December 15, 2017 / 4:50 PM / a year ago

Fitch Affirms UniCredit Bank AG at 'BBB+'; Negative Outlook

(The following statement was released by the rating agency) FRANKFURT/LONDON, December 15 (Fitch) Fitch Ratings has affirmed UniCredit Bank AG's (HVB) Long-Term Issuer Default Rating (IDR) at 'BBB+' with a Negative Outlook, and Viability Rating (VR) at 'bbb+'. A full list of rating actions is at the end of this commentary. KEY RATING DRIVERS IDRS, VR AND SENIOR UNSECURED DEBT The IDRs and senior unsecured debt ratings of HVB reflect its standalone credit strength, as expressed by its VR, on which the bank's strong capitalisation has a high influence. The VR also reflects a largely wholesale business model based on HVB's well-established domestic corporate and investment banking franchise, the bank's solid asset quality, which benefits from a resilient German economy, as well as the bank's moderate, albeit somewhat volatile, profitability. HVB's capital ratios remain well above those of its peers, even after a EUR3 billion one-off dividend payment to the bank's parent, UniCredit S.p.A. (UC; BBB/Stable/bbb) in 2Q17, with a fully loaded common equity Tier 1 (CET1) ratio of 21.2% at end-1H17. We expect its capitalisation to remain sound and to comfortably exceed regulatory requirements, and UC and HVB have agreed with their respective national regulators that HVB's own funds ratio will not fall below 13%. This continues to support its VR, which is one notch above UC's VR. HVB has considerably reduced its funding exposure to UC entities in the last few years, and Fitch expects an increasing portion of HVB's funding to be down-streamed from its parent to meet regulatory requirements under the group's preferred single-point-of-entry resolution strategy. Fitch typically does not rate a subsidiary's VR more than a notch above its parent's within the eurozone. The Negative Outlook on HVB's Long-Term IDR reflects Fitch's expectation that capital and funding will become more fungible within the UC group entities that operate in the eurozone, and that, as a result, material capital upstreaming that could constrain HVB's financial flexibility has become more likely. The special dividend to UC in 2Q17 supports our expectation that capital is increasingly managed across the UC group. HVB's intention to distribute the vast majority of its profits to UC in the next few years should result in minimal internal capital generation at the German entity because the bank's capital ratios are already high. HVB's earnings recovered in 1H17 on the back of stronger trading results after several years of modest profit, and compares favourably with most large German banks'. Broadly stable commercial banking (CB) profits mitigate the intrinsic volatility of corporate & investment bank (CIB) earnings. We expect that HVB's adequate pricing discipline in corporate lending and the cost-reduction measures it has taken will continue to mitigate the prevailing regulatory cost pressure and tightening margins driven by intense competition in German corporate banking. However, low interest rates and intense competition in German corporate banking are putting pressure on interest margins and commission income in all segments. Moreover, we believe that HVB faces somewhat limited growth prospects in corporate banking and CIB in Germany's saturated market. In addition, the modest contribution of household clients to the commercial banking segment's performance reflects the bank's limited retail presence in few German regions. HVB's asset quality benefits from the bank's focus on Germany. Loan impairment charges (LICs) in 2016 and 1H17 remained well below their long-term average despite a sharp increase in provisioning for ship financing in 4Q16. HVB is vulnerable to further deterioration of its exposure to the troubled shipping sector. However, total LICs are unlikely to revert to their long-term average in the short term. HVB continues to work out higher-risk non-core assets but has run down its non-performing loans (NPLs) less actively than its German peers. HVB's funding is adequate despite some reliance on wholesale funds. The long maturities of its debt and its sizeable client deposit base limit its issuance needs. The bank took up EUR12.6 billion of the ECB's long-term refinancing operations in 2016 and 1H17, driven by the low cost of this funding source. We expect that HVB will receive an increasing proportion of funding from its parent because the group has announced that UC will be the issuing entity for instruments intended to meet total loss absorbing capacity (TLAC) and minimum requirement for own funds and eligible liabilities requirements. DERIVATIVE COUNTERPARTY RATING (DCR) AND DEPOSIT RATINGS HVB's DCR and Deposit Ratings are aligned with the bank's IDRs. The bank's qualifying junior and vanilla senior unsecured debt buffers are large, but we believe that their sustainability is not yet clear. There are still some uncertainties on the timing of UC's plans to allocate TLAC within the group, which we expect will change HVB's liabilities structure over the medium term. SUPPORT RATING HVB's Support Rating (SR) indicates a 'BB-' long-term rating floor based on institutional support. It reflects Fitch's opinion that despite UC's strong propensity to support HVB, the parent's constrained ability to do so results in a moderate likelihood of extraordinary support. This is because of the large solvency support that HVB would likely require relative to the capital available in the rest of the group, given that a large share of UC's consolidated equity is in HVB. Our view of UC's strong propensity to support primarily reflects HVB's role as the group's investment banking hub and sizeable corporate banking operations in Europe's largest economy. SUBORDINATED DEBT AND HYBRID SECURITIES HVB's Tier 2 subordinated debt is rated one notch below the bank's VR for loss severity to reflect below-average recovery prospects. The bank's hybrid capital notes issued through HVB Funding Trusts I and II are rated four notches below the bank's VR: two notches for loss severity and two notches for incremental non-performance risk. While the regulator could order a coupon deferral in line with the terms and conditions of these profit-linked instruments, we view such intervention as unlikely in light of HVB's solid standalone financial profile. RATING SENSITIVITIES IDRS, VR AND SENIOR UNSECURED DEBT HVB's IDRs, VR and unsecured debt ratings are primarily sensitive to a change in UC's IDRs. The bank's VR and IDR are sensitive to rising integration and fungibility of capital and funding within the UC group, which we view as likely under the European Single Supervision and Single Resolution Mechanisms. Under Fitch's criteria, a highly integrated bank that accounts for a large share of its parent's consolidated assets and overall credit profile can be assigned a common VR with its parent. Therefore, we would probably assign common VRs to UC and HVB if we conclude that lower restrictions on capital movements within the UC group make it impossible to separate the credit profiles of its largest subsidiaries. HVB's VR, and therefore IDR, would then converge towards UC's ratings, which are currently one notch below HVB's. Further clarity on the group's resolution plan could indicate that capital has become more fungible, particularly if accompanied by the preplacement of internal loss absorbing capital from UC into HVB. A downgrade of the parent would lead to a downgrade of HVB's ratings because we believe a weakening of UC's financial strength would increase the risk of upstreaming further capital from HVB. An upgrade of HVB's ratings would be dependent on an upgrade of UC's ratings. Apart from UC's influence, HVB's VR and IDRs are also sensitive to a decline in the subsidiary's recurring operating profitability. DCR AND DEPOSIT RATINGS HVB's DCR and Deposit Ratings are primarily sensitive to changes in the bank's IDRs. The DCR and Deposit Ratings could be notched above HVB's IDRs if we conclude that the bank's qualifying junior and vanilla senior debt buffers are sufficient on a sustained basis to restore viability and prevent a default on derivative obligations and deposits after a failure. We believe that further clarity on the sustainability of these buffers should become available when UC starts to downstream internal TLAC into HVB. The DCR and Deposit Ratings are also sensitive to future changes to the resolution regime, which may alter the hierarchy of the various instruments in a resolution, although this is not our current expectation in Germany. SUPPORT RATING The SR is sensitive to significant changes to UC's ability to support HVB, which could be indicated by a change to UC's ratings. It is also sensitive to negative changes to Fitch's view of UC's propensity to provide support, which we currently do not expect. We would withdraw HVB's SR if we decide to assign a common VR to UC and HVB. SUBORDINATED DEBT AND HYBRID SECURITIES HVB's subordinated debt and hybrid securities' ratings are sensitive to changes in the bank's VR or to a change in the securities' notching, which could arise if we change our assessment of the notes' loss severity or relative non-performance risk. The rating actions are as follows: UniCredit Bank AG Long-Term IDR affirmed at 'BBB+', Outlook Negative Short-Term IDR affirmed at 'F2' Viability Rating affirmed at 'bbb+' Derivative Counterparty Rating affirmed at 'BBB+(dcr)' Deposit Ratings affirmed at 'BBB+/F2' Support Rating affirmed at '3' Senior unsecured certificates of deposit affirmed at 'F2' Senior unsecured debt issuance programme affirmed at 'BBB+/F2' Senior unsecured MTN programme affirmed at 'BBB+' Senior unsecured EMTN programme affirmed at 'BBB+/F2' Senior unsecured notes affirmed at 'BBB+' Tier 2 subordinated notes affirmed at 'BBB' HVB Funding Trusts I and II Hybrid capital notes affirmed at 'BB' Contact: Primary Analyst Patrick Rioual Senior Director +49 69 76 80 76 123 Fitch Deutschland GmbH Neue Mainzer Strasse 46-50 60311 Frankfurt am Main Secondary Analyst Sebastian Schrimpf, CFA Associate Director +49 69 76 80 76 136 Committee Chairperson Christian Scarafia Senior Director +44 20 3530 1012 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: peter.fitzpatrick@fitchratings.com. 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