-- We believe that the Canadian banking sector is
encountering incremental pressure from headwinds facing the
Canadian economy, which is heightening economic risk in the
-- We also believe industry risk for the Canadian banking
sector is increasing. We expect that intensifying competition
for loans and deposits will lead to pressure on profitability
growth, especially in banks' retail businesses.
-- We are lowering our long- and short-term issuer credit
ratings on Bank of Nova Scotia to 'A+/A-1' from 'AA-/A-1+',
following our revision of the stand-alone credit profile on the
bank to 'a' from 'a+', and assigning a stable outlook.
-- The stable outlook reflects our expectation that Bank of
Nova Scotia's credit fundamentals will remain consistent with
current ratings over the next 24 months.
On Dec. 13, 2012, Standard & Poor's Ratings Services lowered
its long- and short-term issuer credit ratings on Bank of Nova
Scotia (BNS) to 'A+/A-1' from 'AA-/A-1+' and assigned a stable
outlook. In addition, Standard & Poor's lowered its issue
ratings on Bank of Nova Scotia's senior unsecured debt to
'A+/A-1', nondeferrable subordinated debt to 'A-' from 'A', and
preferred shares and hybrid securities to 'BBB+' from 'A-'.
The rating action follows our review of banking sector
industry and economic risks in Canada, taking into account the
headwinds facing the Canadian economy, Canadian consumers' high
debt levels, expectations of decelerating loan demand and
continued pressure on margins, particularly in the Canadian
retail sector, and areas of continuing weakness in the global
economy and financial system.
We believe banks and credit unions operating in Canada are
subject to an expanding set of potential stresses arising from
competitive pressure on growth and margins, while asset quality
is potentially vulnerable--in light of high consumer
indebtedness--to developments that may trigger general economic
deterioration in Canada.
Consequently, we lowered our anchor SACP, which is the
starting point for our ratings on financial institutions
operating primarily in Canada, to 'a-' from 'a' But the anchor
for BNS was lowered to 'bbb+' from 'a-', reflecting its
operating footprint in countries that are weaker than Canada, in
This is reflected in our revision of Banking Industry
Country Risk Assessment (BICRA) for Canada to group '2' from '1'
and revised our industry risk score, a component of the BICRA,
to '2' from '1' (see "Various Rating Actions Taken On Canadian
Financial Institutions Due To Rising Industry and Economic
Risks," published Dec. 13, 2012, on RatingsDirect on the Global
We believe that the banks and credit unions are under
incremental pressure from the headwinds facing the Canadian
economy. The acceleration of household debt to record levels has
increased Canadian households' vulnerability to sudden shocks in
incomes, employment, or a spike in interest rates.
Exposure to the consumer sector accounts for nearly
three-fifths of total bank loans, and losses on banks' uninsured
loan portfolios--although recent performance levels have
generally been strong--may be driven higher in the event of a
substantial shock to household creditworthiness, though we
expect effective regulatory supervision to remain a positive
influence on Canadian bank credit quality.
Although we expect ongoing intensification of competitive
dynamics in the Canadian banking sector, we note that overall
Canada still remains positioned favorably vis-a-vis most of its
global peers. However, a slowing economy risks exacerbating the
already-intense competition between banks for loan and deposit
share and puts further pressure on the margin and profitability
of the Canadian financial institutions' retail and commercial
lending businesses, the cornerstone of Canadian banking and
largest contributor to revenues.
We also believe that Canadian financial institutions' risk
tolerances may increase to compensate for lower profitability by
reaching for yield through investments, more aggressive lending
in higher yielding loans such as personal loans and credit
cards, or potentially a pick-up in mergers and acquisitions
Furthermore, we expect that continuing industry conditions
will test banks' operational capabilities. Relative performance
in areas such as service standards, cost control, operational
effectiveness, underwriting discipline, and ability to integrate
acquisitions will likely contribute to changes in market
position and financial performance, and will have an impact on
the relative credit standing among industry participants. Our
ratings on BNS reflect a combination of factors including the
anchor SACP, company-specific factors, and our expectation for
extraordinary government support.
For BNS we start at the anchor of 'bbb+'. We then adjust for
a "strong" (as our criteria define it) business position to
reflect the bank's solid banking market position in Canada and
largely stable revenue base; an "adequate" capital and earnings
position primarily based on our forecasted risk-adjusted capital
(RAC) ratio in the rage of 8.2% to 8.7% by fiscal year end 2014
and consistent earnings growth, outperforming some domestic
peers in recent years; a "strong" risk position, which reflects
loan loss experience that is more favorable than that of
financial institutions operating in similar industry risk
countries, and the reasonable size of its capital markets
operations; and "average" funding and "adequate" liquidity based
on the bank's substantial base of core deposits and a low-risk
securities portfolio, while recognizing a material wholesale
The resulting SACP of 'a' is adjusted upward one notch in
arriving at the 'A+' issuer credit rating to reflect our
expectation for extraordinary government support in a crisis.
Outlook The stable outlook reflects our expectations that BNS
will continue to generate consistent earnings and to grow
without adding outsize risk to the balance sheet.
We could revise the outlook to negative or lower the ratings
if the higher-than-peer average (particularly in the
international loan portfolio) consumer loan growth of the past
few years becomes a disproportionate asset quality issue, such
that net charge-offs are consistently and materially higher than
the peer average or if the forecasted RAC ratio falls below 7%
for a sustained period.
Alternatively, we could revise the outlook to positive or
raise the ratings if the RAC ratio is consistently above 10% all
else being equal. We see this as unlikely at this time.