DBRS Comments on HSBC Holdings plc 3Q11 Results, Senior at AA (high), Trend Stable

DBRS Inc. (DBRS) has today commented that the ratings of HSBC Holdings plc (HSBC or the Group), including its AA (high) Issuer and Long-Term debt ratings and its R-1 (high) Short-Term rating, remain unchanged following the release of the Group’s results for the three months ending 30 September 2011. The trend on all ratings is Stable.

For 3Q11, HSBC reported a pre-tax profit of $7.2 billion, doubling the profit before tax generated a year ago, driven by $4.1 billon of favourable movements in the fair value of own debt. On an underlying basis, which excludes foreign currency movements, acquisition and disposals of businesses, and marks related to movements in the fair value of its own debt, HSBC’s profit before tax declined 36% year-on-year to $3.0 billion in 3Q11. Underlying results for the quarter were impacted by lower revenues in Global Banking and Markets (GBM), an adverse movement in non-qualifying hedges of $1.3 billion, and an increase in impairment charges primarily in North America. Loan impairment charges and other credit risk provisions increased 35% quarter-on-quarter and 24% year-on-year to $3.9 billion, though they remain 14% lower for the nine month period ending 30 September 2011 as compared to 2010. The increase mainly was in the run-off portfolio in North America, reflecting higher delinquency rates, deteriorating roll-rates, and increased severity given higher costs to secure collateral. Although third quarter results were negatively impacted by the volatile and unsettled macroeconomic environment, DBRS still considers HSBC’s results as demonstrating the resilient and significant earnings generation power of the franchise. Moreover, DBRS sees the quarterly results as illustrating the benefits of the Group’s diverse global franchise with all customer groups and regions reporting a profit before tax, except North America.

HSBC has made solid progress towards the strategic goals the Group put forth in May 2011. The three major objectives of this plan include deploying capital more efficiently, improving cost efficiency and targeting growth in selected markets within the Group’s footprint. To that end, HSBC increased quarterly net operating income before impairment charges and other credit risk provisions by more than 20% year-on-year in Asia and Latin America as a result of good asset growth particularly in Commercial Banking and GBM. Regarding capital allocation, the Group has advanced the reshaping of the business portfolio announcing 14 transactions in the year, including 11 during 3Q11 alone. Importantly, in the U.S., the Group has announced the sale of 195 non-strategic branches, largely in upstate New York, and its U.S. Cards business. Although DBRS acknowledges the continued evolution and the early stage in this process, DBRS views HSBC’s ability to ultimately capture the full benefits of successfully executing the strategic plan as a longer-term process.

By customer group, all segments, except Commercial Banking, reported reduced profits before tax (PBT) in 3Q11, reflecting the impact of the challenging market conditions. Importantly however, each segment’s results evidenced an early positive impact from the strategic plan. Commercial Banking’s PBT for the quarter increased 27% year-on-year to $1.9 billion as the Group continues to invest in the business to benefit from the diverse geographic footprint and position in faster growing markets. Similar to its global peers, Global Banking and Market’s (GBM) results declined owed to the challenging trading environment, widening credit spreads, uncertainty regarding the Eurozone and higher credit costs. For the quarter, GBM reported a 53% (year-on-year) decrease in PBT to $1.0 billion. However, Foreign Exchange, Equities, Payments and Cash Management and Securities Services reported solid revenue growth reflecting the investment in these businesses. For the three months ending 30 September 2011, PBT in Retail Banking and Wealth Management (RBWM) declined 72% year-on-year to $224 million largely attributed to the aforementioned increase in impairment charges and a loss related to fair value movements on non-qualifying hedges. Nonetheless, the Group has made good progress repositioning the segment with good revenue growth from priority markets, including wealth management products, particularly Asia. Global Private Banking’s third quarter results declined 9% year-on-year to a PBT of $248 million. Results were impacted by foreign currency movements and higher operating expenses as investments to expand the business more than offset higher net fee income. DBRS views the segment level results as demonstrating the benefits of HSBC’s broad offering of products and services to its global client base and the diverse revenue stream this affords the Group.

HSBC’s financial risk profile remains strong, anchored by a well-managed funding and liquidity profile, as well as a solid capital base. Funding is underpinned by its substantial and geographically diverse deposit base. Total deposits declined 4% in the quarter to $1.3 trillion owed to foreign exchange differences, reclassification of deposits associated with the U.S. branch sale and lower repo balances. Core customer deposits, however, increased in 3Q11 and continue to exceed the growth in the lending book. As a result, even with good underlying loan growth, HSBC’s loan-to-deposit ratio remains a very sound 75.9%. Regarding capital, HSBC’s Core Tier 1 ratio declined 20 basis points in the quarter to 10.6%. RWAs were broadly stable but Core Tier 1 capital was negatively impacted by foreign exchange movements, which offset profit retention. Given the strength of HSBC’s capital generation ability and its solid capital position, DBRS sees HSBC as well-positioned to meet regulatory changes impacting capital and liquidity.

Notes:
All figures are in USD unless otherwise noted.

The applicable methodologies are Global Methodology for Rating Banks and Banking Organisations and Enhanced Methodology for Bank Ratings – Intrinsic and Support Assessments, which can be found on the DBRS website under Methodologies.

The sources of information used for this rating includes company documents. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

This commentary was disclosed to the issuer and no amendments were made following that disclosure.

This credit rating has been issued outside the European Union (EU) and may be used for regulatory purposes by financial institutions in the EU.

Lead Analyst: Steven Picarillo
Approver: Alan G. Reid
Initial Rating Date: 16 May 2001
Most Recent Rating Update: 28 January 2011

For additional information on this rating, please refer to the linking document under Related Research.