Fitch Ratings has revised Garanti Bank S.A.’s (GBR) Outlook to Stable from Negative, while affirming the Romanian bank’s Long-Term Issuer Default Rating (IDR) at ‘BB-‘ and Viability Rating (VR) at ‘bb-‘.
The Outlook revision reflects easing pressure on asset quality and profitability, improved capitalisation and a stable funding and liquidity position over 1H21, which we expect to have continued into 2H21 and to extend in 2022. The revision also reflects our change in the outlook on operating environment score for Romania to stable from negative.
Fitch has withdrawn GBR’s Support Rating as it is no longer relevant to the agency’s coverage following the publication of its updated Bank Rating Criteria on 12 November 2021. In line with the updated criteria, we have assigned GBR a Shareholder Support Rating (SSR) of ‘b+’.
Key Rating Drivers: IDRS and VR
The IDRs of GBR are driven by its standalone profile, as reflected in its VR. The VR is constrained by our assessment of GBR’s ‘bb-‘ business profile, reflecting the bank’s small size and narrow franchise in Romania with only limited pricing power. The VR also reflects GBR’s solid capitalisation and profitability, improved asset quality and good funding and liquidity. GBR provides a universal banking offering to retail, SME and corporate customers.
The revised outlook on the operating environment for Romanian banks to stable reflects our view that the impact of the pandemic on Romanian banks’ credit profiles has been broadly contained and any residual risks are mitigated by the country’s near-term sound economic recovery prospects. Fitch scores the operating environment for Romania at ‘bb+’, which is below the ‘bbb’ implied score, reflecting risks to macroeconomic stability over the medium term.
GBR’s key asset-quality metric (Stage 3 loans/gross loans) improved by around 80bp y-o-y at end-1H21 to 3.2% (below sector average of 3.8%) and we expect further improvement at end-2021. Improvement over 1H21 of 40bp was driven largely by limited inflows to the Stage 3 bucket and sizeable recoveries, reducing the stock of Stage 3 loans while gross loans were virtually flat. At the same time specific provision coverage of Stage 3 loans has been gradually increasing to reach 75% at end-1H21 and was slightly higher than larger rated Romanian peers’.
The bank’s direct exposure to Turkey or Turkish entities operating in Romania represents a small share of the bank’s assets. However, Fitch’s assessment of the bank’s largest exposures indicates GBR’s exposure to borrowers linked to Turkish groups is larger, but still moderate. Nevertheless, these borrowers (typically large, diversified conglomerates) have performed well to date despite a volatile Turkish economy.
We expect asset quality to deteriorate slightly in 2022, reflecting some delayed effects of the pandemic, but also rising inflationary pressures and energy prices. However, we expect the deterioration to be contained within the current score for asset quality.
After growing its loan book by around 7% in 2021 the bank plans more aggressive growth across all market segments over the coming years to recover market shares lost over the last two years. The bank has sizeable capacity to grow following the improvement of its capitalisation and stabilisation of its funding structure.
GBR’s operating profit improved significantly in 1H21 to 3.3% (2020: 1.5%) of risk weighted assets (RWAs), driven predominantly by net release of loan impairment charges (LICs) equivalent to 50bp of gross loans (2020: net charge of 75bp of gross loans). To a lesser extent it also benefited from a modest improvement in net interest margin (NIM), driven by lower funding cost and a recovery in customer activity as reflected in an increase of fees and commission income.
We expect operating profit to have weakened in 2H21 and to stabilise at around 2% of RWAs in 2022 as margin pressures reduce the net interest income benefit of higher growth and LICs normalise. Nevertheless, pre-impairment profitability and provisioning buffers built in 2020 and only partly released in 2021 should provide a solid buffer to absorb asset-quality pressures beyond our current expectations without denting capital.
We view GBR’s high capital ratios as adequate and a rating strength even after considering limitations of the bank’s risk profile and business model. The bank’s common equity Tier 1 (CET1) ratio increased to 24.5% at end-1H21 from 22.5% a year ago and compares well with the sector average (18.3%).
We expect capitalisation to remain at similar level at end-2021 as full retention of 2021 profit will mitigate negative other comprehensive income from mark-to-market of the bank’s securities portfolio and RWA growth stemming from faster loan growth in 2H21. We expect capitalisation to weaken somewhat in 2022 on faster loan growth than internal capital generation, a gradual increase of risk weight for its foreign-currency (FC) -denominated sovereign securities (reduced to zero in 2020) and marginal impact of a delayed start to the amortisation of transitional arrangement related to first-time application of IFRS9. Capital ratios are comfortably above regulatory requirements.
The funding profile of GBR is independent of its parent’s and is primarily based on customer deposits (94% of total funding at end-1H21) split around 60/40 between companies and retail. Although solid and stable, we believe GBR’s funding franchise is somewhat weaker and customer relationships less established than larger peers’, as reflected in a lower share of retail deposits and higher overall share of term deposits. Wholesale funding (about 5% of total funding at end-1H21) was mainly sourced from long-term loans from international financial institutions (4%), short-term repos with the central bank (0.5%) and subordinated debt from its Turkish parent (0.5%).
GBR’s liquidity position is adequate and broadly stable, and refinancing risk is low. Its liquidity coverage ratio (LCR) was 188% at end-1H21 (end-1H20: 149%). Total available liquidity made up of cash (including central bank reserves), bank placements and unpledged government securities made up 24% of total assets and 30% of customer deposits at end-1H21.
SSR
GBR’s SSR is driven by potential institutional support from Banco Bilbao Vizcaya Argentaria (BBVA; BBB+/Stable), the majority and controlling shareholder of GBR’s 100% shareholder, Turkiye Garanti Bankasi A.S. (Garanti BBVA; B+/Negative), which we view as the ultimate source of support. GBR’s SSR indicates a limited probability of institutional support from BBVA, due to Fitch’s view of the low strategic importance of the Romanian operations for the BBVA group.
In addition, we would not expect BBVA to support GBR over and above the support it would extend to Garanti BBVA. Hence, Garanti BBVA ‘s ‘B+’ IDR, which incorporates Fitch’s view of government intervention risk in the Turkish banking sector, constrains our assessment of support available to GBR at the ‘b+’ level.
In our view, GBR’s risk profile is sufficiently independent of Garanti BBVA’s, and internal and regulatory restrictions on capital and funding transfers are sufficiently strict to allow GBR’ VR to be rated one notch above Garanti BBVA’s IDR.
Rating sensitivities
Factors that could, individually or collectively, lead to negative rating action/downgrade:
– GBR’s IDRs are mainly sensitive to changes in the VR. In our view GBR’s VR and IDR have sizeable rating headroom to absorb potential weakening of key financial metrics as reflected in the implied VR of ‘bb’.
-Contagion risk means that GBR’s VR and IDRs could be sensitive to a multi-notch downgrade of Garanti BBVA’s Long-Term Foreign-Currency IDR. Contagion risk usually limits the potential uplift of a subsidiary’s VR from the parent’s Long-Term IDR to a maximum of three notches under our criteria.
– GBR’s SSR is sensitive to a downgrade of Garanti BBVA’s Long-Term Foreign-Currency IDR or to a weakening in our assessment of GBR’s strategic importance to Garanti BBVA. Although unlikely at present, a change in ownership of the bank to a lower rated entity or to an entity, which Fitch cannot assess the likelihood of support could lead to a downgrade of SSR.
Factors that could, individually or collectively, lead to positive rating action/upgrade:
– A sustained improvement in the bank’s franchise together with the maintenance of key financial credit metrics could lead to an upgrade of the VR.
– GBR’s SSR is sensitive to an increase in GBR’s strategic importance for BBVA, which we, however, view as unlikely. In case of a multi-notch upgrade of Garanti BBVA’s Long-Term Foreign-Currency IDR, or increased strategic importance of GBR for BBVA, we could upgrade GBR’s Long-Term IDR to reflect greater institutional support.
VR adjustments
The VR of ‘bb-‘ has been assigned below the ‘bb’ implied score, due to the following adjustment reasons: business profile (negative).
The operating environment score of ‘bb+’ has been assigned below the ‘bbb’ category implied score for Romania, due to the following adjustment reasons: macroeconomic stability (negative).
The business profile score of ‘bb-‘ has been assigned above the ‘b & below’ implied score, due to the following adjustment reason: business model (positive).
The capitalisation & leverage score of ‘bb+’ has been assigned below the ‘bbb’ category implied score, due to the following adjustment reason: risk profile and business model (negative).
Best/Worst Case Rating Scenario
International scale credit ratings of Financial Institutions and Covered Bond issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from ‘AAA’ to ‘D’. Best- and worst-case scenario credit ratings are based on historical performance.