Morningstar DBRS Upgrades Bermuda to A (high), Changes Trend to Stable

DBRS, Inc. (Morningstar DBRS) upgraded Bermuda's Long-Term Foreign and Local Currency - Issuer Ratings to A (high) from "A". At the same time, Morningstar DBRS upgraded Bermuda's Short-Term Foreign and Local Currency - Issuer Ratings to R-1 (middle) from R-1 (low). The trend on all ratings have returned to Stable from Positive.

KEY CREDIT RATING CONSIDERATIONS

The upgrade reflects Morningstar DBRS's view that Bermuda's robust growth outlook and steady improvement in public finances have strengthened its credit quality. The Bermudian economy grew strongly in the years after the pandemic shock, bolstered by strong performance in the international business sector and a steadily recovering tourism industry. At the same time, Bermuda's fiscal deficit has declined from an average of 3.5% of GDP between FY 2012/13 to FY 2016/17, to an average of 0.4 % over the last 4 years. The government is expected to improve upon the balanced budget in FY 2024/25, the first in two decades, to reach a small surplus of 0.4% in FY 2025/26. The public debt ratio has gradually declined to 35% of GDP in 2024, after peaking at 46% in 2020. New corporate income tax revenues will further support public finances, with the government's conservative estimates of full-year receipts reaching around 6% of GDP in FY 2026/27 and enhance the government's financing flexibility. The credit rating action reflects improvements in the "Debt and Liquidity" building block. Furthermore, the government's prudent medium-term fiscal strategy with regards to corporate income tax receipts should aid the country in diversifying the economy, responding to aging demographics and rising healthcare costs, and managing the effects of climate change.

Bermuda's A (high) credit ratings are supported by the country's high GDP per capita, strong fiscal track record, and stable political environment. Per capita income in Bermuda is among the highest in the world, in part due to its outsized role in the global insurance/re-insurance sector. Effective public institutions, stable domestic politics, and a legal system based on English common law all increase Bermuda's attractiveness as an international financial center. The two major parties, the PLP and the OBA, broadly agree on the direction of macroeconomic policies. In Morningstar DBRS' view, these strengths counterbalance the credit challenges associated with the country's very small and relatively concentrated economy, as well as its limited monetary flexibility due to the pegged exchange rate.

CREDIT RATING DRIVERS

The credit ratings could be upgraded if Bermuda makes progress in diversifying the economy and improves its resiliency to external shocks. The credit ratings could be downgraded if (1) the fiscal position deteriorates significantly; or (2) an adverse shock to the international business sector occurs, especially for the international insurance and re-insurance activities, which weakens economic growth prospects.

CREDIT RATING RATIONALE

Bermuda's Strong Fiscal Performance Expected to Continue, Aided by High Projections of Corporate Income Tax Receipts

Bermuda's track record of prudent fiscal policy is a key credit strength. The fiscal deficit has been shrinking since 2013, although the pandemic-related measures briefly caused the deficit to rise to 2.7% of GDP. Stronger-than-expected payroll tax receipts in recent years, coupled with limited growth in expenditures, have enabled the government to close the gap. After achieving a balanced budget in FY 2024/25, the government is projecting a small surplus for FY 2025/26, estimated at around 0.4% of GDP. The budget for FY 2025/26 also includes the first payments from the corporate income tax, due August 2025, as well as initial expenditures towards implementing universal healthcare. Furthermore, the government has targeted a 39% increase to capital expenditures. Although the government has become more effective at executing targeted capital expenditures, the government could face implementation challenges.

The new corporate income tax will provide a boost to fiscal revenues in the near term. The 15 percent corporate income tax (CIT), a level in line with the OECD/G20's global minimum tax, took effect in January 2025, with initial payments expected in August 2025. According to the government's conservative estimates, Bermuda could receive 600 million dollars annually in corporate tax receipts (a little over 6% of 2024 GDP). However, uncertainties remain around the CIT, such as the scale of receipts, potential offsetting tax credits, and the broader planned tax reform. Additionally, government revenues are increasingly reliant on the international business sector. The government has reduced payroll taxes four times since taking office in 2017, with the bulk of the savings aimed towards the lower income bands, local businesses, and self-employed farmers and fishermen. The government has also reduced customs taxes for certain goods. As a result, the share borne by high-income earners, generally employed by the international business sector, has been increasing, which could leave public finances vulnerable should the sector decline or relocate to another jurisdiction. These considerations are taken into account in Morningstar DBRS's negative adjustment to the `Fiscal Management and Policy' building block assessment.

Bermuda's credit profile is supported by its low level of government debt. The government debt ratio is projected to slowly decline over the next several years, even before accounting for potential effects of the new corporate income tax, due to solid economic growth and the government's success in consolidating fiscal accounts. After peaking at 46% in 2020 (BMD 3.4 billion), the government gross debt ratio declined to 35% in 2024 (BMD 3.3 billion). The government benefits from funding through local banks and the international bond market. The maturity profile is favorable, with the average maturity around 9 years. While all of the government's debt is denominated in US dollars, exchange rate risk is mitigated by the credibility of the pegged exchange rate. The government plans to further reduce the debt burden with a portion of corporate income tax receipts.

Debt metrics relative to government revenues are projected to improve markedly as revenues rise with corporate income tax receipts. Government gross debt as a share of revenues is expected to decline from 264% in FY 2024/25 to 152% at the end of the forecast horizon in FY 2027/28, while interest costs will fall from 10% to 7% of revenues. These improvements will bring the fiscal accounts closer to the fiscal guardrails established by the government where debt should remain under 80% of revenues and debt service below 10% of revenues. The government has substantial contingent liabilities in the form of government guarantees to commercial projects which amount to BMD 920 million (10% of GDP). Of the remaining guarantees, the Bermuda Hospitals Board is the most significant (BMD 697 million, around 7% of GDP), although there are also two hotel development projects covered as well. These factors underpin our negative qualitative adjustment to the Debt and Liquidity' building block assessment.

Bermuda's Economy Continues to Grow At A Solid Pace

Bermuda's economy continues to outperform expectations. The Ministry of Finance estimates that the economy grew 4.9% in 2023, and between 4.5-5% in 2024, relative to projections of 4.0-4.5% for the same period. Growth was driven primarily by the international business sector, the largest sector of the economy. The tourism sector is also recovering from the pandemic shock, with both tourism arrivals and visitor expenditures gradually recovering to 2019 levels. Additional air capacity and hotel inventory coming online should aid growth in the sector. Economic growth has been supported in part by the implementation of the government's post-pandemic Economic Recovery Plan (ERP), which aims to diversify Bermuda's economy and build critical new infrastructure.

Over the medium term, Bermuda faces several downside risks to growth. The new corporate income tax may reduce Bermuda's attractiveness as an insurance/re-insurance hub. However, this risk is mitigated by Bermuda's advanced regulatory framework with equivalence in the U.S. and the EU, its knowledgeable workforce, and high level of competition spurring innovation, all of which are compelling factors for the insurance industry to remain in Bermuda. In addition, Bermuda faces an aging and shrinking population, which is coupled with emigration of the educated workforce, which could stress future healthcare expenditures and pensions. Rising costs of living could also affect affordability for residents and contribute to higher labor costs, thereby reducing the competitiveness of the tourism and international business sectors.

Although Bermuda has one of the highest income economies in the world on a per capita basis, Bermuda's ratings are constrained by the small size of the economy and limited economic diversification. Nominal GDP is estimated at USD 9 billion in 2024. The economy is highly concentrated in two sectors: tourism (which accounts for 5% of GDP directly, 18% indirectly, and 9% of employment) and the international business sector (which accounts for 29% of GDP and 15% of employment). The high economic concentration in two sectors could leave the economy vulnerable to external shocks.

Bermuda's external position remains sound. Bermuda runs consistent current account surpluses, which are primarily driven by the international business sector (via employee compensation) and the tourism sector. The surplus has averaged 13% of GDP over the last decade, which has contributed to Bermuda's net international asset position at around 48% of GDP (as of Q3 2024). Nevertheless, Bermuda's capacity for external adjustment is constrained by the fixed exchange rate, elevating the importance of sound macroeconomic policies in order to maintain external competitiveness.

Bermuda's Banking Sector Is Well-Capitalized and Financial Risks are Contained

Inflation continues to moderate in Bermuda, with the annual inflation rate standing at 1.8% as of January 2025. Rising food, health and personal care prices were partially offset by lower fuel prices. Government policies, such as reducing or eliminating duties on certain goods and the decline in global commodity prices, have also contributed to the decline. Bermuda does not have a central bank and does not conduct its own monetary policy. Domestic interest rates are determined by local banks and often align with rates set by the U.S. Federal Reserve. The Bermuda Monetary Authority serves as the local financial supervisor for financial services.

Bermudian banks are well-capitalized and hold ample liquidity, which should enable the sector to weather potential liquidity stresses. According to data from the Bermuda Monetary Authority, the average Basel III-calculated CET1 capital ratio stood at 26.5% in Q4 2024. The ratio of non-performing loan to total loans fell to 4.9% during the same period. Rising interest rates have also improved the profitability of the banking sector. However, credit to the private sector is limited and mainly take the form of residential mortgages, which account for close to 55% of total loans. Moreover, the level of public information available regarding the characteristics of the Bermudian real estate market is limited, and there is limited data on property prices. This is also the case regarding the level of domestic savings given that the only publicly available data is for total customer deposits, which includes non-residents. These data-related issues underpin our negative qualitative adjustments to the `Monetary Policy and Financial Stability' building block assessment.

High Quality Institutions and a Stable Political Environment Are Key Credit Strengths

Bermuda benefits from effective public institutions and a stable political environment. The two main political parties, the PLP and the One Bermuda Alliance (OBA), are broadly aligned in the direction of macroeconomic policy, particularly with regards to the management of the windfall corporate income tax receipts. Bermuda is one of the 14 Overseas Territories (OT) of the UK. While Bermuda has its own constitution, government, and local laws, the UK Parliament has "unlimited power to legislate" for it. As a UK OT, Bermuda benefits from the institutional strengths and support of the UK, ranging from budgetary assistance and technical support to defense and security issues.

The February 2025 early elections resulted in a solid mandate for the Progressive Labor Party (PLP) to enact its policy priorities and reform plans. The PLP maintained its majority, winning 25 of 36 seats in the House of Assembly, while the main opposition party, One Bermuda Alliance (OBA), won 11 seats. Historically, power has switched between the main two parties in Bermuda. Over the course of its term, the PLP aims to implement pension and tax reforms, universal health care, and create a sovereign wealth fund. Bermuda is also pursuing full Caricom membership, which would deepen Bermuda's economic integration into the Caribbean. Caricom aims to establish the Caribbean Single Market and Economy (CSME) which would enable the free movement of goods and services, capital, and people.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS
ESG Considerations had a relevant effect on the credit analysis.

Environmental (E) Factors

The following Environmental factors had a relevant effect on the credit analysis: Climate & Weather Risks. Like most small islands around the globe, Bermuda's infrastructure is relatively more exposed to the potential impact of climate change. According to the Bermuda Weather Service, one hurricane approaches Bermuda every year, and one severe hurricane is likely to hit Bermuda every 5 to 7 years. However, catastrophic damage has been historically rare.

There were no Social/Governance factor(s) that had a significant or relevant effect on the credit analysis.

A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Factors in Credit Ratings (May 16, 2025) https://dbrs.morningstar.com/research/454196

For more information on the Rating Committee decision, please see the Scorecard Indicators and Building Block Assessments: https://dbrs.morningstar.com/research/456987

Notes:
All figures are in US dollars unless otherwise noted. Public finance statistics reported on a general government basis unless specified.

The principal methodology is the Global Methodology for Rating Sovereign Governments (July 15, 2024) https://dbrs.morningstar.com/research/436000. In addition Morningstar DBRS uses the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Factors in Credit Ratings https://dbrs.morningstar.com/research/454196 in its consideration of ESG factors.

The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. Morningstar DBRS' outlooks and credit ratings are monitored.

The primary sources of information used for these credit ratings include Bermuda Monetary Authority, Bermuda Ministry of Finance, Bermuda Department of Statistics, Bermuda National Trust, Bermuda Fiscal Responsibility Panel, IMF, World Bank, UN, and Macrobond.

Morningstar DBRS considers the information available to it for the purposes of providing these credit ratings was of satisfactory quality.

The credit rating was not initiated at the request of the rated entity.

The rated entity or its related entities did participate in the credit rating process for this credit rating action.

Morningstar DBRS did not have access to the accounts, management and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.

This is a solicited credit rating.

For more information on Morningstar DBRS' policy regarding the solicitation status of credit ratings, please refer to the Credit Ratings Global Policy, which can be found in the Morningstar DBRS Understanding Ratings section of the website: https://dbrs.morningstar.com/understanding-ratings

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