Moody’s has placed on review for downgrade Erste Group Bank standalone bank financial strength rating (BFSR) of C- (mapping to Baa1 on the long-term scale) and the A1 long-term debt and deposit ratings.
The move is due to concerns by the ratings agency about the bank’s risk appetite and risk management, internal controls and financial transparency following a net loss of 1.5 billion in the third quarter of 2011. Particularly relevant is the disclosure of a 5.2 billion net credit default swaps (CDS) portfolio, which appears to be unrelated to Erste’s core business operations and had previously been recognized at cost, rather than at fair value.
As part of the re-assessment of the C- BFSR, a lower mapping of the standalone credit strength to Baa2 from Baa1 is likely, while a move of the BFSR below the C- range cannot be ruled out entirely, said Moodys. Consequently, the rating agency notes that a one-notch downgrade of the long-term debt and deposit ratings is the most likely outcome of the rating review.
During its Q3 2011 earnings call, Erste Group Bank announced that it had reduced its net CDS exposure to 300 million as of October 27 2011 through various measures such as novation and close-outs. However, the restatement of the CDS exposures had a negative impact of approximately 460 million after tax. This, combined with the other extraordinary charges (predominantly goodwill write-offs for its Hungarian and Romanian businesses as a result of their exposure to the CDS instruments), required the bank to postpone the planned repayment of 1.2 billion in government-provided participation capital. Moodys said this could limit the bank’s strategic and financial flexibility for a longer period than Moody’s previously expected.
In the absence of previously anticipated meaningful profit generation for the full-year 2011, Erste’s 7.4% core Tier 1 capital ratio (excluding government participation capital) as per September 30 2011 is weak compared with other banks’ capital ratios rated at the C- BFSR level. Moody’s said the comparative weakness increases the pressure on Erste to make a rapid return to its earlier earnings-generation capacity to bolster its regulatory capital levels.
Moodys said Erstes BFSR could also come under downward rating pressure due to: a stalled economic recovery in Eastern Europe resulting in additional substantial credit charges, beyond levels anticipated by Moody’s; an extended period of weak earnings and hence lower internal capital generation, and weakened capitalization levels as a result of strong asset growth in Eastern Europe.
In addition, the bank’s long-term ratings could come under downward pressure in case of a weakening in its intrinsic financial strength, as well as adverse changes in the systemic support assumptions currently factored into Erste’s ratings. However, Moody’s does not consider this likely at present.
Erste Group Bank reported a net loss of 973 million for the first nine months of 2011. Fee and commission income from custodial services was 24.8 million, an 11.9 % drop from the first nine months of 2010.
(JDC)