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Fitch Upgrades Bank of Cyprus to 'CC' and Hellenic Bank to 'CCC'
July 4, 2014 / 3:46 PM / in 3 years

Fitch Upgrades Bank of Cyprus to 'CC' and Hellenic Bank to 'CCC'

(The following statement was released by the rating agency) BARCELONA/LONDON, July 04 (Fitch) Fitch Ratings has upgraded Bank of Cyprus Public Company Ltd's (BoC) Long-term Issuer Default Ratings (IDR) to 'CC' from 'RD' and Hellenic Bank Public Company Limited's (HB) Long-term IDR to 'CCC' from 'RD'. Fitch has also upgraded the two banks' Short-term IDR to 'C' from 'RD'. At the same time, the agency has affirmed BoC's Viability Rating (VR) at 'cc' and HB's VR at 'ccc'. A full list of rating actions is at the end of this comment. The upgrades of BoC's and HB's IDRs follow the lifting of legal restrictions imposed by the Central Bank of Cyprus on the free movement of capital within Cyprus on 30 May 2014. In particular, capital controls on bank deposits within the country no longer apply. Fitch's view is that although restrictions remain on cross-border outward capital flows, these banks are now substantively able to service all their obligations. According to details provided under the IMF review, the Cypriot and international authorities agreed on a roadmap for the gradual relaxation of capital controls, which envisages four phases linking on relaxation steps to defined milestones on the restructuring of the banking sector. The recent partial removal of capital controls within Cyprus completes phase-three of the roadmap. In Fitch's view, phase four, which entails removal of the remaining capital controls, is unlikely to be fully implemented before the end of 2014. KEY RATING DRIVERS - IDRS AND VR Following the upgrade, BoC's and HB's Long-term IDRs are driven by their standalone credit fundamentals, captured in their VR. BoC's and HB's VRs are influenced by the recession in Cyprus, which continues to put at risk the two banks' very weak asset quality, as well as weak profitability and vulnerable capitalisation. BoC's VR is one notch below HB's to highlight greater funding vulnerabilities and the need to complete a restructuring plan, although the plan looks to be broadly ahead of schedule. Fitch considers asset quality as one of the main concerns for Cypriot banks. In 1Q14 both banks' non-performing loans (NPLs) continued to increase, albeit at a lower rate than past quarters, reaching 55% at BoC and 49% at HB of gross loans under Central Bank of Cyprus' definition. Both banks are subject to the ECB's comprehensive assessment, which includes an asset quality review. Fitch expects loan quality to weaken further in the foreseeable future, although more moderately. The two banks' most important challenge will be to improve NPL recoveries, for which banks have internally strengthened their recovery units. NPL coverage remained low in Fitch's view in a stress scenario at 35% for BoC and 43% for HB at end-1Q14. At end-1Q14, BoC's and HB's Fitch Core Capital (FCC)/weighted risks ratio of 9.4% and 9.5%, respectively, were low and highly sensitive to stress in unreserved NPLs as these over exceed capitalisation. HB also holds EUR168m of contingent convertibles which provides additional loss absorption capacity; bringing its Fitch Eligible Capital ratio to 13.3%. In 1Q14, HB remained loss-making as credit impairments remained fairly high, while BoC returned to profits ahead of Fitch's initial expectations due to much lower (albeit still high) impairments. Despite the latter and potential efficiency gains from recent cost cuts and restructurings, Fitch expects both banks' internal capital generation to remain weak in the context of Cyprus' economic contraction of 3.9% in 2014 and 1% in 2015, according to Fitch. After large deposit outflows in 2013, customer funding only started to stabilise in 2014 at these two banks. However, their deposit franchises remain, in Fitch's view, highly vulnerable to Cyprus' recession and could also be affected by the recent lifting of domestic capital controls and notably the anticipated gradual lifting of cross-border capital controls. In the case of BoC, the deposit franchise is also sensitive to the on-going restructuring of its domestic operations and the release of those deposits that were blocked as part of its recapitalisation process. At end-1Q14, the loan/deposit ratios were a very high 151% for BoC and comfortable 63% for HB. BoC heavily relies upon central bank funding, at about a third of total assets at end-1Q14, largely from the Emergency Liquidity Assistance. This funding source has fallen since its peak of mid-2013, following asset de-leveraging and more recently a partial repayment of sovereign bonds held by BoC. Absent of further liquidity shocks, Fitch expects central bank funding to decline further, albeit it will remain large in the foreseeable future, indicating material funding constraints. RATING SENSITIVITIES - IDRS AND VR The banks' IDRs are sensitive to changes in their VR. While limited in the short-term, the VRs could be upgraded if pressure from unreserved NPLs ease and/or capital materially improves and further profitability improvements are evidenced. BoC's VR could also be upgraded if there is a significant reduction in central bank funding. An upgrade of the Cypriot sovereign rating (B-/Stable) would also put upward rating pressure on the banks, if this is associated with improved macro-economic fundamentals. Conversely, the VRs would be downgraded because of a weakening of the banks' asset quality and profitability, resulting in significant capital erosion, or if their funding profiles become more unstable and deteriorate. In Fitch's view, BoC remains more at risk of a VR downgrade than HB. KEY RATING DRIVERS - SUPPORT RATING AND SUPPORT RATING FLOOR BoC's and HB's SR of '5' and SRF of 'No Floor' reflect Fitch's assumption that future support from the Cypriot authorities, while possible, cannot be relied upon in light of the scarce resources at the authorities' disposal, as evidenced by an international support package of EUR10bn to Cyprus and the enforcement of losses onto senior creditors in the case of BoC. The agency's belief is despite the systemic importance of the two banks within Cyprus, with national deposit market shares of around 26% for BoC and 12% for HB as of end-1Q14. RATING SENSITVITIES - SUPPORT RATING AND SUPPORT RATING FLOOR Fitch considers there is little upside potential, if any, for BoC's and HB's SR and SRF given the limited ability of the Cypriot authorities to provide support, the recent implementation of its resolution scheme, but also bearing in mind the clear intent to reduce implicit state support for financial institutions in the EU. The latter has been demonstrated by a series of legislative, regulatory and policy initiatives, including the Bank Recovery and Resolution Directive and Single Resolution Mechanism. The rating actions are as follows: Bank of Cyprus Long-term IDR: upgraded to 'CC' from 'RD' Short-term IDR: upgraded to 'C' from 'RD' Viability Rating: affirmed at 'cc' Support Rating: affirmed at '5' Support Rating Floor: affirmed at 'No Floor' Hellenic Bank Long-term IDR: upgraded at 'CCC' from 'RD' Short-term IDR: upgraded at 'C' from 'RD' Viability Rating: affirmed at 'ccc' Support Rating: affirmed at '5' Support Rating Floor: affirmed at 'No Floor' Contact: Primary Analyst Josep Colomer Director +34 93 323 8416 Fitch Ratings Espana S.A.U. Paseo de Gracia, 85 7th Floor 08008 Barcelona Secondary Analyst Josu Fabo Director +44 203 530 1513 Committee Chairperson Christian Kuendig Senior Director +44 203 530 1399 Media Relations: Elaine Bailey, London, Tel: +44 203 530 1153, Email: elaine.bailey@fitchratings.com. Additional information is available on www.fitchratings.com. Applicable criteria, "Global Financial Institutions Rating Criteria", dated 31 January 2014 are available at www.fitchratings.com. Applicable Criteria and Related Research: Global Financial Institutions Rating Criteria here Additional Disclosure Solicitation Status 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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