DBRS Comments on Swedbank's 1H12 Results – Senior Unaffected at A (high), Trend Stable

DBRS Ratings Limited (DBRS) has commented today on the 1H12 and 2Q12 results of Swedbank AB (Swedbank or the Bank). Swedbank’s ratings, including its A (high) Senior Unsecured Debt & Deposits rating and its R-1 (middle) Short-Term Debt & Deposits rating, are unaffected by the results. The trend is Stable.

Swedbank’s results illustrate the Bank’s continuing momentum in a challenging operating environment. Swedbank recorded pre-impairment profits of SEK 9.4 billion for the half-year ending 30 June 2012, up 17% from 1H11 and 24% from 2H11. However, pre-tax profits for 1H12, at SEK 8.7 billion, were down 6% from 1H11, the 2011 period having benefitted from SEK 1.3 billion of net reversals on credit impairments. For 1H12, results were boosted by stronger net interest income, higher net gains on financial items at fair value, and lower expenses. Net interest income rose to SEK 10.5 billion in 1H12, up 14% from 1H11, driven by re-pricing within Swedbank’s Retail segment that helped to offset falling deposit margins, as well as the reduced cost of state guaranteed funding in 2Q12. Meanwhile, net gains on financial items at fair value, representing only 6.7% of total income, more than doubled in 1H12 to SEK 1.2 billion compared to 1H11 on the back of higher income from fixed income and currency trading. The resilience of Swedbank’s earnings was also supported by solid cost containment. Expenses for 1H12 were down 4% from the prior year to SEK 8.6 billion despite higher business volumes. Overall cost reduction remains on track for meeting Swedbank’s goal of achieving a SEK 1 billion reduction in expense run-rate by year-end 2012. The Bank’s cost-to-income ratio improved to 48% at 30 June 2012.

Demonstrating the strength of the franchise, Swedbank’s business segments continue to deliver solid earnings. The majority of businesses exhibited improving underlying performance despite the challenging economic environment. The Retail segment increased its pre-tax profit by 20% year-on-year to SEK 5.5 billion driven by mortgage and corporate credit re-pricing, and realising the Bank’s investment in technology to boost wallet penetration. Within LC&I, pre-tax profits in 1H12 were 12% lower than in 1H11 at SEK 2.0 billion. However, adjusting for the one-off gain on the Bank’s settlement with the Lehman Brothers bankruptcy estate in 1H11, pre-tax profit for 1H12 would have been 31.7% higher. In Swedbank’s Baltic Banking segment, lower market rates led to a 10% year-over-year decline in 1H12 pre-tax profits to SEK 2.0 billion, while the pace of net reversals of credit impairments slowed. Earnings trends remain stable in the Asset Management segment.

Swedbank’s results indicate improving asset quality metrics. Bank-wide credit impairments totalled SEK 472 million in 1H12, or 0.09% of total lending. Credit losses in the Retail segment, which represents 77.5% of the loan book, remain very low at 0.04%. The Baltic Banking segment, which had been the source of outsized credit impairments in the past, continues to experience net reversals. Swedbank’s Ukrainian operations were the largest source of credit impairments in 1H12. Although management has already sold off portions of the Ukrainian retail portfolio in 2Q12, management has noted that the current debt crisis has made it difficult to exit the market without incurring further costs. Given that the Ukrainian lending book represents 0.25% of total lending, DBRS expects Swedbank to readily absorb a brief period of elevated credit impairments.

At 30 June 2012, non-performing loans represented 1.7% of loans to the public (excluding loans to credit institutions and repurchase agreements), down from 2.7% a year earlier. DBRS sees the improvement in credit performance as reflecting the impact of Swedbank’s actions taken over the last two years to limit exposures to more volatile regions, especially the Baltics. In addition to management’s increased focus on managing and reducing credit risk, the relatively strong economic performance of the countries within Swedbank’s operating footprint, and improved economic situation in the Baltic States, have positively impacted credit performance. However, DBRS comments that the economic uncertainty resulting from the crisis in the Euro zone has slowed economic growth in several of these countries. As such, DBRS remains cautious.

DBRS views Swedbank’s funding and liquidity profile as stable. The Bank has enjoyed good access to the funding markets despite challenging conditions. To this end, during 1H12, Swedbank issued SEK 97 billion in long-term debt during 1H12, of which covered bonds represented SEK 50 billion. For 2012, the bank has an unusually low long term refinancing requirement compared to recent years. As a result, Swedbank had covered 85% of its full 2012 funding requirement at the half year. At 30 June 2012, wholesale sourced funding accounted for 62.5% of the total funding base, which includes a substantial portion of covered bond funding. Excluding covered bonds, wholesale funding reliance would be a manageable 27.0%. Swedbank’s liquidity position is bolstered by its core liquidity reserve of SEK 214 billion, which is more than sufficient to cover the Bank’s short-term funding needs of SEK 122 billion. Swedbank estimates its Basel III liquidity coverage ratio to be 152% at 30 June 2012.

Capitalisation remains solid with a Tier 1 capital ratio of 18.2% and a Core Tier 1 capital ratio of 16.6%. The regulatory capital ratios were boosted by a FSA-approved model update for SME exposures, which reduced risk weighted assets by SEK 6.5 billion from year-end 2011, and solid organic capital generation. Based on its interpretation of future Basel III regulations, Swedbank estimates its Basel III Core Tier 1 capital ratio to be 15.5% as of 30 June 2012, well above Swedish regulatory requirements. Given the Bank’s solid underlying earnings generation ability, sound credit performance, improving funding and liquidity profile, and sound capitalisation, DBRS views Swedbank as well-positioned for expected changes in the regulatory environment.

Notes:
All figures are in SEK unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organisations. Other methodologies used include the DBRS Criteria – Intrinsic and Support Assessments. Both can be found on the DBRS website under Methodologies.

The sources of information used for this rating include publicly available company documents and SNL Financial. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

Lead Analyst: Peter Burbank
Approver: William Schwartz
Initial Rating Date: 18 December 2009
Most Recent Rating Update: 24 April 2012

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