(The 16) Fitch: USA,China,Brazil,steel,Germany,H Kong,renminbi
08 March, 2012 5:53 AM
Handling Fees on German Consumer ABS In Question
A series of higher regional court decisions regarding loan handling fees for German consumer loans could expose transactions to additional set-off risk, which may reduce the portfolio value. Fitch will review the potential impact on existing ratings on a transaction-by-transaction basis.
The court rulings invalidate administration fees that were charged to set up a loan. The risk to German ABS transactions is that borrowers will claim this money back by setting off handling fees they have already paid to the lender against loan repayments that have been securitised. This would reduce the proceeds received by SPVs.
Only a Federal Supreme Court decision, which might happen in the second half of 2012, could provide some legal certainty. However, the cases presented to courts are not identical to the loans included in German consumer ABS transactions, so it will not be possible to draw direct conclusions. To date arrangers of recent transactions have been unable to provide a clear legal opinion on this matter. As a result, we will assess the materiality of potential set-off risk. If the exposure is considered to be material we may assume the worst case and analyse transactions as if borrowers can set-off the fee.
In the absence of a legal opinion, recently rated transactions have addressed the risk in different ways. In one transaction, simply a higher credit enhancement is available to cover the notional value of the loan handling fee. Another transaction mitigated the risk by posting a dedicated set-off reserve that fully covers the total handling fees from closing.
Existing rated transactions are often insulated against set-off risk because the strong performance of the loans combined with significant prepayments and scheduled amortisation means there has been a build-up of credit enhancement. This additional credit enhancement could cover some of the losses expected from the set-off of any administration fees.
Existing transactions may also be able to fall back on the seller’s obligation to fully reimburse set-off claims. A set-off risk would only materialise if the seller were unable to settle this payment.
As a consequence of the legal uncertainty, some lenders have stopped charging handling fees. In the long-term lenders are likely to increase the interest rate they charge on the loan to compensate for not being able to charge a handling fee.
08 March, 2012 4:41 AM
Cyclicals Better Placed Under Corporate Shock Scenario
Under a hypothetical Shock Case simulating a rapid re-acceleration and prolonged worsening of the eurozone crisis, Fitch Ratings found cyclicals showed materially more resilience than defensive sectors.
European steel companies are a good example – vulnerable to downgrade action, but to a lesser degree than more defensive sectors such as utilities and telecoms.
Our recent report looks sector-by-sector at the hypothetical impact of a Shock Case scenario which takes the eurozone to the edge of break-up, but short of the default scenarios considered in our July 2011 Sovereign Default Stress scenario. The hypothetical impact on rating migration is higher than the actual downgrade rate which followed the onset of the global financial crisis in 2008/9, but distributed in a sharply different manner across sectors.
For steel we modelled demand falls of 15% in 2012, followed by 5% in 2013 and a gradual recovery thereafter. For the sample of European steel companies to which the stress applies, average leverage (on an FFO basis) rises by 1.1x in 2012, following a median fall in nominal EBITDA of 40%.
The analysis recognises we are not in the same position as in 2008. Generally, corporate leverage is lower and liquidity better; and there are fewer companies with “M&A overhangs” from the earlier boom. The steel sector in particular will be insulated by lower inventory levels throughout the value chain than in the previous crisis – in 2007 manufacturers were on an expansion drive in anticipation of strong growth in global demand. Steel market inventories have reduced by almost 20% at end-2011 relative to mid-2008 highs. This is expected to significantly limit adverse effects on steel companies in the event of a sharp reduction in real demand in 2012.
A further positive is the capacity reduction the industry has undergone in the last five years – making it more capable of withstanding a prolonged period of low demand.
For European steel companies the effect of the shock scenario – roughly a one-notch downgrade – is similar to that experienced in 2008/9 with the more severe negative effects of a further downward step in demand mitigated by the factors above and that the 2008/9 downgrades have not been reversed in the majority of cases.
By contrast, Russian steel companies with less than 20% exposure to Europe would fare better under this scenario than in 2008/2009. These companies, such as Severstal (‘BB-’), Novolipetsk Steel (‘BBB-’ NLMK), Magnitogorsk Iron & Steel Works (‘BB+’ MMK) and Evraz Group (‘BB-’), have the potential to survive the scenario with their ratings unchanged. Their low-cost production capacity could effectively be shifted to more lucrative markets in the Far East.
07 March, 2012 3:37 PM
Agency Plans Could Affect Muni Tax Base
Fitch believes some of the proposals and agreements intended to support the U.S. residential housing market could push down residential pricing in some localities and put commensurate pressure on those municipalities’ property tax revenues in the short run. However, in the midterm, we would expect those tax revenues to recover.
We believe the impact will vary greatly across regions. Municipalities with the largest foreclosure rates and weaker job markets are more likely to feel the effects, while those with few foreclosures and more jobs are unlikely to be affected.
Numerous plans have been recently put into place to support the residential market. The attorneys general settlement with large banks is one of the most notable and far reaching. But the recent Federal Housing Finance Agency (FHFA) plan for disposal of real estate owned (REO) portfolios is expected to have a potentially larger impact on municipalities. The plan is to sell those properties to investors, who, in turn, will rent them. FHFA is limiting the participants to professional investors with experience in the management of rental properties. Investors in this asset class often require low prices at closing and the properties to be in a tight geographic area to allow for lower rental servicing costs.
We believe that this could put downward pressure on residential prices in areas where the foreclosure rate has been high and have a negative impact on tax revenues in those areas over the short term. Over the mid- and long-term, tax revenues are largely expected to stabilize as the conversion of residential to commercial units increases the tax base and the increase in population improves the local economy.
07 March, 2012 12:34 PM
Robust US Bank C&I Loan Growth Likely Short-Lived
Fitch Ratings believes significant commercial and industrial (C&I) loan growth captured by commercial banks during 4Q11 is promising, but will not maintain the same pace going forward. However, we feel if banks do exhibit loan growth, it will likely be seen in the C&I space.
C&I loans grew 14% at all FDIC-insured institutions during 4Q11 versus 4Q10. Since 3Q10, C&I loans have grown $182 billion, with over 60% of that in the second half of 2011. We believe a portion of that growth is attributable to pent-up demand. However, C&I loans are still below 1Q09 levels that marked the end of the most recent recession.
Many financial institutions attribute strong C&I growth to new customers versus an increase in utilization while other banks benefited from the dislocation in Europe. Larger banks saw strong loan growth coming from corporate-syndicated lending. We expect these will remain drivers of C&I growth, but in a more evenly paced manner.
Given a low interest rate environment, banks are keen on adding higher yielding assets to avoid further margin compression. We believe increased C&I loan demand has spurred competition, driving yields down and keeping net interest margins (NIM) vulnerable. However, we feel the potential for C&I –driven NIM compression will likely not pressure ratings.
We note the extension of credit has become increasingly intricate and expensive due to both internal and external factors, but believe the process remains adequate for most banks to make loans at reasonable levels. We feel many US banks possess both the ability and willingness to lend, as evidenced by the consistent increase in commercial loans.
C&I is also seen as an attractive asset class, given all the ancillary services that can be sold in relationship banking. With pressured spread income, we view the potential to generate fee income positively as banks strive to meet the needs of their C&I customer base through fee-based product offerings.
We will continue to monitor the commercial and industrial sector with focus on loan standards and quality. However, we would be cautious about banks that became increasingly aggressive in the C&I space in a still challenging environment.
07 March, 2012 8:45 AM
RMB Deposits Dip Not a Concern for Hong Kong Banks
A modest decline in offshore renminbi deposits in the last few months does not represent a funding or liquidity concern for Hong Kong banks. The proportion of total deposits that the currency represents is small and the banks have limited opportunities to invest the deposits. RMB deposits represent only about 4% of total assets and 8% of total deposits, compared to about 50% in the HK dollar and 30% in the US dollar.
Reasons for the modest drop in RMB deposits include lower expectations for the RMB to appreciate. We believe that over the next two to three years a significant portion of RMB depositors will search for higher yields than they are currently receiving in their deposit accounts.
At present RMB deposits are costly and relatively unattractive for Hong Kong banks but the banks nevertheless have paid up for them as they aim to sell higher-yielding structured RMB investment products and expect RMB loan demand to pick up. In addition, Hong Kong banks are part of China’s move towards opening up its capital account by allowing investors to park their RMB liquidity, thereby supporting liquid RMB offshore markets.
Incentives for banks to compete for RMB deposits are low as long as restrictions on profitably redeploying the deposits remain in place. De facto reserve requirements for RMB deposits are 25%, while HKD and other foreign-currency deposits have no such specific requirements. RMB liquefiable assets remain subject to restrictions for inclusion in the overall regulatory liquidity ratio.
RMB deposits in Hong Kong banks grew nearly tenfold between the start of 2010 and November 2011 before dropping back since then. Interest rates on RMB deposits, as reported by the Hong Kong Monetary Authority, range from 0.25% for savings deposits to 0.58% for 12-month term deposits. This compares to 0.01% and 0.16%, respectively, for HKD deposits.
In 2011 offshore yuan bond issuance represented only 25% of the RMB deposit base in Hong Kong, suggesting that future “dim sum” bond issuance is likely to be met by investor demand. Issuance of yuan-denominated bonds in Hong Kong rose to CNH151bn in 2011 from CNH36bn in 2010.
Fitch affirmed the Long-Term IDRs of eight Hong Kong banks on 2 March 2012. We believe a competitive operating environment and the increasingly intertwined nature of the Hong Kong and Chinese markets are key risk factors. However, Hong Kong banks have generally maintained conservative collateral, capital and liquidity buffers to cope with unexpected losses.
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07 March, 2012 3:15 AM
China Energy Plan Favourable for Grid, Nuclear Companies
China’s plan to reform energy use and resource pricing has positive implications for the country’s centrally owned electricity grid and nuclear power companies. But the reforms are likely to leave thermal generators out in the cold.
In his formal report to the National People’s Congress (NPC), Chinese Premier Wen Jiabao outlined the government’s plan to optimise the country’s energy structure, promote the clean and efficient use of traditional energy sources, safely and effectively develop nuclear power, and increase the share of new energy in the country’s total energy consumption. The NPC speeches and documents underline our view that there is strong government support for China’s energy sector. Moreover, the way in which support is allocated among the centrally owned energy companies will continue to distinguish the haves – the oil, grid, nuclear and city gas companies – from the have-nots, the thermals.
The plans confirm the gradual implementation of market pricing for oil products, city gas and some electricity tariffs over 2012-2015, but leave room for the National Development and Reform Commission (NDRC) to direct the market by ad hoc adjustments, and freedom to gradually introduce market mechanisms. This means the government will continue to favour the centrally owned grid and nuclear power companies over the more fragmented thermal generators such as Huaneng International (‘BB+’/Stable), Datang International (‘BB’/Stable), China Power International Development (‘BB’/Stable), and Huadian International (‘BB-’/Stable).
The NPC documents confirm China’s commitment to “safely and effectively” developing nuclear power. We believe this is a clear vote of confidence for nuclear to be the main plank of China’s non-carbon energy drive and gain further momentum after total nuclear generation grew by 16.9% in 2011. Favourable adjustments to nuclear on-grid pricing will ensure the cash flows of the nuclear generators remain healthy, and provide support for overseas uranium acquisitions.
For thermal generators, tighter emission controls not only imply a higher capex burden, but also emphasise that coal will remain out of policy favour. Moreover, a relatively low 4% CPI target nationally will not translate into on-grid electricity tariff rises in provinces where the thermal generators produce at a loss. Nevertheless, coal will remain the backbone of China’s power generation for the foreseeable future, and the NDRC’s NPC documents make specific mention of a clean thermal power programme estimated by the Ministry of Environmental Protection to require CNY260bn of additional capex across the industry by 2015.
The pricing reforms will hold good news for oil companies over 2012-2015, even though the government will not immediately lift controls on product prices that affect the oil companies’ low refinery margins. However, as China’s refiners are fully integrated, the margin lost in the refinery can be partially made good both upstream and downstream.
Pricing reform aims to lift China’s gas tariffs to international LNG pricing levels by 2015, and so raise the margins of upstream suppliers PetroChina (‘A+’/Stable) and Sinopec (‘A’/Stable) without taking away from the healthy downstream margins of city gas companies such as China Resources Gas (‘BBB+’/Stable) and ENN Energy (‘BBB’/Rating Watch Negative). The NPC’s tighter emissions controls o
06 March, 2012 1:52 PM
Brazil’s Slowing Growth to Spur Toughened Currency Stance
Brazil’s efforts to stem further appreciation of the real (BRL) are likely to continue as economic growth rates slow and yield-seeking foreign capital flows into the country. Fitch Ratings expects the government to remain focused on the need to stimulate domestic demand as export growth remains under pressure in 2012.
With capital inflows boosting the value of the real, government policy is likely to be influenced increasingly by exchange rate considerations over coming months. Although the real depreciated significantly after reaching a peak of BRL 1.54/$ last July, the appreciation of the currency by approximately 10% since the start of 2012 is again forcing the government to step up rhetoric and tighten controls on hot money flows as the need to halt a destabilizing appreciation grows.
The BRL exchange rate, currently at about 1.75/$, could hurt export competitiveness at a time when slow external demand growth is already weakening trade and current account balances. As exports, industrial output, and GDP growth slows, the Brazilian Central Bank (BCB) may choose to continue easing monetary policy by cutting the benchmark interest rate further.
We believe the dominant theme of risk aversion in developed markets and the ongoing impact of central bank liquidity injections in Europe, the U.S., and Japan will likely stimulate a continuation of foreign capital flows into Brazil and other growing Latin American economies. In the face of ongoing exchange rate pressure, governments in these countries may be forced to consider further policy responses without ruling out stricter capital controls then those announced so far.
In Brazil, the Ministry of Finance announced last week that it would extend the 6% transaction tax on foreign loans to maturities of three years from two years. In addition, the BCB has intervened in foreign exchange markets recently to curb BRL appreciation.
Today’s release of fourth-quarter GDP growth figures indicated that the Brazilian economy grew by 0.3% compared with the prior quarter. Full-year 2011 GDP growth reached 2.7%, a sharp slowdown compared with 7.5% in 2010. Fitch expects the economy to recover slightly to 3.2% this year.
Brazil’s ‘BBB’ sovereign rating remains well supported by strong international reserves, its net sovereign external creditor position, relative fiscal stability, and a sound banking system. Thus, we continue to view Brazil’s credit profile as broadly consistent with sovereign peers rated ‘BBB’, despite clear signs of weakness in Brazil’s near-term macro outlook.
05 March, 2012 2:59 PM
AIG Sale of AIA Stake Improves Focus on Core Operations
AIG’s announced private placement of approximately $6 billion in shares of Asian life insurer AIA Group is another step towards enhancing focus on core operations and earnings as the U.S. Department of the Treasury’s interests in AIG continues to decline. Fitch Ratings expects sale proceeds will further reduce Treasury’s preferred equity interest in the special-purpose vehicle utilized by AIG to hold its AIA equity position.
We affirmed AIG’s issuer default rating (IDR) at ‘BBB’ on Feb. 3 and revised the Rating Outlook to Positive from Stable. The rating action noted that positive ratings momentum will be largely driven by a return to a core operations focus, a reduction in financial leverage, and improvements in interest coverage linked to stronger earnings performance at AIG’s insurance subsidiaries.
The Outlook revision followed recent moves to bolster the company’s liquidity position and shed noncore operations through asset sales. The AIA stake sale, scheduled to price on Tuesday, will continue this process. In addition, we expect the sale to reduce AIG’s earnings volatility in future periods.
We believe that AIG has reasonable access to public and private capital markets, a key characteristic of investment-grade rated insurance holding companies. Since December 2010, the company has raised $6.9 billion through public debt and equity offerings and entered into a $4.5 billion syndicated bank credit facility.
05 March, 2012 12:10 PM
Egypt FX Reserves Fall Slows, But Remains a Concern
The slowing pace of the fall in Egyptian foreign exchange reserves in February is encouraging, but the continuing erosion of reserves remains a source of concern.
Net official reserves were USD15.72bn at the end of last month, the Central Bank of Egypt said on Monday, representing a fall of around USD630m from January. That compares favourably with the much larger declines in preceding months, but it would be premature to interpret it as a sign that FX reserves have stabilised. The continuing fall in reserves is ratings negative.
The substantial and continuous erosion of international reserves in 2011, from USD36bn in December 2010 to just over USD20bn in November, was a major reason for our downgrade of Egypt by one notch to ‘BB-’ late last year. The Outlook is Negative.
The reserve loss was driven by a drying up of FDI and withdrawal of foreign portfolio investment following the political uprising at the beginning of the year, coupled with the central bank’s efforts to defend the Egyptian pound. The provision of external support and a turnaround in foreign investment remain critical to stabilising international reserves and the rating.
Egypt’s request for a USD3.2bn IMF standby facility in January was therefore encouraging, but as we said at the time, assistance on this scale would need to catalyse additional support from international investors to have a meaningful impact on the country’s finances. Press reports last month said that Egypt’s transitional government had announced plans to sign a loan agreement with the IMF, but the continuing absence of an agreement is negative for the rating.
The prospects for Egypt will be one of the topics discussed at Fitch’s “Middle East & North Africa Outlook: Oil in Troubled Waters” conferences being held in London, Paris, and Frankfurt this week.
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