DBRS Comments on Hypo Real Estate Results, Soffin Support – Senior at A (low), Under Review-Positive

DBRS has today commented that its ratings for Hypo Real Estate Holding AG (Holding) and related entities (together, HRE or the Group) remain unchanged, following the Group’s interim results for the nine months ending September 2009 and additional support from the German Financial Market Stabilisation Fund (Soffin). DBRS maintains Senior Unsecured Long-Term Debt ratings of A (low) and Short-Term Debt ratings of R-1 (low) for Holding and related entities. All ratings remain Under Review with Positive Implications.

HRE reported a pre-tax loss of EUR 709 million for Q3 2009, wider than the EUR 664 million pre-tax loss in the prior quarter. Income before provisions for loan losses and taxes of EUR 101 million in Q3 2009 was down from EUR 217 million in Q2 2009, as further write-downs on structured securities and the cost of ongoing liquidity support impacted results. Loan loss provisions of EUR 810 million in the quarter reflected continued weakness in HRE’s concentrated commercial real estate (CRE) portfolio and credit deterioration in a part of its infrastructure finance portfolio. Loan loss provisions are still elevated, although provisions were down 8% from the prior quarter, as growth in problem loans slowed during the quarter.

However, HRE recorded a narrower pre-tax loss of EUR 1.8 billion for the first nine months of 2009, after an outsized loss of EUR 2.9 billion in the year-ago period, which was impacted by a large goodwill write-down. Importantly, operating revenues in the nine-month period improved markedly to EUR 512 million, compared to EUR 75 million in the year-ago period. Revenues were supported by higher net interest income and reduced losses from trading and financial investments. Nevertheless, DBRS notes that HRE’s pre-provision, pre-tax earnings remain inadequate to absorb the burden from elevated loan loss provisions, which rose sharply to EUR 1.9 billion in the nine months ending September, compared to EUR 247 million a year earlier. Elevated credit costs, liquidity costs and restructuring expenses will continue to pressure HRE’s earnings generation ability. The Group itself does not expect to return to profitability before 2012.

The German government, through the Financial Market Stabilisation Fund (Soffin) continues to demonstrate its support for HRE. Since assuming control in October, Soffin has announced its decision to provide a further EUR 3 billion in capital to HRE, in addition to the approximately EUR 3 billion already provided. Moreover, Soffin confirmed its intention to ensure an adequate capitalisation of the Group, which could require further capital.

The additional capital from Soffin will increase the capital buffers of Holding and its bank subsidiaries Deutsche Pfandbriefbank AG (Pfandbriefbank) and DEPFA BANK plc (DEPFA). Following the anticipated capital injection, Holding is expected to reach a pro-forma Tier 1 capital ratio of 9.7% under Basel II (based on 30 September 2009, excluding the nine-month loss). The expected pro-forma Tier 1 ratio for Pfandbriefbank is 7.3% and for DEPFA, 7.1%. Although DBRS views the announced capital measures as a demonstration of ongoing support, DBRS still views HRE’s capitalisation as inadequate, considering its risk exposure and negative operating performance. More than half of Soffin’s announced EUR 3 billion injection will be eroded by the EUR 1.8 billion net loss for the first nine months 2009.

Soffin also extended EUR 52 billion of liquidity guarantees for HRE through 30 June 2010, ensuring liquidity support. While the Group continues to depend on external liquidity support, DBRS recognises HRE’s gradual progress in regaining access to funding markets. HRE’s subsidiary Pfandbriefbank successfully issued a five-year EUR 1.5 billion mortgage Pfandbrief in September and a ten-year EUR 1 billion public-sector Pfandbrief in October, marking the Group’s first public debt issuances for more than a year. HRE also reported moderately improving access to bank lines and private placements of debt.

DBRS continues to monitor how HRE’s restructuring plan is implemented. A level of uncertainty remains about the form and cost of the restructuring, which remains subject to ongoing EU proceedings. The ratings remain underpinned by the strong support from the German government, which results in a significant rating uplift from the Group’s weakened intrinsic profile. Positive ratings momentum could result, if HRE improves its underlying earnings ability and franchise strength, while also bolstering capital and liquidity. While not expected, indications of reduced government support would cause significant negative ratings pressure.

Notes:
This is a public information rating.

All figures are in Euros unless otherwise noted.

The applicable methodologies are Analytical Background and Methodology for European Bank Ratings, Second Edition, and Enhanced Methodology for Bank Ratings – Intrinsic and Support Assessments which can be found on our website under Methodologies.

This is a Corporate (Financial Institutions) rating.