DBRS Comments on Montepio Rating Actions

As detailed in the press release “DBRS Downgrades 31 European Banking Groups due to Removal of Systemic Support Uplift”, published earlier today, DBRS Ratings Limited (DBRS) downgraded the ratings of Caixa Económica Montepio Geral (Montepio or the Bank), including the Senior Long-Term Debt and Deposits ratings to BB (high) and the Short-Term Debt and Deposits rating to R-3. The trend on the all ratings is Negative. The downgrade reflected a change in DBRS’s support assessment for Montepio to SA-3 from SA-2, which resulted in the removal of one notch of uplift from the Intrinsic Assessment (IA) for potential systemic support. Montepio’s IA has been maintained at BB (high) and the trend on the senior debt ratings remains Negative, in line with the trend prior to the review that was initiated in May 2015. This commentary provides further background to the IA and trend.

RATIONALE FOR THE IA AND TREND:

In maintaining Montepio’s IA at BB (high), DBRS recognises the Bank’s strong, albeit relatively small, franchise in Portugal, and its resilient fundamentals throughout the challenging economic environment in Portugal, which the Bank has weathered without recourse to State capital support. The IA also considers the Bank’s long track record of consistent support from its main shareholder Montepio Geral Associação Mutualista (MGAM) and its large and loyal mutual customer base. The IA, however, also takes into account the Bank’s weakened capital levels, its high exposure to real estate and construction exposures and high level of problematic assets (credit at risk (CaR) loans and foreclosed assets (FAs)), along with its still, albeit much reduced from the peak, significant reliance on funds from the European Central Bank.
The Negative trend reflects the challenges Montepio continues to face in Portugal together with DBRS’s view that it is taking longer for Montepio to restore its fundamentals compared to larger domestic peers which benefit from greater business and geographical diversification. Core recurrent profitability, although much improved from 2014, also remains weak partly driven by the slow pace of the recovery in Portugal which is ultimately limiting the Bank’s ability to generate capital organically and its capacity to reinforce its already weakened capital levels.
RATING DRIVERS:

Some improvements were evident in 1H15, most notably with the decrease of loan impairment charges and some reduction in non-performing assets (NPAs). DBRS, however, would need a longer track record of sustained improved fundamentals, including improved operating results to stabilise the rating trend. Montepio’s ratings are currently pressured by the macro environment and the slow economic recovery in Portugal. Upward rating pressure, while unlikely in the short-term, could arise from a sustained improvement in fundamentals. In particular it will arise from improved funding and liquidity position with significantly lower reliance on ECB funds, consistent track record of sustained recurrent banking revenue generation together with a substantial reduction of NPAs and notably strengthened capital levels.

Conversely, negative pressure to the ratings could arise from persistent operating losses in its domestic operations as a result of weakening underlying earnings generation and higher than expected provisioning levels, pressuring the Bank’s capacity to generate capital organically. Downward rating pressure would also come from a slower than expected reduction of non-performing assets.

SUPPORT ASSESSMENT:

The rating action concluded the rating review initiated in May 2015 and reflected DBRS’s view that developments in European regulation and legislation mean that there is less certainty about the likelihood of timely systemic support. Countries across Europe continue to make progress in enacting the Bank Recovery and Resolution Directive (BRRD) into national legislation, including Portugal. BRRD has harmonised the approach that will be taken in the resolution of failing banks across Europe and has led DBRS to conclude that there is not sufficient certainty of support to have any uplift in the senior debt ratings of European banks. Consequently the support assessment for Montepio was changed to SA-3 (the category for banks in countries where DBRS has no expectation of systemic support or is not confident enough that timely systemic support would be forthcoming in times of need to add a notch for systemic support) from SA-2 (indicating the likelihood of timely systemic support).

Note:
All figures are in Euros unless otherwise noted.