DBRS Confirms “A” Floor Ratings on Sparkassen-Finanzgruppe with Stable Trend

DBRS Ratings Limited (DBRS) has today confirmed the ratings for Sparkassen-Finanzgruppe (DSGV, the Association or the Group). The trend on all ratings is Stable.

The Group’s Issuer Rating and Senior Long-Term Debt Rating is “A” and its Short-Term Instruments rating is R-1(low). These ratings also apply to each member of Sparkassen-Finanzgruppe’s Institution Protection Scheme which as of February 2017 includes 396 German savings banks, the seven Landesbanken, eight public-sector building societies (LBS), the Group’s central asset manager DekaBank and other specialised service providers. The floor ratings indicate that each member of the Institution Protection Scheme’s Issuer Ratings are generally rated at the floor level with the Senior Long-Term Debt also being rated “A” and Short-Term Instruments R-1 (low); however, this does not prevent members from either potentially achieving higher individual ratings based on their individual credit assessment or receiving a lower rating if there is an increased likelihood of departure from the Sparkassen-Finanzgruppe. The stable trend on the floor ratings reflects DBRS’s expectation that the strengths of the Sparkassen Finanzgruppe’s franchise and financial profile will be maintained.

The floor ratings are based on the depth and resources of the Institution Protection Scheme and the additional support for the Group’s members from their public owners (Träger). In DBRS’s view, the Institution Protection Scheme of Sparkassen-Finanzgruppe reduces the default risk for each individual member, because the Scheme makes financial resources available to each institution within the Group. However, DBRS recognises that the Institution Protection Scheme has limitations, as it does not amount to a legal cross-guarantee.

The ratings consider the underlying earnings potential and the solid franchise of the savings banks and the overall importance of the Group to the German banking sector. Offsetting these rating strengths are the riskier funding profile and weak overall earnings of several Landesbanken that are a meaningful part of the Group, as well as the high level of competition in the savings banks’ core business of German retail banking.

At its core, the floor ratings reflect the overall franchise strength of the Sparkassen-Finanzgruppe. Sparkassen-Finanzgruppe’s aggregated balance sheet of EUR 2.16 trillion makes the Group of vital importance for the German economy. Approximately three quarters of all German businesses have a banking relationship with the Group. With 47.5 million current accounts, approximately 60% of Germany’s population is banking with the Group. DBRS sees the Group’s overall franchise strength as benefitting from the solid positioning and cooperative strategy of the savings banks.

The Sparkassen-Finanzgruppe does not produce audited consolidated financial statements under IFRS but provides aggregated numbers on the basis of local GAAP (HGB accounting rules). In 2015, the most recent year for which aggregate data is available, Sparkassen-Finanzgruppe recorded net income of EUR 2.88 billion million compared to EUR 192 million in 2014 and EUR 1.6 billion in 2013. The stronger results in 2015 were driven by the absence of extraordinary items at certain Landesbanken, which impacted the aggregate results of the Group in the previous year.

In 2016 (based on 2016 preliminary, aggregated and largely unaudited figures under German HGB accounting standards), the Sparkassen felt the pressures from the low interest rate environment more intensely with net commission income increases unable to compensate for the decrease in net interest income, which remains by far the biggest revenue source for the Sparkassen. Net interest income decreased by 3.7% and was EUR 22.2 billion as of YE2016. Net fee and commission income increased by 3.1% in YE2016 (5.1% in YE2015) and was EUR 7.2 billion. The overall cost base decreased by 1% to EUR 38.4 billion driven by decreasing administrative expenses and lower staff costs reflecting a lower headcount.

The Sparkassen posted in FY2016 a relatively stable Income Before Provisions and Taxes (IBPT or operating result before revaluation) at EUR 10.4 billion in 2016 vs EUR 10.8 billion in 2015 reflecting mainly pressures in net interest income (EUR -800 million), balanced by lower overall costs, despite increased bank levy contributions of EUR 131 million (up by EUR 31 million year-on-year). Due to the benign domestic economic environment the credit charges were zero. The Sparkassen continued the increase of their reserves with a net addition of EUR 4.4 billion in 2016 (vs EUR 3.8 billion in the previous year). Net income was flat at EUR 2 billion as of year-end 2016.

DBRS expects margin erosion to continue in 2017 and that margins could remain at low levels for a prolonged period of time. However, low credit charges, delayed and diluted Basel IV rules and a significant amount of silent reserves provide transition buffers for the Sparkassen.

In DBRS’s view, the overall risk profile of Sparkassen-Finanzgruppe has improved with the deleveraging of the Landesbanken and is now less impacted by the higher volatility of their earnings, despite the ongoing burden of legacy issues at some Landesbanken. Given the geographic concentration in Germany, Sparkassen-Finanzgruppe is exposed to the German economic and credit cycle.

The strength of the Sparkassen-Finanzgruppe’s overall liquidity and capitalisation are also considered in the ratings. The strong deposit base and sound liquidity of the savings banks is in part offset by the more wholesale- oriented funding profile of the Landesbanken. Nonetheless, the Landesbanken benefit from sizeable deposits from savings banks. In DBRS’s view, this reduces potential demands on the Institution Protection Scheme and adds to the satisfactory evaluation for liquidity across the Group. Likewise, capitalisation remains adequate in DBRS’ view. The savings banks reported a Tier 1 capital ratio of 15.2% (14.8 % in 2015) and a total capital ratio of 16.9% (16.7% in 2015) at year-end 2016.

In DBRS’s view, the Sparkassen-Finanzgruppe continues to face several challenges. These include i) the transition of the savings banks from the very challenging for their retail-oriented business models environment of low-yields towards a more normalised interest rate environment; insulating especially smaller and mid-sized savings banks from interest rate risk will remain key, ii) defending the still dominant position of savings banks in German retail banking while also maintaining margins and solid profitability by improving distribution efficiency, rightsizing the branch network and promoting digitalisation and iii) continuing the de-risking and deleveraging process at the Landesbanken. In addition, the Group needs to adapt to the ever-changing regulatory environment.

While DBRS sees the Group as a whole as generally well-positioned to adapt to future challenges, the mix of increasing competition, higher regulatory requirements, increased interest rate risk and a potential turning of the credit cycle in Germany could present problems at the level of individual institutions. The lower likelihood of external support after the implementation of the BRRD could potentially pose challenges for Sparkassen-Finanzgruppe’s larger and less risk averse members such as the Landesbanken.

RATING DRIVERS
Upward rating momentum is unlikely in the medium-term, although DBRS views positively the continued de-risking at the Landesbanken and ongoing efforts to strengthen the resources available to the Institution Protection Scheme.

Negative rating pressure could result from any indication of weakening of the Scheme and/or any deterioration in the core franchise of the savings banks.

Notes:
All figures are in Euros unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organisations (July 2016). Other applicable methodologies include the DBRS Criteria: Support Assessments for Banks and Banking Organisations (March 2017), DBRS Criteria: Rating Bank Capital Securities – Subordinated, Hybrid, Preferred & Contingent Capital Securities (February 2017).These can be found can be found at: http://www.dbrs.com/about/methodologies

The sources of information used for this rating include SNL Financial and company reports. 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: George Yiannakis, Vice President, Global Financial Institutions Group
Rating Committee Chair: William Schwartz, Senior Vice President, Global Credit Policy
Initial Rating Date: January 18, 2007
Most Recent Rating Update: April 16, 2016

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