-- We believe that the Canadian banking sector is encountering incremental pressure from headwinds facing the Canadian economy, which is heightening economic risk in the banking system.
-- We also believe that 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 affirming our ‘AA-/A-1+’ long- and short-term issuer credit ratings and our ‘AA-’ senior unsecured debt rating on HSBC Bank Canada, which reflects those on its parent (HSBC Holdings PLC) as a result of its “core” subsidiary status.
-- The negative outlook reflects that on its parent.
On Dec. 13, 2012, Standard & Poor’s Ratings Services affirmed its ‘AA-’ long- and ‘A-1+’ short-term issuer credit ratings on HSBC Bank Canada (HSBC Canada). The outlook is negative. The ratings and outlook reflect those on its parent, HSBC Holdings PLC (HSBC: A+/Negative/A-1) and the group as a result of its “core” status. We lowered the stand-alone credit profile (SACP) on HSBC Canada 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, high debt levels of Canadian consumers, 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 operating in Canada are vulnerable 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 stand-alone credit profile (SACP), which is the starting point for our ratings on financial institutions operating primarily in Canada, to ‘a-’ from ‘a’.
This is reflected in our revision of the Banking Industry Country Risk Assessment (BICRA) for Canada to group ‘2’ from ‘1’ and our revision of the 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 Credit Portal).
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 activity.
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.
Standard & Poor’s ratings reflect our view that HSBC Canada is core to its ultimate parent, HSBC, due to its meaningful enough size in a group context, strong operating performance, and most importantly, integral role within HSBC’s growth strategy in North America.
As a result of the group relationship, we equalize the long-term issuer credit rating on HSBC Canada with the ‘AA-’ ratings on the group’s other core operating entities.
Standard & Poor’s bases its SACP on HSBC Canada on its ”moderate“ business position given its limited geographical reach in Canada (operating mostly in the province of British Columbia), ”adequate“ capital and earnings, based on Standard & Poor’s projected risk-adjusted capital ratio of 9.8%-10.2% by year-end 2012, adequate” risk position with similar credit quality metrics to its Canadian peers, “average” funding and “adequate” liquidity scores, as well as group support.
The SACP on HSBC Canada is ‘bbb+'.
The negative outlook reflects that on HSBC and the HSBC group. We expect that the ratings on HSBC Canada will move in line with the ratings on its parent. We could lower the ratings on HSBC Canada if we no longer consider the bank to be “core” to HSBC under our group methodology criteria. This could result from a period of sustained weak operating performance or evidence that HSBC Canada’s activities are of diminishing importance to the group. An outlook revision to stable from negative would only follow a similar outlook revision to HSBC.