DBRS Confirms Caixa Económica Montepio Geral at BBB (low), Negative Trend

DBRS Ratings Limited (DBRS) has today confirmed the ratings of Caixa Económica Montepio Geral (Montepio or the Bank) and associated entities, including Montepio’s Senior Long-Term Debt & Deposit rating at BBB (low) and Short-Term Debt & Deposit rating at R-2 (low). The trend on all ratings is Negative. At the same time, Montepio’s intrinsic assessment (IA) remains at BB (high). See full rating actions at the end of this comment.

In confirming the IA, DBRS recognises Montepio’s strong albeit relatively small franchise in Portugal, the Bank’s improved funding mix, and strengthened capitalisation backed by continued support from Montepio Geral Associação Mutualista (MGAM). However, the IA also takes into account the Bank’s high exposure to real estate and construction sectors which partly drives Montepio’s high level of credit at risk loans and foreclosed assets. The IA also considers Montepio’s high reliance on European Central Bank (ECB) funds, the Bank’s weak financial flexibility and its geographic concentration in Portugal, which limits the diversity of its revenues.

By confirming the Negative trend, DBRS highlights that Montepio continues to be challenged to sustain underlying operating revenues and control asset quality deterioration in the still fragile operating environment. The Bank started to report profits during 2014, although net income was low and mostly sustained by large capital gains from the sale of Sovereign debt portfolios and carry trade gains. Banking revenues remained relatively weak and continued to be pressured by asset quality deterioration via elevated credit impairments. Under the current fragile economic conditions, DBRS expects that profitability will remain negatively affected by still high credit impairments, particularly considering the Bank’s high concentration in real estate and construction. These sectors have suffered more from the economic downturn. Under the low interest rate environment, and with very weak demand for credit in Portugal, DBRS considers that it will be key for Montepio to reduce operating costs to compensate for expected modest banking revenues.

Ratings could be downgraded if operating profitability does not improve in the next quarters through higher banking revenues, particularly interest income related, reduction of operating costs and lower credit provisions. There could also be negative rating pressure if credit-at-risk loans and foreclosed assets are not reduced. Conversely, the trend on the Bank’s ratings could be changed to Stable from Negative if Montepio manages to reduce significantly the level of total credit-at risk-loans and foreclosed assets. Upward rating pressure, while unlikely in the short-term, could arise from significantly lower reliance on ECB funds, significant improvement on recurrent banking revenue generation and improved capital levels.

DBRS views Montepio as a Systemically Important Bank (SIB) in Portugal. As the savings bank of the country’s largest mutualistic organisation, MGAM, Montepio provides financial services to a broad base of retail customers while continuing to build its corporate customer base, primarily with SMEs. Further, as a provider of deposits and mortgage loans, significant distress for Montepio, if not addressed promptly, could materially affect Portugal’s financial system. Consequently, DBRS maintains its SA-2 support assessment for Montepio, which indicates an expectation of timely systemic support, if needed. The SA-2 designation results in a one-notch uplift from the IA of BB (high) to the final rating of BBB (low), which is at the same level as the long-term debt rating of the Republic of Portugal.

Underpinning Montepio’s IA is its solid domestic franchise in Portugal. The Group has been able to sustain overall market share throughout the Portuguese sovereign and banking turmoil at 6.6% for total loans. Meanwhile, benefitting from its mutualistic origins and savings orientation, the Group has a 7% market share of total deposits.

Montepio reported net income of EUR 23 million in 9M14 after reporting losses in 2013. Net interest income benefitted in 9M14 from lower funding costs and some contributions from the bank’s large Sovereign debt portfolio. Provisions were higher than the same period the year before but DBRS notes that a significant part of the increase in provisions in 9M14 come from one-off impairments on exposures from the Espírito Santo Group. DBRS expects that profitability will likely benefit in 2015 from lower provisions as the Bank and its customers start to benefit from economic improvements.

Asset quality remains, in DBRS’s view, a key challenge for Montepio. Credit-at-risk loans, calculated as total credit and interest past due, other restructured credit and insolvent/bankrupt credits, weakened, largely driven by the Group’s high concentration to real estate and construction loans which have suffered more from the economic downturn. The credit-at-risk ratio was 13.8% at end-September 2014, which DBRS views as high, but adequately provisioned at around 60%, particularly considering that Portugal did not experience a real estate bubble.

DBRS considers Montepio has a satisfactory funding mix. Montepio has improved its funding structure since 2011 benefitting from growth in customer deposits. The net loans to deposits ratio reached 110% at end-September 2014, which is better than the recommended regulatory 120% ratio. However, DBRS notes that Montepio remains reliant on ECB funding, which accounted for EUR 2.2 billion at end-September 2014 and around 10% of total assets. Positively wholesale funding maturities are small and the Bank has unencumbered liquid assets that represents around 8.4% of total assets at end-September 2014 (after haircuts). DBRS notes that liquid assets largely cover total wholesale funding needs.

DBRS sees Montepio’s capitalisation as satisfactory in view of strong loan loss coverage levels. Montepio’s Basel III phase–in Common Equity Tier 1 (CET1) capital ratio was 10.6% at end-September 2014. At the same time DBRS notes that Montepio has not needed support from the State to meet Bank of Portugal capital requirements as capital levels have regularly been supported by MGAM capital injections. The latest MGAM capital injection of EUR 205 million was completed in 2013. At end-2013, Montepio also issued Unidades de Participação (UPs), a CET1 instrument which was subscribed to by the Bank’s retail customers. As a result of these issuances, MGAM now holds 88% but retains management control. DBRS sees the issues of UPs as adding capital diversification to Montepio’s capital base but also that they increase reputational risk, as these instruments were distributed through the retail network.

Although MGAM and Montepio no longer operate under the same Board of Directors, they do share the same Chairman and strategic objectives. Therefore, DBRS expects that Montepio will continue to benefit from MGAM’s willingness and ability to provide support as needed.

Notes:
All figures are in EUR unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organisations (June 2014). Other applicable methodologies include the DBRS Criteria: Support Assessment for Banks and Banking Organisations (January 2014) and DBRS Criteria: Rating Bank Capital Securities – Subordinated, Hybrid, Preferred & Contingent Capital Securities (December 2013).These can be found can be found at: http://www.dbrs.com/about/methodologies

The sources of information used for this rating include company reports, the European Central Bank, European Banking Authority, Bank of Spain and SNL Financial. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

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: Maria Rivas
Rating Committee Chair: Roger Lister
Initial Rating Date: June 27, 2011
Most Recent Rating Update: June 27, 2013

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