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July 8 (Reuters) - (The following statement was released by the rating agency)
The Philippine central bank’s decision to lower risk-weights on foreign-currency-denominated Philippine government bonds will provide a one-off boost to banks’ regulatory capital ratios now that the sovereign ratings are investment grade, Fitch Ratings says. However, this development - together with abundant liquidity in the local banking system - could heighten asset-quality risks if risk-appetite rises and lending expands too quickly.
We estimate the major Philippine banks will receive around a 100bp uplift to their core Tier 1 ratios. The banks have liquid balance sheets, and hold large amounts of foreign-currency Philippine government bonds to match their foreign-currency deposits. Moreover, the foreign-currency loans/deposits ratio for the sector is low at around 30%. The capital boost will stem mainly from the halving of risk-weights for Philippines’ foreign-currency sovereign bonds to 50%.
We believe the major local banks were strongly capitalised even before the lower risk weights, with an average core Tier 1 capital adequacy ratio of about 14% at end-2012. This underpins banks’ lending capacity, alongside the sub-70% loans/deposits ratio of the banking sector and a buoyant domestic economy. If banks take the opportunity to expand aggressively by loosening underwriting criteria, this would be negative for asset quality.
There are already early signs of accelerated growth in loans, and property prices in certain urban areas. The strong gains in real asset prices since 2010 lead us to believe that the Philippines’ Macro Prudential Indicator could move quickly from ‘1’, indicating a low risk of systemic stress, to ‘3’ (high risk) if real credit growth is sustained above 15% yoy (2012: 10% yoy).
A sustained credit-led boom, if manifested, could pose downside risk - such as sharp property price corrections, large loan defaults and significant impairment charges - which would be negative for the banks’ ratings. But we believe these risks are likely to be low in the near to medium term, because the banks are highly capitalised with a strong capacity to generate retained earnings - and the domestic operating environment remains healthy. Moreover, recent records of the central bank suggest that prudential measures may be implemented to counter potential macroeconomic shocks such as from corporate leverage and sector concentration.
On 4 July, the BSP announced the risk-weight reductions for Philippine sovereign bonds denominated in foreign currency following the upgrade of the sovereign rating by two rating agencies, including Fitch (Long-Term Foreign-Currency IDR ‘BBB-').