DBRS Confirms Svenska Handelsbanken AB at AA (low), Trend Stable

DBRS Ratings Limited (DBRS) has today confirmed the ratings of Svenska Handelsbanken AB (SHB or the Bank), including the Bank’s Senior Unsecured Debt & Deposits rating of AA (low), its Short-Term Debt & Deposits rating of R-1 (middle) and the Intrinsic Assessment (IA) of A (high). The trend on both the long-term and short-term ratings remains Stable. DBRS maintains a Support Assessment of SA-2 for SHB reflecting DBRS’s expectation that some form of timely systemic support would be provided to the Bank, if needed, and as a result the AA (low) senior ratings are positioned one-notch above the IA.

The confirmation of SHB’s ratings reflect the strong franchise in Swedish banking, its solid capital position and its conservative credit culture, as well as the strong earnings generation capacity and the Bank’s track record. The ratings also consider the Bank’s funding and liquidity profile, which, while diversified geographically, has a concentration in wholesale funding, especially covered bonds, that leads to a relatively high level of encumbered assets. The Stable trend reflects DBRS’s expectations that the Bank will continue to enjoy the benefits of its conservative credit culture, its ample earnings generation ability and its solid capitalisation.

SHB has a strong domestic franchise in Sweden and DBRS views this as a key factor in the ratings. The Bank’s leading position in Swedish banking has been complemented in recent years by the growing presence outside of Sweden where the Bank operates full-service branch networks in Finland, Norway, Denmark, Netherlands and the United Kingdom (UK). While the Bank’s market shares in most of these countries remain modest, non-Swedish branch operations have been an important growth driver in recent periods.

DBRS considers SHB's earnings power as strong and the Bank has reported impressive levels of profitability throughout the financial crisis, benefitting from both the relatively stable operating conditions in its core markets, particularly Sweden, and from its traditional operating values, which have led to strong credit performance and therefore low impairment charges. Importantly the Bank has not reported a loss in any period during the crisis. In 2013 SHB reported income before provisions and taxes (IBPT) of SEK 19.3 billion, up 5% on 2012, and net profit of SEK 14.3 billion, an increase of 2% on 2012. The Bank’s IBPT is driven primarily by the Swedish Branch operations division that in 2013 accounted for 69% of operating profit. This reflects the strong franchise that the Bank has domestically, but also the excellent credit quality that has kept impairment charges low. All of the other operating divisions are also profitable, with the branch operations in Norway and the UK being the largest contributors to operating profit.

SHB has a well-managed and diversified liquidity and funding profile. However DBRS notes that the Bank’s funding profile, like its Nordic peers, relies on capital market funding sources, particularly Swedish covered bonds, to a higher degree than many European peers and this leads to a relatively high level of encumbered assets. At end-2013 Swedish covered bonds accounted for 24% of the Bank’s total funding and customer deposits accounted for 38%. DBRS also notes that the Bank’s usage of short-term funding is relatively high with the SEK 304 billion of outstanding commercial paper at end-2013 accounting for 26% of the total bonds issued by the Bank. Although DBRS has concerns regarding such high levels of short-term funding it is mitigated to a certain degree by the size of the Bank’s liquidity reserve which at end-2013 totalled SEK 460 billion. Including the ability to issue further covered bonds at Stadshypotek (the Bank’s mortgage subsidiary) the total liquidity reserve would increase to over SEK 800 billion. Although DBRS recognises the strength of the covered bond market in Sweden, DBRS continues to view the high usage of wholesale funding as a potential vulnerability.

SHB maintains a conservative risk culture that has historically led to below-average loan losses. As a result SHB’s overall asset quality remains extremely good with impaired loans and impairment charges remaining at very low levels, and this is a key underpinning in the ratings. SHB’s overall sound credit quality benefits from the large portion of traditional household mortgages that have historically shown very low losses. At end-2013, the SEK 720 billion residential mortgage portfolio represented 42.4% of the total loan book. Credit quality remains extremely good with an overall impaired loan ratio of 0.41%, and an impaired ratio of only 0.23% in Sweden. The largest segment exposure of the Bank, outside of residential mortgages, is to property management, which at end-2013 totalled SEK 462 billion or 27% of the total loan book. To date loan impairments have been extremely low as a result of the strong performance of the book, however DBRS views managing the exposure to this sector as a key challenge facing SHB.

SHB has a strong capital position with, at end-2013, a fully-loaded Basel III common equity tier 1 (CET1) ratio of 18.9%. DBRS notes that, although the Bank benefits from the low risk-weighting of mortgage assets, it is well placed to cope with a potential increase in the risk weighting of mortgages to 25%, under Pillar 2, as currently being discussed by the Swedish authorities.

Given the high rating level any upward pressure would require a reduction in the level of wholesale funding, while maintaining (i) low levels of credit losses, especially in the property management portfolio, (ii) solid and predictable underlying profitability, and (iii) continued sound capital management. Negative rating pressure would likely be driven by further encumbering of the balance sheet, or a substantial deterioration in asset quality measures, a weakening of underlying profitability, or a reduction in liquidity or capital.

Notes:
All figures are in Swedish krona (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: Support Assessment for Banks and Banking Organisations and DBRS Criteria: Rating Bank Capital Securities – Subordinated, Hybrid, Preferred & Contingent Capital Securities. All can be found on the DBRS website under Methodologies.

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

This is an unsolicited rating. This credit rating was not initiated at the request of the issuer.

DBRS does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

Generally, the conditions that lead to the assignment of a Negative or Positive Trend are resolved within a twelve month period. DBRS’s outlooks and ratings are under regular surveillance.

For further information on DBRS historic default rates published by the European Securities and Markets Administration (“ESMA”) in a central repository, see:
http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

Ratings assigned by DBRS Ratings Limited are subject to EU regulations only.

Lead Analyst: Ross Abercromby
Rating Committee Chair: Roger Lister
Initial Rating Date: December 7, 2009
Most Recent Rating Update: December 7, 2012

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For additional information on this rating, please refer to the linking document located at: http://www.dbrs.com/research/236983/banks-and-banking-organisations-linking-document.pdf

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