Fitch: Abenomics Uncertainty Clouds Bank Profitability Outlook

Fri May 9, 2014 1:46am EDT

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(The following statement was released by the rating agency) TOKYO/HONG KONG/SINGAPORE, May 09 (Fitch) The profitability momentum for Japan's "mega banks" remains clouded by uncertainty regarding the implementation of Abenomics-related reforms, Fitch Ratings says. Core banking profitability should remain weak amid narrowing loan margins and limited sustained growth in private credit. Fitch expects the release of full-year FY13 results, due 14 May 2014, to show a continuation of stronger bottom-line performance for MUFG, SMFG and Mizuho. A combination of falling net credit costs, a favourable market environment for the banks' investment portfolios, and stronger fee income from financial product sales is expected to boost net incomes to over JPY2.2trn in aggregate - the highest since FY05. The results are also likely to confirm the continued weakness in core banking profitability despite the strong bottom-line performance. The fiscal stimulus and quantitative easing that has come with the first year of Abenomics has kept credit costs down and bolstered equity market valuations, but net interest margins have continued to narrow. Margin compression has all but mitigated the positive impact from stronger system loan growth. Margin pressure is likely to persist due to intense competition over new lending among local banks with abundant liquidity. It is not definite, therefore, that the negative impact of credit-cost normalisation would be offset by rising loan volumes. Even the positive story of accelerating loan growth should be taken with some caution, as temporary fiscal stimulus and front-loaded household consumption ahead of a rise in the consumption tax has been a principal driver of new demand. There is still little indication that private-sector corporations have begun a new capex cycle. Japanese corporations remain net cash positive, suggesting that they may choose to use their own surplus cash in the early phases of an economic cycle - as opposed to bank borrowing. Furthermore, any reversal in optimism surrounding Abenomics could result in a deterioration of market conditions. This could give rise to volatility in the mega banks' future results - given their reduced (but still large) exposure to equity investment. The recent positive earnings dynamics are inherently unsustainable without a pick-up in domestic lending profitability. Simultaneously, there is significant uncertainty regarding the extent and timing of key monetary and economic policy decisions essential to boosting growth. More than a year after the launch of "Abenomics", structural reforms and deregulation proposed by Prime Minister Abe to spur economic growth remain largely undefined. Additional uncertainty will remain should the BoJ be successful in achieving its goal of 2% inflation without a commensurate recovery in the real economy and loan demand. Normalising interest rates would have a direct impact on the value of the banks' JGB holdings, which are still large. The three mega banks have improved their position against interest-rate risks, having divested JGBs and raised record levels of cash within the system (bank deposits at the BoJ are up 140% yoy to JPY114trn at end-March 2014). In the nine months to December 2013, mega bank holdings of JGBs fell by more than 30%, the fastest rate of contraction on record. Mega banks are increasing risk-taking offshore, given the low domestic growth/loan-margin environment. We expect this trend to continue in the long term. Nevertheless, the building of capital buffers through consistent internal capital generation - albeit at a modest pace - and better prospects for structural improvement in the banks' operating environment, should continue to help mitigate system risks. These are reflected in the mega banks' Stable Rating Outlook. Contacts: Miki Murakami Director Financial Institutions +81 3 3288 2686 Fitch Ratings Japan Limited Kojimachi Crystal City East Wing 3rd Floor 4-8 Kojimachi, Chiyoda-ku 102-0083 Justin Patrie Senior Director Fitch Wire +65 6796 7232 justin.patrie@fitchratings.com Media Relations: Leslie Tan, Singapore, Tel: +65 67 96 7234, Email: leslie.tan@fitchratings.com; Wai-Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: wailun.wan@fitchratings.com. The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings. Applicable Criteria and Related Research: 2014 Outlook: Japanese "Mega" Banks here Bank of Tokyo-Mitsubishi UFJ, Ltd and Mitsubishi UFJ Trust and Banking Corporatihere Sumitomo Mitsui Financial Group, Inc. here Mizuho Financial Group, Inc. here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.

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