA Research

Furthermore, downward trends in the NPL formation for Bank of Cyprus has started gaining increased

momentum, since domestic level formations have steadily decreased over the recent quarters, whilst on a group

level negative formation has been registered in 2H:15. Note that NPL ratios started to ease off towards year end

2015, as both domestic and group ratios have decreased by c300bps on a q-o-q reading.

Figure 93: BoC Provisioning charges (%) Figure 94: BoC Group Accumulated provisions (€bn/%)

Source: Presentations, AXIA Research

AXIA Research Page 39

30.0%

35.0%

40.0%

45.0%

50.0%

55.0%

60.0%

65.0%

70.0%

4Q14 1Q15 2Q15 3Q15 4Q15

NFCs SMEs Corporate HHs

Housing Consumption Other Retail Total

Similarly NPEs started registering a decline since at 4Q:15 non performing exposures decreased by €257mn or

2% q-o-q standing at c€14.0bn, albeit at a lesser extent vis-à-vis NPL levels, accounting for 62% of gross loans.

Note that the decrease is attributed to on-going Cyprus de-leveraging. Consequently, the NPE ratio decrease is

not as material as that of the NPL ratio, as we view that during 2015 NPE ratio has mostly remained stable,

despite some fluctuations on a quarterly basis. In particular, the NPE ratio peaked in 1Q:15, at 63% while at year

end 2015 was down c120bps from its peak reading.

Figure 95: BoC Performance of domestic restructured loans (3Q:15) (%)

Source: Presentations, AXIA Research

Figure 96: HB NPE ratio by category (Dec’ 15) (%)

Source: Presentations, AXIA Research

Looking on the Hellenic Bank asset quality side, the level of NPEs has decreased following a period of

stabilisation. In 4Q:15 NPEs declined by c3% q-o-q settling at €2.6bn (4Q:14: €2.6bn), whereas gross loans with

renegotiated terms at year-end 2015 amounted to €1.3bn (4Q:14: €1.4bn).

To a similar extent, the NPE ratio for Hellenic Bank has remained relatively constant during 2015, whereas it

peaked at 3Q:15 reaching 61.2%. Nevertheless, at 4Q:15 a c200bps decline has been noted signalling positive

expectations towards future improving asset quality.

Looking in greater detail to the NPE volumes per segment we understand that the biggest challenge in terms of

asset quality remain SMEs, driving total NFCs NPE ratio above group NPE ratio, followed by other retail non-

healthy assets. Note that only these two categories have been maintaining NPE ratios above the total group’s

NPE ratio.

79%

4% 3%

14%

79%

12%

5% 4%

0 days past due 1-31 days past due 31-90 days past due 91+ days past due

1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15

AXIA Research Page 40

10%

20%

30%

40%

50%

60%

70%

30%

40%

50%

60%

70%

80%

90%

2Q

12

3Q

12

4Q

12

1Q

13

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

90+ dpd/ NPE coverage (lhs) NPL / NPE¹ ratio (rhs)

0%

2%

4%

6%

8%

10%

12%

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

2Q

12

3Q

12

4Q

12

1Q

13

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Accumulated Provisions (lhs) % of Gross Loans (rhs)

-400.0%

-300.0%

-200.0%

-100.0%

0.0%

100.0%

200.0%

-0.1

-0.1

0.0

0.1

0.1

0.2

0.2

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Flows (lhs) Flows q-o-q change (rhs)

84.0%

61.0% 61.0% 55.0% 44.0% 46.0%

0.0%

20.0%

40.0%

60.0%

80.0%

100.0%

Co

nst

ruct

ion

Wh

ole

sale

&

Ret

ail t

rad

e

Rea

l est

ate

ac

tivi

ties

Acc

om

on

dat

ion

& f

oo

d s

ervi

ce

Man

ufa

ctu

rin

g

Oth

er s

ecto

rs

4Q14 1Q15 2Q15 3Q15 4Q15

Figure 99: HB Group Accumulated provisions (€bn/%) Figure 100: HB NPE volumes breakdown by segment (€/bn)

Source: Presentations, AXIA Research

Figure 101: HB Group NPL / NPE¹ flows evolution (€bn/%) Figure 102: HB NFCs NPE ratio breakdown by industry (%)

Source: Presentations, AXIA Research;

Note 1. In December 2014 the new NPE methodology per EBA guidelines has been adopted

On the restructuring front, Hellenic Bank has succeeded during 2015 in renegotiating €758mn, of which €645mn

concerned companies, whereas the rest €113mn related to individuals restructurings 2015. The performance of

the 2015 renegotiated distressed loans suggests promising indicators, since out of the total €758mn amount

c88% of the loans started to be serviced regularly, while only a c8% and 4% have been 1-90days past due and

over 90days past due respectively.

During 4Q:15, Hellenic Bank continued to focus on restructuring its NPEs portfolio, using a toolset of sustainable

solutions, such as debt to asset swaps, balance reductions, extensions of maturity and instalments reductions,

grace periods, etc.

In addition a total €124mn loans (2014: €6.3mn) has been written off.

Figure 97: HB Group Key Asset Quality Indicators (%) Figure 98: HB Group CoR² (%)

Source: Presentations, AXIA Research;

Note 1. In December 2014 the new NPE methodology per EBA guidelines has been adopted, Note 2. Annualised

0.1 0.1

1.7 1.8

0.3 0.3 0.1 0.1 0.3 0.3

2.6 2.7 2.6 2.7 2.6

0.0

0.5

1.0

1.5

2.0

2.5

3.0

4Q14 1Q15 2Q15 3Q15 4Q15

Corporate SMEs Housing Consumer Retail - Other

AXIA Research Page 41

36.0%

38.0%

40.0%

42.0%

44.0%

46.0%

48.0%

52.0%

54.0%

56.0%

58.0%

60.0%

4Q14 1Q15 2Q15 3Q15 4Q15

NPL ratio Coverage ratio

52.0%

43.0%

58.0%

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

Households Housing Consumption

4Q14 1Q15 2Q15 3Q15 4Q15

54.0%

41.0%

75.0%

0.0%

20.0%

40.0%

60.0%

80.0%

100.0%

Households Housing Consumption

4Q14 1Q15 2Q15 3Q15 4Q15

0.0

0.2

0.4

0.6

0.8

1.0

1.2

SMEs

Co

rpo

rate

Ho

usi

ng

Co

nsu

mp

tio

n

Oth

er r

etai

l

Performing Non-performing

42.0%

58.0% 50.0%

43.0% 46.0% 54.0%

0.0% 10.0% 20.0% 30.0% 40.0% 50.0% 60.0% 70.0%

Co

nst

ruct

ion

Wh

ole

sale

&

Ret

ail t

rad

e

Rea

l est

ate

ac

tivi

ties

Acc

om

on

dat

ion

& f

oo

d s

ervi

ce

Man

ufa

ctu

rin

g

Oth

er s

ecto

rs

4Q14 1Q15 2Q15 3Q15 4Q15

Figure 103: HB Group HHs NPE ratio by segment (%) Figure 104: HB HHs Coverage ratio breakdown by segment (%)

Source: Presentations, AXIA Research;

Note 1. In December 2014 the new NPE methodology per EBA guidelines has been adopted

Figure 105: HB Group NFCs Coverage ratio by Industry (%) Figure 106: HB Exposures with forbearance measures (2015)

(€bn)

Source: Presentations, AXIA Research;

Note 1. In December 2014 the new NPE methodology per EBA guidelines has been adopted

We view that Cypriot banks in a bid to tackle the abovementioned high NPE stock should implement

comprehensive solutions (i.e. aggressive restructurings, selective portfolio sales and sales/transfers).

Figure 107: Coop Asset Quality metrics (€bn/%) Figure 108: Coop Key Asset Quality Indicators (%)

Source: Financial Statements, AXIA Research

13.1 13.1 12.9 12.9 12.8

7.3 7.5 7.6 7.7 7.6

0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

0.0

5.0

10.0

15.0

4Q14 1Q15 2Q15 3Q15 4Q15

Gross Loans (lhs) NPL levels (rhs) CoR (rhs)

AXIA Research Page 42

2,111 1,386

179 166

0

50

100

150

200

250

300

350

0

2,000

4,000

6,000

8,000

10,000

12,000

EE NL LV IE FI SK GR MT SI BE LU DE Euro area

AT IT FR PT ES CY

Population per local branch Population per bank employee

0

200

400

600

800

1,000

1,200

MT NL BE DE LU IT CY Euro area

FR PT SK AT SI ES GR IE LV EE FI

Figure 109: HB Performance of forborne exposures (2015) (%) Figure 110: HB Performance of renegotiated loans (2015) (%)

Source: Presentations, AXIA Research;

Note 1. In December 2014 the new NPE methodology per EBA guidelines has been adopted

Costs: Operational Restructuring

Cypriot banks are operating in a low interest rate environment, characterized by low inflation and slow economic

growth. This had a substantial impact on NII and total revenues, which drove increased loan loss charges due to

deteriorating asset quality, ultimately pressuring banks to find other drivers to achieve positive bottom line

growth, which entailed more efficient cost management and operational restructuring.

Figure 111: Population per branch and per bank personnel (#)

Source: Statista, AXIA Research

The Cypriot banking system in terms of population per local branch stands in last position compared with other

Eurozone countries and well below the European average, despite moving at relatively similar levels with other

European countries (i.e. Spain, Italy, Portugal and France). In terms of population per bank employee, data

indicate that Cypriot banks have flexibility to continue reducing personnel numbers, hence improving

operational efficiency going forward.

Figure 112: Population density per km²

Source: World bank, Countryeconomy, AXIA Research

88%

8% 4%

0 days past due 1-90 days past due 91+ days past due

€758mn

27%

73%

Performing Non-performing

€1,317mn

AXIA Research Page 43

0

20

40

60

80

100

0

500

1,000

1,500

2,000

2008 2009 2010 2011 2012 2013 2014 2015

Domestic employees International employees

Domestic branches International branches

-44.2

-60.0

-52.0

-44.0

-36.0

-28.0

-20.0

Dec-1

0

Mar-1

1

Jun

-11

Sep-1

1

Dec-1

1

Mar-1

2

Jun

-12

Sep-1

2

Dec-1

2

Mar-1

3

Jun

-13

Sep-1

3

Dec-1

3

Mar-1

4

Jun

-14

Sep-1

4

Dec-1

4

Mar-1

5

Jun

-15

Sep-1

5

Dec-1

5

Cost-to-income ratio Average

59.4% 51.4%

34.0% 44.4%

6.6% 4.2%

0%

25%

50%

75%

100%

Dec-1

0

Mar-1

1

Jun

-11

Sep-1

1

Dec-1

1

Mar-1

2

Jun

-12

Sep-1

2

Dec-1

2

Mar-1

3

Jun

-13

Sep-1

3

Dec-1

3

Mar-1

4

Jun

-14

Sep-1

4

Dec-1

4

Mar-1

5

Jun

-15

Sep-1

5

Dec-1

5

Staff expenses General and administrative expenses Depreciation

In addition, Cyprus is just above the European Average of population density per sq km. This explains why

Cypriot banks (especially Bank of Cyprus and Hellenic Bank) have been offering several special voluntary early

retirement schemes (VRS) to employees over the last years. In particular, note that Bank of Cyprus has offered a

VRS in 2016, whereas Hellenic Bank launched a VRS in 2015 that translated to €3.1m ex-gratia payments.

The figures below indicate that from 2011 onwards, Bank of Cyprus has been systematically decreasing the

number of branch employees, both in Cyprus and internationally due to divestments, explicitly post 2012, when

the decline recorded a sharper trend. We expect these trends to stabilize or at least to continue at a very slow

pace as per recent 4Q:15 guidance for medium term targets, while we also await further details on the VRS.

Nevertheless, the intention of the bank to focus on expanding its operations in the UK, should increase costs in

relation to both administrative and salaries expenses. This appears to fit well with the medium-term target set

by the bank calling for a cost to income ratio ranging between 40-45%, higher than current levels (FY:15: 40%).

Figure 113: BoC Group employees¹ and branches (#) Figure 114: HB Group employees and branches (#)

Source: Central Bank of Cyprus, AXIA Research

Note 1. Average number

On the other hand, Hellenic Bank’s group employees and branches, post the divestment of all international

operations in 2013, have been relatively stable, despite some minor fluctuations. This could be also explained by

maintaining a fairly constant loan market share.

Figure 115: Cypriot banking system efficiency (Dec’15) (%) Figure 116: Cypriot banking system expenses breakdown (%)

Source: Central Bank of Cyprus, AXIA Research

Furthermore, going forward we could expect the operating expenses of the bank to remain at constant levels or

even slightly higher, reflecting primarily the bank’s intention to differentiate its business model strategy. To this

end, a significant part of administrative expenses relates to advisory/consulting fees, focusing on designing a

revised operating model plan.

0

100

200

300

400

500

-

2,000

4,000

6,000

8,000

10,000

2008 2009 2010 2011 2012 2013 2014 2015

Domestic employees International employees

Domestic branches International branches

AXIA Research Page 44

-100.0%

-50.0%

0.0%

50.0%

100.0%

150.0%

0.0

10.0

20.0

30.0

40.0

1Q

10

3Q

10

1Q

11

3Q

11

1Q

12

3Q

12

1Q

13

3Q

13

1Q

14

3Q

14

1Q

15

3Q

15

Staff costs SG&A Staff costs y-o-y SG&A y-o-y

-80.0%

-60.0%

-40.0%

-20.0%

0.0%

20.0%

0.0

20.0

40.0

60.0

80.0

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Staff costs SG&A Staff costs y-o-y SG&A y-o-y

-75.0%

-50.0%

-25.0%

0.0%

25.0%

0.0

0.2

0.4

0.6

0.8

4Q

11

1Q

12

2Q

12

3Q

12

4Q

12

1Q

13

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Other admin. expenses Other admin. expenses y-o-y

-60.0%

-40.0%

-20.0%

0.0%

20.0%

40.0%

0.0

0.4

0.8

1.2

1.6

4Q

11

1Q

12

2Q

12

3Q

12

4Q

12

1Q

13

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Staff expenses Staff expenses y-o-y

Figure 117: Cypriot banking system Admin expenses (€bn/%) Figure 118: Cypriot banking system Staff expenses (€bn/%)

Source: Central Bank of Cyprus, AXIA Research

In addition, the strong liquidity position of Hellenic Bank, as expressed by the L-t-D ratio enables the bank to

provide new credit to targeted clients, thereby increasing its market share. Towards this strategy, the bank could

seek to increase its presence on the island, by increasing its branch network and/or enhancing its personnel

capacity.

Figure 119: BoC Operating expenses trends (€mn/%) Figure 120: HB Operating expenses trends (€mn/%)

Source: Financial Statements, AXIA Research

Furthermore, the latter can be justified by FY:15 data, according to which Hellenic Bank has increased its

workforce.

In addition, when looking at the operational expenses of the Cypriot banking system, a stabilising trend is

depicted, as both administrative and staff expenses remain at similar levels, during the last quarters.

The cost to income ratio for the system, after reaching 37% at 2Q:14, the lowest reading over recent years,

started gradually to increase thereafter, albeit with some fluctuations. In 4Q:15 the cost to income ratio for the

system settled at 44.2%, lower than the historical average of c46%.

Nevertheless we could expect it to remain at similar levels, if not to further increase on the back of the Cypriot

banks intention to adjust business models, thus engaging in higher operating expenses.

The bank level picture is similar, as the cost to income ratio for Bank of Cyprus both on a group and domestic

level has been increasing over the last quarters.

The same applies for Hellenic Bank that maintains a clearly higher cost to income ratio compared to Bank of

Cyprus. Hellenic Bank has allocated a large amount of expenses to advisory services and for pending litigations,

along with other claims. Nevertheless, during 2015 it booked a significant amount of the administrative expenses

to ex-gratia payments to personnel that opted for the VRS.

While the cost to income for Bank of Cyprus is below the system’s reading, Hellenic Bank has to increase its

efforts for reducing cost to income to more sustainable levels, thus improving overall efficiency.

AXIA Research Page 45

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

18.0%

0.0%

5.0%

10.0%

15.0%

20.0%

1Q

11

2Q

11

3Q

11

4Q

11

1Q

12

2Q

12

3Q

12

4Q

12

1Q

13

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

Capital Adequacy (lhs) Tier 1 (lhs) Common Equity Tier 1 (rhs)

Figure 121: Cost to Income Ratio

Source: Presentation, AXIA Research

Capital Levels

Cypriot banks are adequately capitalized, however they need to constantly improve capital buffers on an on-

going basis as per regulator guidelines. Compared to European peers, the banks are fairly well placed, hence

under our baseline case we view that banks will record profits in 2016, positively impacting capital buffers.

Figure 122: CET-1 Cypriot Banks vs Peers (2017E) (%) Figure 123: CET-1 Cypriot Banks (PF SCI) vs Peers (1H:15) (%)

Source: European Banking Authority (Transparency Exercise), AXIA Research

In addition, the adequate capital position of the Cypriot banks is closely tied to the on-going progress on NPL

reduction, when taking into account the compressed profitability both in the top line due to lower NII driven by

lower yields, and to the bottom line affected by the increased loan loss charges as well as the limited potential to

attract substantial amounts of extra private funding.

Figure 124: Capital levels Cypriot Banking sector (%)

Source: International Monetary Fund, Central bank of Cyprus, AXIA Research

30.0%

35.0%

40.0%

45.0%

50.0%

55.0%

60.0%

25.0%

35.0%

45.0%

55.0%

65.0%

75.0%

1Q

13

1H

13

9M

13

FY13

1Q

14

1H

14

9M

14

FY14

1Q

15

1H

15

9M

15

HB (lhs) BoC Cyprus (rhs) BoC Group (rhs)

17.9%

16.5%

14.2%

12.2%11.6% 11.5%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

18.0%

20.0%

GR IR CY ES PT IT

18.7%

12.7% 12.6% 12.3% 12.1% 11.9% 11.5%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

18.0%

20.0%

GR EU IT ES DE PT FR

AXIA Research Page 46

0.0

3.0

6.0

9.0

12.0

15.0

18.0

0.0

2.0

4.0

6.0

8.0

10.0

12.0

Dec-10

Mar-11

Jun

-11

Sep-11

Dec-11

Mar-12

Jun

-12

Sep-12

Dec-12

Mar-13

Jun

-13

Sep-13

Dec-13

Mar-14

Jun

-14

Sep-14

Dec-14

Mar-15

Jun

-15

Sep-15

Dec-15

Common Equity Tier 1 Issued capital as % total assets (lhs) Total equity as % total assets (lhs) Tangible equity as % tangible total assets (lhs)

Note that the capital ratios for the banks’ under coverage have continued to improve over recent quarters.

Nevertheless, the recent ECB Review exercise assessment of adequate capital levels, completed in December

(SREP), revealed provisioning shortfalls in the core domestic Cypriot banks. The assessment by the ECB’s Single

Supervisory Mechanism (SSM), which was conducted using end-2014 data, suggested a provisioning shortfall in

the Coops as well.

To that end, the Coops increased provisioning levels by about €525mn at 3Q:15. Similarly, Bank of Cyprus and

Hellenic Bank announced that the SSM, based on preliminary findings, identified provisioning shortfalls, which

were covered in 4Q:15.

In late 2015, the Cypriot government implemented an action plan to recapitalize the Coops. In line with SSM

guidelines, the authorities provided a €175mn capital injection of additional public funds in late December,

following Parliamentary approval of a five-piece package of needed legislation.

Figure 125: Equity breakdown as % of total equity (€/bn)

Source: Central bank of Cyprus, AXIA Research

Going forward loss-absorption capacity could be further enhanced via the following measures: (i) tight

provisioning guidelines; (ii) stable minimum regulatory capital requirements at high levels (minimum CET-1 as

per SREP stands at 11.75% for both Hellenic Bank and Bank of Cyprus); (iii) continuous balance sheet de-risking;

etc.

Figure 126: BoC Capital levels (%) Figure 127: Hellenic Bank Capital levels (%/€bn)

Source: Presentations, AXIA Research

Hellenic Bank enjoys a strong capital position and as at 4Q:15 maintains a 14.8% CET-1 ratio, while in terms of

fully loaded Basel III CET-1 ratio stands at 13.5%, with the difference primarily attribute to DTAs. In particular,

the 14.8% CET 1 ratio provides the bank with satisfactory flexibility, since it has a c300bps capital buffer over the

required 11.75% threshold, required by the SREP regulatory requirements.

10.6%

14.0% 13.1%

0.0%

3.0%

6.0%

9.0%

12.0%

15.0%

18.0%

1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15

CET 1 (phased-in) CET 1 (fully implemented)

13.4%

14.8%

13.5%

3.90

3.95

4.00

4.05

4.10

11.50%

12.00%

12.50%

13.00%

13.50%

14.00%

14.50%

15.00%

4Q14 1Q15 2Q15 3Q15 4Q15

CET 1 (phased-in) CET 1 (fully implemented) RWA

AXIA Research Page 47

13.6% 14.8%

0.0%

2.0%

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6.0%

8.0%

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12.0%

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4Q14 1Q15 2Q15 3Q15 4Q15

-150.0

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-15

Issued capital Revaluation reserves Retained earnings Income from current year

Figure 128: Capital requirements as % total capital requirements Figure 129: Coop CET 1 (phased in) ratio (%)

Source: Financial Statements, AXIA Research

More specifically, a breakdown of the minimum 11.75% SREP ratio consists of: (i) a 4.50% CRD IV requirement;

(ii) a 4.75% SREP condition; (iii) and an additional capital buffer of 250bps ensuring to a greater extent the

adequate capital capacity of the bank. Note that an ECB notification is required if a bank does not, or is likely not

to, exceed the CET1 minimum capital requirement of 11.75% by 25bps.

Furthermore, Hellenic Bank has taken a number of measures to enhance its capital levels. In November 2013, the

bank completed its capital enhancement plan, securing €358mn and exceeding the capital shortfall of €294mn

under a third-party diagnostic review requested by the Cypriot authorities. In addition, following the EU wide

stress tests in 2014, the bank in the same year raised €201mn, covering the €105mn adverse shortfall, whilst also

raising an additional €3mn through the allotment of shares corresponding to unexercised rights. In October

2015, the bank issued shares to the European Bank for Reconstruction and Development (EBRD). Also note that

the bank maintains CoCos (€130mn) on its balance sheet that constitute an additional loss absorbing buffer.

Going forward, additional regulatory requirements should be implemented to safeguard capital adequacy. This

concerns another systemically important institution (O-SII) buffer that is expected to be introduced gradually

over four years, starting from January 1, 2019. According to the guidelines, Hellenic Bank must maintain an O-SII

buffer of 1.5% (2022) of its total risk exposure amount.

Figure 130: Equity breakdown as % of total equity

Source: Central bank of Cyprus, AXIA Research

In relation to Bank of Cyprus, note that CET1- ratio (transitional) reached 14.0% at 4Q:15, compared to 15.6% in

the previous quarter and 14.0% at 4Q:14, reflecting the elevated provisioning charges at 4Q:15 as per ECB

requirements regarding SREP methodology. In addition, when adjusting for DTA, the CET-1 ratio on a fully-loaded

basis came in at 13.1%, down 200bps q-o-q given the increased loan loss charges. Taking into consideration the

above, despite the bank’s CET-1 ratio being lower than Hellenic Bank’s ratio, it still remains well above the

11.75% threshold. Finally note that another significant key indicator for the normalized outlook for the sector in

terms of capital is the sufficient capitalization of Greek bank branches, which needs to be ensured. According to

IMF data, Greek branches, on a combined basis maintain a c13% deposit market share, thus on combined basis

represent a systemic group. The latter indicates the importance of these subsidiaries to be supervised from the

SSM in relation to the on-going supervision of their parent entities in Greece.

0.0

20.0

40.0

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100.0

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Jun

-11

Dec-1

1

Jun

-12

Dec-1

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-13

Dec-1

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-14

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4

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-15

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5

Credit risk Market risk Operational risks Other risks

AXIA Research Page 48

NPL management: New Regulatory Framework

Cyprus Parliament approves a new Law on the Sale of Loans

The new Law “On the Sale of Credit Facilities and Other Related Issues” (“Law”) adopted by Parliament on

November 12, 2015 has the following key features described below.

1. Scope: The Law applies to loans to individuals and micro and small SMEs not exceeding €1.0mn. Exempt

from the scope of the law are loans to non-residents, loans to finance operations and/or investments outside

Cyprus, loans secured by property located outside of Cyprus, and loans governed by foreign law. However,

the provisions concerning notification of the borrower by the original creditor and the acquiring party (see 3

below) also apply to loans in excess of €1.0mn (“big loans”).

2. Licensing and regulation of loan acquiring companies: Loans of less than €1mn mentioned in 1 above can

be sold to: (i) Cypriot authorized credit institutions, (ii) subsidiaries or branches of credit institutions

authorized by the EU that operate in Cyprus, or (iii) non-bank “credit acquiring companies”. Further re-sale is

allowed to any of the above mentioned institutions, or to other persons with the prior written approval of

the CBC. A non-bank company seeking to buy loans should be incorporated in Cyprus and obtain a license

from the CBC. The licensing conditions include a minimum capital requirement (€100,000), “fit and proper”

requirements for shareholders and directors, and an assessment that the company can provide proper

services and that its operations plan does not pose risks to financial stability in Cyprus. The CBC is required to

supervise on an ongoing basis the company’s management, the books and records, and financial reporting.

In addition, all credit institutions should report to the CBC semi-annually on their sale of loans activities.

Violations of the Law are subject to administrative and criminal liability.

3. Other Conditions: In addition to the conditions mentioned in 2 above, the sale of loans covered by the law is

also subject to several conditions: First, prior to the sale of all or part of the loan portfolio, the credit

institution should notify its intention to sell either (i) through a publication in the Official Gazette and in

three daily newspapers, or (ii) by a letter to the borrower and its guarantors. In both cases the borrower and

the guarantors may (but are not required to) submit, within 45 days, a proposal to purchase the loan. Such a

proposal is not binding on the creditor. Second, the acquirer should notify the borrower within five days of

the acquisition and provide new contact and payment information. In the case of small loans, borrowers

retain the protections under the Code of Conduct.

According to the IMF, while the Law now allows loans to be sold, it remains to be seen whether it will be used

actively to facilitate the clean-up of banks’ balance sheets. The IMF also notes that so far banks indicated

publicly that they do not foresee selling mortgage loans related to primary residences. In addition, in the case

of small loans, the discount needed to attract potential buyers may make sales unappealing for banks.

According to the IMF, it is therefore expected that the law would be applied more frequently in the case of big

loans, and to buyers with demonstrated expertise in recovering value. Nonetheless, some of the provisions of

the Law could reduce the attractiveness of loan purchases due to concerns about legal and compliance risks.

Source: IMF

Despite the positive outcome of the conclusion of the country’s bailout programme, improvement of the

economic climate and the sufficient capital levels of the Cypriot banks, signalling promising messages for the

stabilization of the sector, Cypriot financial institutions continue to face the challenges of large stock of NPLs.

Note that three years of a deep recession, the severe impact of unemployment, weaker export demand,

deflation of wages and prices, rising tax burdens, and shrinking credit have severely strained private sector

balance sheets. The payment culture weakened, and strategic defaulters weighed negatively on the issue as well.

Despite the recent positive statements of Eurogroup in relation to the “deep transformation” of Cyprus’ banking

system, Cyprus maintains one of the highest NPL ratios globally, and the highest in the Eurozone followed by

Greece. Nevertheless, according to the latest data, NPLs have started recording stabilizing trends.

At the same time, Cyprus’ banking system remains in focus while measures to mitigate the high NPL levels have

been undertaken. These include implementation of the insolvency framework and foreclosure laws, the

legislation on sale of assets and effective use of all available tools for banks, as the management of non-

performing loans remains currently the primary obstacle for Cypriot banks in an attempt to revive lending and

boost growth.

As a result, each bank can currently utilise all available levers to manage NPLs by: (i) further strengthening in-

house management mechanisms; and (ii) moving forward with specific portfolio sales, capitalizing on the

recently established improved and more efficient legal framework.

3 step pathway to tackle the NPL challenge...

In-house management combined with additional tools, enables Cypriot banks to better deal with the large NPL stock...

CBC will oversee NPL management in order to ensure that a uniform

approach is being adopted...

Central Bank of Cyprus model provides a new benchmark and monitoring framework for Cypriot banks...

AXIA Research Page 49

To this end a strategy revolving around three major pillars involves:

(i) tightened supervisory policy via in-house management on a bank level utilizing domestic practices;

(ii) development of a distressed market via introducing selective portfolio sales by third parties; and

(iii) improved legal regulatory framework via recent major amendments and introduction of new effective legal

tools (i.e. New Foreclosure, reforms to Insolvency Code, etc)

In addition, factors including political stability and improving macro trends could substantially assist NPL

workouts.

In-house management

Cypriot banks have launched on a stand-alone basis customized retail collections, corporate restructuring and

collateral management internal units, aiming to implement NPL mitigating action. We view that the primary aim

is to shift from short term to long-term sustainable workouts, specifically on the corporate front. These solutions

take into consideration borrowers’ payment capacity, according to the Code of Conduct guidelines as outlined by

the CBC as well as recent amendments to the Insolvency Code for both households and corporates, in an

attempt to optimize the debt restructurings offered to debtors. In addition, each bank, has taken a number of

further steps including but not limited to: (i) engagement of experienced enablers; (ii) granular segmentation of

NPL portfolios; (iii) credit and collateral restructurings; (iv) early reminder notifications systems; (v) a loss budget

allocation mechanism; and (vi) net present value frontline tools.

By utilising these tools, Cypriot banks could recover NPLs, whilst they could also attain better visibility in

estimating write-offs. Note that the toolkit of Cypriot banks in relation to tackling NPLs includes from debt to

asset swaps and balance reductions, to extension of maturity and instalments amount reduction.

Bank of Cyprus

Taking into the account the above, since the bail-in events in March 2013, Bank of Cyprus has established the

Restructuring and Recoveries Division (RRD) as part of its in house management strategy. The primary objective

is to tackle effectively exposures regardless their respective segment and optimize their long-term servicing, thus

securing interest recovery through innovative restructuring.

The RRD, since its creation, has established all the necessary mechanisms to commit that past due exposures, in

all portfolios are mitigated efficiently at the earliest possible time frame. To this end, note that the

aforementioned mechanisms are structured on a pillar of specific activities including: (i) debt restructuring; (ii)

debt collection and recovery of NPLs vis-à-vis all loans categories; and (iii) collection enforcement measures.

Furthermore, in terms of organizational and operational structure, the RRD is being supported by the following

below briefly described business units:

(i) business support centres to assist in handling SME non-cooperative debtors;

(ii) both major and mid corporate units targeting directly the largest borrowers;

(iii) collections call centres for outlining concrete customized contact strategies in an attempt to contribute in

mitigating retail loans; and

(iv) a retail arrears management unit which offers restructuring workouts to viable customers.

The Bank has set up a REMU in order break the systemic inertia that exists today with defaulting borrowers in

the real estate sector by taking ownership of assets, reducing unsustainable debt burden of both corporate and

retail borrowers, and assisting also the Cyprus economy into recovery.

The Bank recognises that the real estate market poses significant challenges but remains confident that with

measured and professional approach underpinned by a genuine real estate focus and support from external

advisors and all stakeholders, Bank of Cyprus can crystallise benefits for itself and the economy. Main objectives

of the REMU include: (a) provide solutions for distressed borrowers, (b) accelerate the recovery process for both

the Bank and the local real estate market, (c) to strengthen the Bank’s balance sheet and (d) to monetise such

assets at the appropriate time.

Hellenic Bank

Hellenic Bank from its end has launched an Arrears Management and Debt Recovery Division, to design

implement and supervise procedures for addressing borrowers whose facilities are not being serviced regularly.

The division seeks to proactively increase collections from debtors whose loans are delinquent.

The division consists of the following units:

Arrears Management Unit (AMU): addresses NPLs and in conjunction with all of business units and aiming

for maximizing collectability. Its efforts concern restructuring of the facilities relating to viable and

AXIA Research Page 50

cooperative clients, thereby improving Hellenic Bank’s portfolio asset quality, implementing specific tools

and long-term solutions. The AMU is structured on the Business and Retail divisions and operates in all

districts, whereas it maintains an experienced personnel comprised of credit officers and managers that

provide sophisticated solutions to borrowers;

Debt Recovery Unit (DRU): targets non-viable and uncooperative clients. Note that the maximisation of the

amounts to be recovered is achieved by the implementation of the most efficient strategy for addressing of

these challenging cases, which is structured on the specific related issues of each debtors and/or guarantor,

whilst the DRU consists of the pre-legal and legal departments; and

Collections and Arrears Monitoring Unit: focuses on retail clients, as it engages to an early warning system

for the respective debtors and/or their guarantors, targeting at loan recovery.

Cooperative Central Bank

In addition, the Cooperative Central Bank has also established a special department of the management of NPLs

for the effective administration of past due loans.

The department addresses NPLs on behalf of the Cooperative Credit Institutions which will be determined on the

basis of certain criteria such as: (i) the amount of the outstanding loans; (ii) days in arrears; and (iii) the amount

in excess of the credit limit.

Note that the department for the management of NPLs is structured on the following units: (i) the Central Unit

for the Management of Arrears Restructuring; and (ii) the Debt Recovery Unit.

In house NPLs management & tracking: CBC to monitor bank’s progress

The CBC, in an attempt to alert banks to increase the number and enhance the quality of restructurings for non-

performing loans (overdue 90 days), as well as proactively preventing loans 30 days overdue becoming non-

performing, established key targets for four significant indicators that need to be implemented across the entire

loan portfolio and sub-portfolios (residential mortgage loans to households, other loans to households, loans to

non-financial corporations with total balances of up to €1mn and loans to non-financial corporations with total

balances of over €1mn).

In a bid to track these targets, Cypriot banks are required to submit on a quarterly basis actual performance for

the previous quarter via the four indicators vis-à-vis targets along with the next two quarters targets. Cypriot

Banks are also required to provide in-depth analysis for variances vis-à-vis targets and to also provide

information to the Central Bank Cyprus on mitigating actions they will be implementing.

Note that the CBC in relation to current developments and the submission of banks data, has the ability to

impose revisions to bank targets in cases where it views that targets set by the banks are not the appropriate

(i.e. low, not feasible, etc.). With every new submission the Central Bank will be monitoring and revising the

targets on the basis of new developments.

Table 11: Target Indicators Indicator 1: Proposed sustainable solutions as a percentage of the loans presenting arrears over 90 days. This indicator is not cumulative

and is calculated for the quarter under reporting and for each of the next quarters

Indicator 2: Concluded sustainable solutions as a percentage of the loans presenting arrears over 90 days. This indicator is not cumulative

and is calculated for the quarter under reporting and for each of the next quarters

Indicator 3: Loans that have been restructured and present arrears of less than 8 days as a percentage of the total loans which have been

restructured. This indicator is cumulative and covers the loans restructured from 1st January 2014 up to the beginning of the

quarter under report and measures the success rate of the loan restructurings

Indicator 4: Loans that presented arrears over 30 days and up to 90 days at the beginning of the quarter but by the end of the quarter do

not present any arrears (due to restructuring or other measures taken by the bank) as a percentage of the loans that

presented arrears over 30 days and up to 90 days at the beginning of the quarter. This indicator is intended to exert pressure

on the banks to act proactively on loans with early arrears before they become non-performing. It is reminded that a non-

performing loan that is restructured, remains classified as non-performing for at least 12 months even if the new repayment

programme is fully adhered to and there are no arrears

Source: Central Bank of Cyprus

CBC KPI results for end-December 2015 indicate that, in the aggregate banks have relatively achieved their

targets, albeit marginally, whilst the momentum of restructuring has further increased, since long-term

restructuring agreements have picked up, and default rates of the renegotiated distressed loans have been low

in line with the expectations.

AXIA Research Page 51

In particular, the target for the first indicator stood at 12.46%, whereas the actual realisation was 13.26%. The

target for the second indicator was 11.64% with the actual realisation reaching 13.01%. However, a small under-

performance was registered for the other two indicators. Specifically, the target for indicator 3 (i.e. loans that

have been restructured and the repayment terms set are met and present arrears of less than 8 days) was

72.87% and the realised ratio was 69.92%. Furthermore, the target for indicator 4 (i.e. loans that presented

arrears of 31-90 days at the beginning of the quarter but by the end of the quarter do not present any arrears)

was 40% and the realised ratio was 38.61%. Notwithstanding these small deviations on the aggregate level, some

banks have significantly underperformed on the targets set and the CBC is taking action in relation to these

banks.

The overall picture is that, for the total of the banks that are subject to these restructuring targets, there is a

small over-performance of the target for the first indicator (Proposed sustainable solutions) and for the second

indicator (Concluded sustainable solutions) evidencing the huge effort that is being made for the restructuring of

loans presenting arrears over 90 days.

The targets which had been set for 1Q16 translate, based on the figures as 31 December 2015, into c€ 0.9bn for

indicators 1 and 2. The targets now being set for 2Q16 translate into approximately € 1.2bn for these two

indicators.

Table 12: Banking system loan arrears resolution targets

1Q15 2Q15 3Q15 4Q15 1Q16 2Q16

Banking system target rates and actual rates on debt restructuring of NPLs Rate % Rate % Rate % Rate % Rate % Rate %

Banking system target indicator 1 n/a n/a 9.42% 12.46% 11.55% 14.40%

Banking system actual rate 1 n/a 6.14% 6.28% 13.26% n/a n/a

Difference (Banking system actual rate 1 minus Banking system target indicator 1) n/a n/a -3.14% 0.80% n/a n/a

Banking system target indicator 2 n/a n/a 7.45% 11.64% 11.07% 14.86%

Banking system actual rate 2 n/a 4.69% 6.53% 13.01% n/a n/a

Difference (Banking system actual rate 2 minus Banking system target indicator 2) n/a n/a -0.92% 1.37% n/a n/a

Banking system target indicator 3 n/a n/a 66.49% 72.87% 71.72% 71.64%

Banking system actual rate 3 n/a 65.80% 68.20% 69.92% n/a n/a

Difference (Banking system actual rate 3 minus Banking system target indicator 3) n/a n/a 1.71% -2.95% n/a n/a

Banking system target cure rates and actual cure rates on early arrears

Banking system target indicator 4 n/a n/a 27.82% 40.00% 40.04% 43.76%

Banking system actual rate 4 n/a 28.14% 31.22% 38.61% n/a n/a

Difference (Banking system actual rate 4 minus Banking system target indicator 4) n/a n/a 3.40% -1.39% n/a n/a

Source: Central Bank of Cyprus

No legal barriers anymore – a framework to capitalize on

The legislation passed by the Cypriot government during the last two years, paves the way for a new era in NPLs

management, as the expected fast-track restructuring processes will vastly assist in NPL resolutions for key

segments of loans for the whole sector. In addition, the most recently adopted legislation enabling loans sales,

should offer banks another significant tool as they could go live with selective sales, which could weigh positively

on asset quality.

Foreclosures Law

The foreclosure law, voted by the Cypriot Parliament in September 2014, provides the necessary regulations for

the execution of private auctions and sales of mortgaged properties by mortgage creditors, without the

interference of governmental bodies. Note that the trigger point for the initiation of the foreclosure procedure is

defaulting to service payments for more than a 120 days period. Furthermore, another significant key point of

the foreclosures legislation is the importantly shortened timeframe for foreclosing property. In particular note

that from an initial time period of 10 years required, the process has now accelerated to as little as 18 months

by establishing clear procedures for timing of repossession, valuation and auction processes. With regard to

foreclosures, banks have indicated their intention to sell a number of foreclosed commercial and non-primary

residences. In addition, the authorities have reported that the necessary elements required to hold real estate

auctions according to the law have been put in place.

AXIA Research Page 52

Foreclosures will be targeting strategic defaulters in an effort to incentivize debt borrowers and improve

payment culture by reducing moral hazard. We view that mass foreclosures will be avoided mainly because they

would result in an excess supply in the real estate market, hence further impacting negatively real estate prices,

as well as causing greater congestion in the country’s local courts. To this end, note that the reduction in the

involvement of courts is an objective as the backlog of cases could reach very high levels.

Insolvency Framework

In reference with the Foreclosure Law, an Insolvency framework, has been put in place (passed in parliament in

April 2015), in a bid to protect vulnerable debtors vis-à-vis foreclosure procedures, whereas at the same

providing banks with the essential tools for addressing NPLs. Note that reforming and re-designing specific parts

of the insolvency framework has been a must prerequisite in relation to the guidelines of the adjustment

programme agreed at the time of the 2013 financial crisis.

The Insolvency Framework, which entered into force in May 2015, moved in the correct direction for

establishing a proper insolvency regime for both individuals and legal entities while at the same time regulating

more effectively the profession of insolvency consultants. Note that below are summarized indicative key

themes of the new insolvency framework.

Table 13: Summary of indicative key themes of Insolvency Framework Individuals / Household Debt Corporate Insolvency Code Other key themes

The Bankruptcy relating to individuals/households (Personal Repayment Schemes and Debt Relief Order) introduces two new mechanisms in regards to debts of natural persons:

(i) the implementation of a personal

payment plan process for restructuring of debts to ensure repayment of creditors in an attempt for the latter to be able to maintain primary residence and to provide repayment incentives thereby resulting to the decrease of NPLs; and

(ii) the launch of a debt waiver mechanism which, through relevant judicial decrees, exempts debt amounting to €25.0k for debtors who do not acquire substantial assets or income for repayment needs

Bankruptcy (Amending) Law of 2015 aims to

reintegrate bankrupt individuals in the economy by, inter alia, relieving the debtor from remaining debts three years after the date of bankruptcy order, provided that the debtor is cooperative

Disengagement from bankruptcy is automatic after 3 years, albeit meeting the condition that all debtor’s assets are disposed and the proceeds distributed to the creditors;

The court can request a rescheduling in small

cases where aggregate liabilities do not exceed €350K;

Individuals having minimal assets as well as

low income may apply to the court via the government insolvency service for a debt “haircut” request of up to €25K

Liquidation processes call for the appointment of a liquidator, as well as the law includes amendments concerning to the definition of debt payment disability primarily by incorporating the criterion according to which the value of the company's assets is less than the debt amount

The law establishes a mechanism for restructuring corporate debt (i.e. Examinership) that provides a 4-month protection/grace period along with the appointment of an examiner, established by the company/creditor/shareholders under the condition that the latter are holding at least 10% of company's assets. The examiner is expected to will formulate compromise proposals or draft settlements to be confirmed by the Court vis-à-vis the respective case

Specific amendments vis-à-vis liquidation include:

(i) obligatory liquidations must be concluded within a 18 months period from commencement unless a court decision provides extension;

(ii) the liquidator can be appointed either by the court or the creditors, but has to maintain a specific license and be a regulated professional insolvency practitioner;

(iii) the liquidator submit an application to the court requesting a liquidation process thereby dissolving the legal entity, assuming the assets are insufficient meeting the cost of liquidation

(iv) the court can issue a decision providing authorization to the liquidator to liquidate assets, which are subject to a charge, if there is proof that the respective action would be positive

Appointment of Insolvency Practitioners relating to: (i) examination and agreement (upon

fulfilling specific requirements) the repayment of creditors and maintaining, to the extent possible, primary residence; and

(ii) consensual or non-consensual personal repayment schemes

Insolvency Practitioners concern the procedure and conditions for recognition of professional bodies for purposes of licensing and authorization of Insolvency Consultants

Source: Government Gazette, AXIA Research

AXIA Research Page 53

Legal framework on the sale of loans

In November 2015, a law was adopted allowing Cypriot banks to engage in the sale and acquisition of loans and

other credit facilities. Note that the sale of loans concerns the total balance or segments of the loan portfolio

relating to individuals or SMEs borrowers. Note that the sale of the abovementioned loans concerns exclusively

one borrower and one Cypriot bank, whereas the law provides a safety net for small borrowers whose loans are

sold, per Code of Conduct guidelines. Furthermore, a securitization legal framework, that will allow the bundling

of credit facilities such as the mortgage-backed securities, has been drafted according to the 9th IMF review of

the Cypriot economy. Nevertheless note that due to its technical complexity, finalization has taken longer than

expected leading to delay in Parliamentary adoption.

In the case of smaller loans, the law does not materially affect incentives for restructuring or materially increase

moral hazard concerns, under which borrowers would stop remaining committed to their payment schemes. In

particular, note that, given the high concentration of NPL volumes, the law calls for large (above €1mn) loans to

be sold with fewer obligations imposed on the selling bank or the purchaser, thereby providing incentives to all

parties involved for engaging in similar transactions.

The credit facilities falling under the scope of application of the law are:

(i) credit facilities granted to natural persons, which natural persons do not, at the time of purchase of their

credit facilities, have a total balance of credit facilities exceeding €1mn towards each bank;

(ii) credit facilities granted to SMEs, which at the time of purchase of their credit facilities, do not have a total

balance of credit facilities exceeding €1mn towards each bank.

Note that for a party acquiring credit needs to be authorized by the CBC pursuant to the provisions of the

legislation, as well as a number of conditions should be met, including, inter alia, the ability of such legal entity to

fully comply with the provisions of the law. The CBC is granted with wide spectrum supervision authority in an

attempt to maintain financial stability.

Furthermore, the CBC is authorized to engage to investigations as well as to revoke licenses granted, if it

necessary, whereas to impose administrative fines of up to €300K concerning violation of certain provisions of

the law. Note that at the same time credit-acquiring third parties or other acquirers of credit facilities are

expected to grant access to the CBC in relation to data and comply with reporting of their operating activities

accordingly.

Framework review

Note that as the last IMF review indicated authorities and regulatory bodies should reassess and review the new

insolvency and foreclosure laws periodically in a bid to safeguard smooth implementation and to continue

aligning the regime with international best practices. In addition, close coordination of the insolvency reform

implementation is needed among all government stakeholders, to leverage the expertise developed by the

insolvency project team under the Ministry of Finance.

AXIA Research Page 54

Company profiles

AXIA Research Page 55

Bank of Cyprus Banks / Cyprus

Reuters / Bloomberg: BOCr.AT / BOC GA

Transformation on the right track...value play

Rating Neutral vs. previous rating Not Rated

Bank of Cyprus has undergone a significant transformation since the initial acquisition of certain Laiki Bank assets and liabilities and the bank’s recapitalisation via the bail-in of uninsured deposits back in 2013. Over the last 18 months the bank has reinforced its capital levels, mainly via a €1.0bn capital raise in 2014 and subsequent disposals of foreign subsidiaries (inc. Greece, Ukraine, Russian and certain assets in Romania) as well as other non-core assets. The bank’s liquidity position has continuously improved, driven by deposit inflows and on-going deleveraging. ELA stands at €3.3bn at end-March 2016 from its peak of €11.4bn in April 2013, with the bank aiming to repay ELA by end 2017. The Laiki Bank recapitalisation bond transferred to the bank in March 2013 has been fully repaid. Year-end 2015 transitional CET-1 stood at 14.0% (FL Basel III stands at 13.1%), with the 160bps q-o-q reduction related to losses incurred due to elevated provisions for loan impairments, following changes to provisioning methodologies under the on-going regulatory dialogue regarding the SREP (minimum CET-1 requirement of 11.75%). Under our baseline scenario, the bank will continue to build its capital buffers via internal capital generation, potentially paving the way for dividend payments post 2018, assuming resilient capital levels going forward. We look favourably on the stock, focusing on NIM evolution and improvements in asset quality, recognising the increased restructuring activity that has taken place over the last few quarters. Note that the bank has also set up a Real Estate Management Unit to manage debtor assets and monetise accordingly for investors, while aiming to create REITs. Based on our estimates, Bank of Cyprus should be in a position to deliver circa 8% RoTE in 2018. We assign a Neutral rating, mainly due to the large NPL stock on the bank’s balance sheet, and setting our Price Target to €0.20/share. The bank is also pursuing a listing on the London Stock Exchange by year-end 2016, maintaining its presence on the Cyprus Exchange though delisting from the Athens exchange. This is viewed as another step in the recovery of the bank, which will provide greater liquidity for longer-term investors, but could also place pressure on the stock post this event in the short-term.

Key drivers

Funding costs in domestic operations are expected to continue improving during 2016, mainly driven by reduced term deposit and ELA costs, while regaining access to the debt capital markets will provide additional flexibility. Fitch’s recently upgraded by 3 notches to ‘BB+’ (Stable Outlook), that is one notch below investment grade, the bank’s mortgage covered bonds (€650mn), while further rating upgrades can be expected as the macro recovers. Stock performance is mainly driven by economic conditions in Cyprus, while the bank is aiming to grow its UK operations and build up its Real Estate Management Unit (establishment of first in Cyprus). Note that the bank is aiming to list on the LSE by year-end 2016, which will improve share liquidity, but could pressure the stock in the short-term post listing. Note that the bank has disengaged from Greece over last 2 years.

Outlook

The bank’s investment case is driven by the following: (i) well capitalized with CET-1 standing at 14%; (ii) continued reduction in deposit costs, though pressure on asset side will keep NIM flat over the medium-term; (iii) UK operations – bank aims to grow organically; (iv) on-going cost efficiency gains (VRS); (v) attractive RoE18e – assuming stable macro/political;

Investment Case

Catalysts: (i) strong management team; (ii) declining NPE formations; (iii) pricing gains on deposit front; (iv) NPL restructurings – loan transfer/sales; (v) deposit inflows; (vi) sovereign and bank rating upgrade; Risks: (i) worsening GDP dynamics; (ii) slow NPL restructurings; (iii) regulation; (iv) worse margin developments; (v) deterioration of asset quality; (vi) renewed political uncertainty;

Valuation

Based on our estimates and as per our baseline scenario, Bank of Cyprus should achieve a RoTE of circa 8% at 2018. On our numbers the bank trades at 0.42x P/TBV17e. We assign a Neutral rating to the stock and Price Target of €0.20 per share.

Target Price (€) 0.20

vs. previous target price (€) N/A

-

Current Share Price* (€) 0.15

*20 / 4 / 2016

Stock Data Market Cap (€ m) 1,337

Free Float 74%

Outstanding Shares (m) 8,915

Shareholders CPB, Renova Group, TD, Asset Management, EBRD

Performance

1m 3m 12m

Absolute (%) -1.3 4.9 -28.6

SXXP (Abs) -4.2 -1.9 -14.3

Daily avg. no. of traded shares– 12M (th.) 1,917

Price high – 12 months (€) 0.23

Price low – 12 months (€) 0.12

Company Description: Bank of Cyprus is a Cypriot-based bank. The bank offers a range of financial products and services, including private banking, asset management and investment banking, commercial banking, leasing, factoring and insurance. The bank's business segments include Retail Banking, which includes the Retail activity of the bank in Cyprus and the United Kingdom. The bank has recently divested most of its foreign operations, including Greece, Ukraine, Russian and certain assets in Romania.

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BANK OF CYPRUS PUBLIC COMPANY LIMITED STOXX Europe 600 Index (EUR) (Rebased)

AXIA Research Page 56

FY:15 Earnings Results

Bank of Cyprus announced FY:15 net losses of EUR 438mn versus net losses of EUR 261m at FY:14, negatively impacted by the recognition of

EUR 630m loan impairment charges in 4Q:15 attributed to amendments in provisioning methodologies. Note that transitional CET-I ratio

stood at 14.0% (-160bps q-o-q), albeit well above the minimum 11.75% SREP regulatory threshold, while fully-loaded Basel III settled in at

13.1% at year end 2015 (-200bps q-o-q).

FY:15 results: Key highlights

NII at FY:15 stood at EUR 842mn, down 13.1% y-o-y, with NIM standing at 379bps (-15bps y-o-y) - decrease reflects repayment of a bond

by the Republic of Cyprus in June and December 2015, on-going loans restructuring and deleveraging actions;

Total income for FY:15 stood at EUR 1,040mn versus EUR 1,168mn at FY:14, resulting in a 11% y-o-y drop;

Total OPEX came in at EUR 416mn, decreased by 2.6% y-o-y (Cost-to-Income ratio was 40% vs. 37% at FY:14);

Provisions for impairment of customer loans (continuing operations) stood at EUR 959mn at FY:15 (CoR: 430bps vs. 360bps at FY:14)

compared to EUR 770mn at FY:14 resulting from the changes in the assumptions in the bank’s provisioning methodology vis-à-vis on-

going dialogue with the ECB in relation to SREP;

Loss after tax for continuing operations (profit after tax excluding restructuring costs, discontinued operations and net loss on disposal of

non-core assets) stood at EUR 391mn versus EUR 114mn losses at FY:14;

The bank managed to decrease NPL stock by EUR 668mn (-6% q-o-q), while its funding position improved on the back of deposit growth

(+7.7% y-o-y and +4.2% q-o-q) and decreased reliance on ELA funding;

Eurosystem funding stood at EUR 4.5bn at 4Q:15, comprised of EUR 3.8bn ELA and EUR 0.7bn ECB funding. ELA funding has been

reduced by EUR 3.6bn y-o-y, while there a further EUR 0.3bn reduction has registered year-to-date;

During the conference call management highlighted that Cost-to-Income could be pressured going forward from lower operating

income. However the bank noted that the on-going VRS will assist in reducing staff costs, with the objective being a further reduction in

operating expenses in 2016, trying to maintain a Cost-to-Income ratio between 40-45% by 2017;

Medium-Term Targets:

90+ DPD ratio and Cost of Risk: < 30%; < 100bps

90+ DPD Coverage: > 50%

ELA funding: fully repaid by end 2017

NIM: approximately 300bps

Fees & Commissions: > 20%

Cost-to-Income: 40-45%

Net Loans-to-Deposits: 100-120%

CET-1: >15%

Total Assets: > €25bn

Key Focus Areas: 2016-2018

Key areas of focus in 2016: i) restructuring and workout activities of delinquent borrowers; ii) REMU; iii) normalisation of funding structure;

iv) accessing debt capital markets; v) accessing additional ECB funding; vi) lending in domestic market; vii) expanding UK franchise; and viii)

cost optimisation.

Table 1: Bank of Cyprus 4Q:15 Results

Quarters 4Q:15 4Q:14 % y-o-y 3Q:15 % q-o-q FY:15 FY:14 % y-o-y

Net interest income 198.1 225.0 -12.0% 205.8 -3.7% 842.4 969.7 -13.1%

Fees & Commission 38.4 37.0 3.8% 35.9 7.0% 153.5 151.9 1.0%

Total income 266.8 281.0 -5.0% 251.3 6.2% 1,093.8 1,329.3 -17.7%

Total expenses 135.5 119.0 13.9% 107.8 8.4% 458.7 866.3 -26.7%

PPI 134.4 162.0 -18.9% 143.5 25.7% 635.2 462.9 -0.9%

Provisions 630.1 219.0 187.7% 95.5 n.m. 959.5 769.6 24.7%

EAT -508.6 -337.0 -50.9% 6.3 n.m. -438.4 -261.2 -67.8% Source: Company Financials, AXIA Research

AXIA Research Page 57

Figure 1: CET-1 Ratio (%) Figure 2: Fully Loaded Basel III CET-1 Ratio (%)

Source: Presentations, AXIA Research

Figure 3: Net Interest Margin (inc. Laiki recap bond) (%) Figure 4: Emergency Liquidity Assistance (€/bn)

Source: Presentations, AXIA Research

Figure 5: New NPL flows (90+ DPD) (€/mn) Figure 6: 90+ DPD (Volume and Ratio) (€/bn; %)

Source: Presentations, AXIA Research

Figure 7: NPEs (Volume and Ratio) (€/bn; %) Figure 8: Coverage ratio (90+ DPD and NPEs) (€/bn; %)

Source: Presentations, AXIA Research

10.6% 11.3%

15.4% 14.0% 13.9%

14.9% 15.6% 14.0%

0.0%

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14.0%

16.0%

18.0%

1Q:14 2Q:14 3Q:14 4Q:14 1Q:15 2Q:15 3Q:15 4Q:15

10.4%

14.9% 13.4% 13.4%

14.4% 15.1%

13.1%

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2Q:14 3Q:14 4Q:14 1Q:15 2Q:15 3Q:15 4Q:15

4.23%

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3.81%

3.94%

3.79% 3.70% 3.69%

3.50% 3.40% 3.55% 3.55%

3.30%

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3.90%

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4.30%

4.50%

1Q:14 2Q:14 3Q:14 4Q:14 1Q:15 2Q:15 3Q:15 4Q:15

NIM (Group) NIM (exc. Laiki Bond) NIM (Cyprus)

11.4 11.1

9.9 9.6 9.5 8.8

7.7 7.4 6.9

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90+ DPD 90+ DPD ratio (rhs)

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48%

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NPEs NPE ratio

AXIA Research Page 58

Figure 9: Group 90+ DPD by Category (€/bn) Figure 10: Cost of Risk (Group and Cyprus) (%)

Source: Presentations, AXIA Research

Figure 11: Deposits by Geography (%) Figure 12: Deposits by Type (%)

Source: Presentations, AXIA Research

Figure 13: Loans by Geography (%) Figure 14: Loans by Type (%)

Source: Presentations, AXIA Research

7.19 7.18 7.10 6.80 6.25

3.07 3.15 3.13 3.03 2.90

1.22 1.26 1.18 1.14 1.08

1.17 1.21 1.24 1.08

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Corporate SMEs Retail other Retail housing

2.8% 2.8% 2.7%

3.6%

2.1% 2.2%

2.1%

4.3%

1.9%

2.4% 2.2%

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1Q:14 1H:14 9M:14 FY:14 1Q:15 1H:15 9M:15 FY:15

Group Cyprus

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Cyprus - non IBU Cyprus - IBU UK

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35%

Time deposits Savings account Current and Demand account

50.6%

20.7%

19.0%

9.7%

Corporate SME Retail housing Retail other

91.4%

5.3% 1.2% 2.1%

Cyprus UK Russia Other

AXIA Research Page 59

BANK OF CYPRUS: YEARLY FORECASTS

Profit & Loss (€mn) 2014 2015 2016F 2017F 2018F Balance Sheet (€mn) 2014 2015 2016F 2017F 2018F Net interest income 970 842 777 768 816 ASSETS Other net interest revenue 0 0 0 0 0 Interbank 1,647 1,314 1,191 1,094 1,159 Commissions 152 153 156 163 171 Net customer loans 18,168 17,192 17,236 17,284 18,083 Trading income -12 -53 -23 -16 5 Securities 1,871 588 531 434 690 Other income 220 151 81 82 85 Intangibles (inc. Goodwill) 127 134 137 136 142 Total revenues 1,329 1,094 990 997 1,076 Other assets 4,976 4,042 3,802 3,653 3,578 Total expenses 463 459 449 447 463 Total assets 26,789 23,271 22,897 22,600 23,651

Personnel costs 234 234 234 243 254 General and administrative 172 163 187 177 182 LIABILITIES

Pre-provision income 866 635 541 551 612 Interbank 8,446 4,695 3,705 2,560 2,384 Loan loss charge 769 959 446 336 289 Customer deposits 12,624 14,181 14,886 15,631 16,552 Other impairment charges 90 62 0 0 0 Securities 1 1 1 1 1 Operating profit 7 -386 95 215 323 Other liabilities 2,238 1,317 1,141 1,053 1,073 Associate income 5 6 4 4 4 Total liabilities 23,308 20,193 19,733 19,244 20,010 Pre-tax profit 12 -380 99 219 327 Shareholders' Equity 3,465 3,055 3,142 3,333 3,619 Tax -11 -9 -12 -27 -41 Minorities 16 22 22 22 22

Tax rate -92.8% 2.4% -12.5% -12.5% -12.5% Total liabilities and equity 26,789 23,271 22,897 22,600 23,651 Other post tax items -322 -65 0 0 0 Minorities -60 -16 0 0 0 Regulatory capital (EUR mn; %) 2014 2015 2016F 2017F 2018F Net profit -261 -438 87 191 286 Tier I 3,191 2,748 2,834 3,026 3,312 Total Regulatory Capital 3,233 2,778 2,860 3,051 3,337 Growth rates (%) 2014 2015 2016F 2017F 2018F Risk-weighted assets 22,715 19,666 19,022 19,274 20,267 Net Interest Income 10.2% -13.1% -7.8% -1.1% 6.3% Tier I ratio 14.0% 14.0% 14.9% 15.7% 16.3% Net Fee & Commission Income 8.8% 1.0% 1.6% 4.8% 4.4% Total Capital ratio 14.2% 14.1% 15.0% 15.8% 16.5% Total Non-Core Income n.m. -52.9% -41.2% 15.3% 34.3% Total Operating Income 27.1% -17.7% -9.5% 0.7% 7.8% Balance sheet (%) 2014 2015 2016F 2017F 2018F Total Operating Expenses 21.9% 0.9% 2.1% 0.6% -3.7% Equity-to-Total assets 12.9% 13.1% 13.7% 14.7% 15.3% Loan loss charge (LLC) 22.3% -78.6% 65.9% 24.6% 13.9% Net loans/total assets 67.8% 73.9% 75.3% 76.5% 76.5% Profit/(loss) before tax 102.3% n.m. 126.1% 120.6% 49.6% Net loans-to-deposits 141.0% 121.2% 115.8% 110.6% 109.2% Net profit/(loss) for the year 87.3% -67.8% 119.8% 120.6% 49.6% Asset quality (%) 2014 2015 2016F 2017F 2018F Profitability ratios (%) 2014 2015 2016F 2017F 2018F LLC/Gross Loans 3.2% 6.1% 2.1% 1.6% 1.4% Return on assets -1.0% -1.9% 0.4% 0.8% 1.2% LLC/Risk-weighted assets (ave.) 3.2% 6.6% 2.3% 1.7% 1.4% Return on risk-weighted assets -1.1% -2.1% 0.4% 1.0% 1.4% Loan loss reserve 21.6% 24.1% 22.3% 20.0% 17.2% Return on average equity (stated) -12.9% n/a n/a n/a n/a NPL/NPE ratio 53.2% 50.1% 45.5% 38.0% 32.1% Return on equity (calculated) -7.5% -14.3% 2.8% 5.7% 7.9% NPL/NPE coverage 40.6% 48.1% 48.9% 52.6% 53.5% Return on tangible equity -7.8% -15.0% 2.9% 6.0% 8.2% Cost-to-income 34.8% 41.9% 45.4% 44.8% 43.1% Per share data (EUR) 2014 2015 2016F 2017F 2018F Cost-to-assets (ave.) 1.6% 1.8% 1.9% 2.0% 2.0% Number of shares (year-end) 8,923 8,923 8,923 8,923 8,923 Pre-provision income margin 3.0% 3.0% 2.3% 2.4% 2.6% EPS 0.00 -0.05 0.01 0.02 0.03 NII/Interest earning assets (ave.) 3.2% 3.0% 2.9% 2.9% 3.1% Book value 0.00 0.34 0.35 0.37 0.41 NII/Total revenues 72.9% 77.0% 78.4% 77.0% 75.9% Net asset value 0.00 0.33 0.34 0.36 0.39 DPS 0.00 0.00 0.00 0.00 0.00

Source: Company Data, AXIA Research; Note: General & Administrative expenses exclude Depreciation and Other Expenses

AXIA Research Page 60

Hellenic Bank Banks / Cyprus

Reuters / Bloomberg: HBr.AT / HB CY

Enhanced capital buffers provides flexibility

Rating Neutral vs. previous rating Not Rated

Hellenic Bank has managed to show significant improvements in underlying operating trends, broadly returning to profitability during 2015, whilst continuing to enhance capital levels. The bank’s investment case is characterised by a stand-out net loans-to-deposit ratio, zero exposure to emergency liquidity assistance, no dependence on the interbank market, strong relative coverage of non-performing loans, a solid franchise within Cyprus and a strong management team. Since late 2013 the bank has implemented various actions to boost its capital levels. In November 2013, the bank completed its capital enhancement plan, securing €358mn and exceeding the capital shortfall of €294mn under a third-party diagnostic review requested by the Cypriot authorities. It is important to note that in this context the bank was recapitalised by private investors, divested its Greek branch network and focused heavily on implementing a successful turnaround strategy. In addition, following the EU wide stress tests in 2014, the bank in the same year raised €201mn from private investors once again, covering nearly twice the €105mn adverse shortfall identified under the AQR exercise, whilst also raising an additional €3mn through the allotment of shares corresponding to unexercised rights. In October 2015, the bank issued shares to the European Bank for Reconstruction and Development (EBRD), which now holds a 5.4% stake in the bank (€20mn investment). Note that year-end 2015 transitional CET-1 stood at 14.8%, with fully loaded Basel III standing at 13.5% (minimum SREP ratio stands at 11.75%). Under our baseline scenario the bank will continue to build its capital buffers, allowing it to intensify efforts to address the large level of non performing exposures, enhancing loss absorbing buffers, focusing on restructurings, while also targeting continued optimisation and loan generation in the latter part of the year. The bank also recognised additional provisions recommended by the SSM amounting to €71mn in the last quarter of 2015. Note that the bank is also examining a secondary listing on a separate exchange in 2017, which would positively impact the liquidity of the bank’s shares. We expect Hellenic Bank to deliver a circa 9% RoTE in 2018. We assign a Neutral rating, mainly due to the large NPL stock on the bank’s balance sheet, setting our Price Target to €1.45/share.

Key drivers

Funding costs in domestic operations continue to improve during 2016, mainly driven by reduced term deposit costs. The stock performance is mainly driven by economic conditions in Cyprus, while the bank’s focus will revolve around deployment of excess liquidity, reducing large cash balances with the ECB that are attached to a negative yield, accelerating restructurings (including debt-to-asset swaps) assisted by new foreclosure and insolvency/sale reforms. Importantly, note that the bank has disengaged from Greece over last 2 years.

Outlook

Hellenic Bank’s investment case is driven by the following: (i) well capitalized with CET-1 standing at 14.8%; (ii) pressure on asset side with reduction in deposit costs gradually materialising upon deposit renewals, with NIM expected over the medium-term; (iii) continued loan disbursements; (iv) on-going cost efficiency gains (VRS); (v) attractive RoE18e – assuming stable macro/political;

Investment Case

Catalysts: (i) declining NPE formations; (ii) pricing gains on deposit front; (iii) NPL restructurings - loan transfer/sales; (iv) deposit inflows; (v) sovereign and bank rating upgrade; Risks: (i) worsening GDP dynamics; (ii) slow NPL restructurings; (iii) regulation; (iv) worse margin developments; (v) deterioration of asset quality; (vi) renewed political uncertainty;

Valuation

Based on our estimates and as per our baseline scenario, Hellenic Bank should achieve a RoTE of circa 9% at 2018. On our numbers the bank trades at 0.31x P/TBV17e. We assign a Neutral rating to the stock and Target Price of €1.45 per share.

Target Price (€) 1.45

vs. previous target price (€) N/A

-

Current Share Price* (€) 1.06

*20 / 4 / 2016

Stock Data Market Cap (€ m) 210

Free Float 34%

Outstanding Shares (m) 198

Shareholders Third Point, Wargaming, Demetra Investment, EBRD

Performance

1m 3m 12m

Absolute (%) -13.8 -12.4 -43.3

SXXP (Abs) -16.7 -19.2 -29.0

Daily avg. no. of traded shares– 12M (th.) 21

Price high – 12 months (€) 1.95

Price low – 12 months (€) 1.05

Company Description: Hellenic Bank is a Cypriot-based bank. The bank offers a range of financial products and services, including financing, investment, insurance services, as well as custodian and factoring services. The bank provides banking and financial services through its branches in Cyprus and maintains Representative Offices in Moscow, Johannesburg, Saint Petersburg and Kiev. In November 2015 the Bank was granted approval by the Central Bank of Cyprus for the operation of a Representative Office in Athens.

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HELLENIC BANK PUBLIC COMPANY LIMITED STOXX Europe 600 Index (EUR) (Rebased)

AXIA Research Page 61

FY:15 Earnings Results

Hellenic Bank reported FY:15 net income of EUR 13.0mn versus net losses of EUR 117.6mn at year end 2014, after booking the additional EUR

71mn provisions recommended by the SSM following its recent on-site supervisory review. Note that CET-I ratio stood at 14.8% (+100bps q-o-

q), positively impacted by a reduction in RWAs (-1.9% q-o-q), well above the minimum 11.75% SREP regulatory threshold, while fully-loaded

Basel III settled in at 13.5% (+80bps q-o-q).

FY:15 results: Key highlights

NII during FY:15 amounted to EUR 145.4mn versus EUR 204.1mn at FY:14 (-28.8% y-o-y), mainly due to the decrease of loan interest

rates early in the year and to methodological alignments implemented in NII recognition with the corresponding reduction in the loan

loss charges (full year impact at EUR 41mn). Management noted that NII figures reflect the evolution of the loans and deposits’ interest

rates from the beginning of the year. Note that Group NIM stood at 2.0% at FY:15 (flat q-o-q; -120bps y-o-y).

Total non-interest income was up 17% y-o-y at EUR 111.1mn vs. EUR 94.9mn at FY:14, due to gains from the disposal of Cyprus

government Registered Development Stocks (value EUR 168mn), being part of the treasury activities.

Total OPEX increased 7.8% y-o-y, due to the increase in staff costs by 6% and a 11% y-o-y pick up in administrative and other expenses

primarily driven by increased provisions for pending litigations, costs relating to advisory services from international advisory firms and

special levy cost. Cost to Income ratio stood at 59% vs. 47% at FY:14. Hellenic Bank announced in relation to the Special Early Retirement

Scheme, that 36 employees decided to make use of the Scheme resulting in EUR 3.1mn ex-gratia cost.

Impairment losses and provisions to cover credit risk at FY:15 stood at EUR 100.8mn versus EUR 304.4mn at FY:14. The cost of risk

settled in at 2.3%, down 410bps compared to FY:14. Note that at 4Q:15 cost of risk settled at 3.9%, reflecting the increased provisions

with the findings of the SSM. The loss loans charge at 4Q:15 amounted to EUR 41.7mn compared to EUR 12.1mn in the prior quarter.

NPE ratio stood at 59.2% versus 58.0% at FY:14 indicating stabilizing trends and suggesting the focus of the bank on the restructuring of

its NPE portfolio, while the ratio of total impairment losses on loans and advances to total non-performing loans (i.e. Coverage ratio)

came in at 50.1% versus 46.3% at FY:14. Total NPEs levels stood at EUR 2.6bn at 31 December 2015 (-3% q-o-q).

Accumulated impairment losses on loans and advances, which include suspended interest not recognized in the income statement of

EUR 321.7mn, amounted to EUR 1.303bn at 4Q:15 (vs EUR 1.184bn at 4Q:14) or 29.6% loan loss reserves ratio (vs. 26.9% at 4Q:14).

New lending for 2015 stood at EUR 377mn, signalling the first signs of loan book expansion (net loans to deposits came in at 50.0% vs.

51.0% at FY:14). Total cash and placements with banks and Central Banks, which include a placement of EUR 1.9bn with the ECB,

amounted to EUR 2.9bn vs. EUR 3.3bn at FY:14. The Group’s investments in bonds amounted to EUR 1.0bn (vs. EUR 0.8bn at year-end

2014), representing 14% of total assets (December 2014: 10%).

Strategic Priorities:

Successful management of high NPE levels;

Increasing market share to fuel growth; and

Maintaining comfortable liquidity through robust balance sheet structure and capital strength.

Key Focus Areas: 2016-2018

Key areas of focus in 2016: i) restructuring and workout activities of delinquent borrowers; ii) normalisation of funding structure; iv) accessing

debt capital markets; v) accessing ECB funding; vi) lending in domestic market; vii) utilising excess cash; and viii) cost optimisation;

Table 1: Hellenic Bank 4Q:15 Results

Quarters 4Q:15 4Q:14 % y-o-y 3Q:15 % q-o-q FY:15 FY:14 % y-o-y

Net interest income 37.1 47.8 -22.3% 34.9 6.2% 145.4 204.1 -28.8%

Fees & Commission 16.2 16.3 -0.7% 14.6 10.7% 58.4 58.7 -0.5%

Total income 80.2 73.5 9.1% 57.3 39.9% 256.4 299.0 -14.2%

Total expenses 37.9 36.6 3.5% 37.3 1.6% 152.1 141.1 7.8%

PPI 42.3 36.9 14.8% 20.0 111.3% 104.3 157.9 -33.9%

Provisions 42.3 45.3 -6.8% 13.0 224.6% 100.8 304.4 -66.9%

EAT 6.0 6.3 -4.4% 6.0 -0.5% 12.1 -118.6 110.2% Source: Company Financials, AXIA Research

AXIA Research Page 62

Figure 1: CET-1 Ratio (%) Figure 2: Fully Loaded Basel III CET-1 Ratio (%)

Source: Presentations, AXIA Research

Figure 3: Risk-weighted Assets (€/mn) Figure 4: Capital and SREP (%)

Source: Presentations, AXIA Research

Figure 5: Net Interest Margin (%) Figure 6: Net Loans-to-Deposits Ratio (€/mn; %)

Source: Presentations, AXIA Research

Figure 7: NPEs (Volume and Ratio) (€/bn; %) Figure 8: Breakdown of Liquid Assets (€/mn)

Source: Presentations, AXIA Research

13.4% 13.3% 13.5% 13.8% 14.8%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

4Q:14 1Q:15 2Q:15 3Q:15 4Q:15

12.7% 13.5%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

3Q:15 4Q:15

3.2%

2.5%

2.0% 2.0% 2.0%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

4.0%

4Q:14 1Q:15 2Q:15 3Q:15 4Q:15

50.8% 48.9%

50.7% 50.0% 50.4%

30%

35%

40%

45%

50%

55%

60%

0

1,000

2,000

3,000

4,000

5,000

6,000

7,000

4Q:14 1Q:15 2Q:15 3Q:15 4Q:15

Net loans Deposits Net L-t-D (rhs)

58.0% 59.5%

60.5% 61.2%

59.2%

50.0%

52.0%

54.0%

56.0%

58.0%

60.0%

62.0%

0.0

0.5

1.0

1.5

2.0

2.5

3.0

Dec-14 Mar-15 Jun-15 Sep-15 Dec-15

NPEs NPE ratio

4,027 4,091 3,974 4,036 3,958

4Q

:14

1Q

:15

2Q

:15

3Q

:15

4Q

:15

4.5%

4.8%

2.5%

Minimum CET-I (SREP)

Buffer

SREP

CRD IV

14.8%

2.9%

0.4%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

18.0%

20.0%

Dec-15

Tier II

Tier I

CET-I

2,176 2,278 2,273 2,084 2,029

1,122 1,182 898 940 910

789 899

898 1,142 1,071

0

1,000

2,000

3,000

4,000

5,000

Dec-14 Mar-15 Jun-15 Sep-15 Dec-15

Cash with Central Banks Placements with banks Securities

AXIA Research Page 63

Figure 9: Cost of Risk (Group) (%) Figure 10: Shareholders 31.12.2015 (%)

Source: Presentations, AXIA Research

Figure 11: Deposits by Country of Customer (%) Figure 12: Deposits by Type (%)

Source: Presentations, AXIA Research

Figure 13: Loans by Sector (%) Figure 14: Loans by Type (%)

Source: Presentations, AXIA Research

6.4%

2.3%

1.3%

2.9%

1.2%

3.9%

FY:14

FY:15

1Q

:15

2Q

:15

3Q

:15

4Q

:15

Third Point 26%

Wargaming Group Ltd

25%

Demetra Investment

Public 10%

EBRD 5%

Other International

17%

Other Domestic

16%

Retail 29%

Trade 17% Construction &

Real Estate 26%

Tourism 6%

Manufacturing 6%

Other Sectors 16%

Individuals 29%

Businesses 71%

39%

9%

52%

Time deposits Savings account Current and Demand account

50%

23%

16%

11%

Cyprus Russia Other EU Other

AXIA Research Page 64

HELLENIC BANK: YEARLY FORECASTS

Profit & Loss (€mn) 2014 2015 2016F 2017F 2018F Balance Sheet (€mn) 2014 2015 2016F 2017F 2018F Net interest income 204 145 144 151 158 ASSETS Other net interest revenue 0 0 0 0 0 Interbank 2,176 2,029 1,888 1,735 1,542 Commissions 59 58 56 55 56 Net customer loans 3,221 3,093 3,147 3,339 3,634 Trading income 18 33 17 18 19 Securities 780 1,043 1,191 1,291 1,390 Other income 18 20 20 20 20 Intangibles (inc. Goodwill) 15 15 15 15 15 Total revenues 299 256 237 245 253 Other assets 1,360 1,218 1,167 1,149 1,138 Total expenses 141 152 148 145 145 Total assets 7,552 7,397 7,408 7,528 7,719

Personnel costs 75 80 78 76 78 General and administrative 61 67 64 62 60 LIABILITIES

Pre-provision income 158 104 89 100 107 Interbank 71 77 79 81 85 Loan loss charge 282 101 70 55 50 Customer deposits 6,346 6,139 6,169 6,231 6,356 Other impairment charges 22 -1 0 0 0 Securities 181 181 140 140 130 Operating profit -147 4 19 45 57 Other liabilities 178 176 225 232 252 Associate income 0 0 0 0 0 Total liabilities 6,776 6,573 6,613 6,684 6,822 Pre-tax profit -147 4 19 45 57 Shareholders' Equity 590 640 651 701 764 Tax 28 5 2 5 6 Minorities 4 3 3 3 3

Tax rate -19.2% 131.6% 7.8% 10.1% 10.4% Total liabilities and equity 7,552 7,397 7,408 7,528 7,719 Other post tax items 1 5 0 0 0 Minorities 1 1 0 0 0 Regulatory capital (EUR mn; %) 2014 2015 2016F 2017F 2018F Net profit -119 12 21 49 63 Tier I 539 584 586 635 698 Total Regulatory Capital 734 718 720 769 698 Growth rates (%) 2014 2015 2016F 2017F 2018F Risk-weighted assets 4,027 3,958 3,873 4,071 4,265 Net Interest Income 9.1% -28.8% -1.0% 5.2% 4.3% Tier I ratio 13.4% 14.7% 15.1% 15.6% 16.4% Net Fee & Commission Income 3.8% -0.5% -3.7% -1.8% 0.5% Total Capital ratio 18.2% 18.1% 18.6% 18.9% 16.4% Total Non-Core Income 1.6% 45.6% -29.8% 2.7% 3.3% Total Operating Income 7.1% -14.2% -7.5% 3.1% 3.3% Balance sheet (%) 2014 2015 2016F 2017F 2018F Total Operating Expenses 5.8% -7.8% 2.8% 1.9% -0.2% Equity-to-Total assets 7.8% 8.6% 8.8% 9.3% 9.9% Loan loss charge (LLC) 9.3% 64.0% 31.0% 21.4% 9.1% Net loans/total assets 42.7% 41.8% 42.5% 44.4% 47.1% Profit/(loss) before tax 19.2% 102.4% 449.2% 130.3% 28.7% Net loans-to-deposits 50.8% 50.4% 51.0% 53.6% 57.2% Net profit/(loss) for the year 37.9% 110.2% 73.0% 135.2% 29.0% Asset quality (%) 2014 2015 2016F 2017F 2018F Profitability ratios (%) 2014 2015 2016F 2017F 2018F LLC/Gross Loans 6.4% 2.3% 1.6% 1.2% 1.1% Return on assets -1.6% 0.2% 0.3% 0.7% 0.8% LLC/Risk-weighted assets (ave.) 7.0% 2.6% 1.8% 1.4% 1.2% Return on risk-weighted assets -2.9% 0.3% 0.5% 1.2% 1.5% Loan loss reserve 26.9% 29.6% 29.8% 27.7% 24.3% Return on average equity (stated) n/a n/a n/a n/a n/a NPL/NPE ratio 58.0% 59.2% 56.2% 51.2% 41.2% Return on equity (calculated) -20.0% 1.9% 3.2% 7.0% 8.3% NPL/NPE coverage 47.5% 50.1% 53.0% 54.1% 59.1% Return on tangible equity -20.1% 1.9% 3.3% 7.2% 8.5% Cost-to-income 47.2% 59.3% 62.3% 59.3% 57.5% Per share data (EUR) 2014 2015 2016F 2017F 2018F Cost-to-assets (ave.) 2.0% 2.0% 2.0% 1.9% 1.9% Number of shares (year-end) 198 198 198 198 198 Pre-provision income margin 3.6% 2.4% 2.0% 2.2% 2.3% EPS -0.60 0.08 0.11 0.25 0.32 NII/Interest earning assets (ave.) 2.6% 1.7% 1.7% 1.8% 1.8% Book value 2.97 3.22 3.28 3.53 3.85 NII/Total revenues 68.3% 56.7% 60.7% 61.9% 62.5% Net asset value 2.87 3.11 3.17 3.42 3.75 DPS 0.00 0.00 0.00 0.00 0.00

Source: Company Data, AXIA Research; Note: General & Administrative expenses exclude Depreciation and Other Expenses

AXIA Research Page 65

Disclosures

General information This research report was prepared by AXIA Ventures Group Limited, a company incorporated under the laws of Cyprus (referred to herein, together with its subsidiary companies and affiliates, collectively, as “AXIA”) which is authorised and regulated by the Cyprus Securities and Exchange Commission (authorisation number 086/07). AXIA is authorized to provide investment services in the United Kingdom, Cyprus, Greece and in Portugal pursuant to its permissions under the Markets in Financial Instruments Directive and may also provide similar services in other countries, inside or outside of the European Union, subject to the applicable provisions. AXIA Ventures Group Limited is not a registered broker-dealer in the United States (U.S.), and, therefore, is not subject to U.S. rules regarding the preparation of research reports and the independence of research analysts. In the U.S., this research report is intended solely for persons who meet the definition of “major U.S. institutional investors” in Rule 15a-6 under the U.S. Securities and Exchange Act, as amended, or persons listed under Rule 15a-6(4) and is meant to be disseminated only through “Axia Capital Markets LLC”, a wholly owned subsidiary of AXIA Ventures Group Limited and associated US registered broker-dealer in accordance with Rule 15a-6 of the US Securities and Exchange Act. Content of the report The persons in charge of the preparation of this report, the names of whom are disclosed below, certify that the views and opinions expressed on the subject security, issuer, companies or businesses covered by this research report (each a “Subject Company” and, collectively, the “Subject Companies”) are their personal opinions and that no part of their compensation was, is or will be directly or indirectly related to the specific recommendations or views contained in this research report.

Whilst all substantial sources of information for the research are indicated in this report, including, without limitation, bases of valuation applied to any security or derivative security, such information has not been disclosed to the Subject Companies for their comments and no such information is hereby certified.

All information contained herein is subject to change at any time without notice. No member of AXIA has an obligation to update, modify or amend this research report or to otherwise notify a reader thereof in the event that any matter stated herein, or any opinion, projection, forecast or estimate set forth herein, changes or subsequently becomes inaccurate, or if research on the Subject Company is withdrawn. Further, past performance is not indicative of future results. Persons responsible for this report: Constantinos Zouzoulas (analysts) Key Definitions

AXIA Research 12-month rating*

Buy The stock to generate total return** of and above 10% within the next 12-months

Neutral The stock to generate total return**between -10% and 10% within the next 12-months

Sell The stock to generate total return** of and below -10% within the next 12 months

Under Review Stock’s target price or rating is subject to possible change

Restricted Applicable Laws / Regulation and AXIA Ventures Group Limited policies might restrict certain types of communication and investment recommendations

Not Rated There is no rating for the company by AXIA Ventures Group Limited

* Exceptions to the bands may be granted by the Investment Review Committee of AXIA taking into account specific characteristics of the Subject Company **Total return: % price appreciation equals percentage change in share price from current price to projected target price plus projected dividend yield.

Rating history for Bank of Cyprus

Date Rating Share Price (EUR) Target Price (EUR)

21/04/2016 Neutral 0.15 0.20

Rating history for Hellenic Bank

Date Rating Share Price (EUR) Target Price (EUR)

21/04/2016 Neutral 1.06 1.45

AXIA Research Page 66

AXIA Ventures Group Limited Rating Distribution as of today

Coverage Universe Count Percent Of which Investment

Banking Relationships Count Percent

Buy 11 69%

Neutral 5 31%

Sell Restricted

Not Rated

Under Review 2 2 13% (1) Alpha Bank and Eurobank Ergasias have been clients of our Investment Banking Department during the last twelve months. Analysts and other persons participating in this research report have not

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AXIA Research Page 67

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