Fitch Ratings-Chicago-October 22: Fitch Ratings has affirmed National Bank of Canada's (NBC) Long- and Short-term Issuer Default Ratings (IDRs) at 'A+' and 'F1', respectively.
The Rating Outlook remains Stable. Fitch also affirmed NBC's Viability Rating (VR) at 'a+'. A full list of rating actions follows at the end of this release. This rating action follows Fitch's periodic review of the Canadian Banks Peer Group, which includes Bank of Montreal (BMO), Bank of Nova Scotia (BNS), Canadian Imperial Bank of Commerce (CIBC), Desjardins Group (DESJ), National Bank of Canada (NBC), Royal Bank of Canada (RBC) and Toronto-Dominion Bank (TD). Company-specific rating rationales for the other banks are published separately. For further discussion of the Canadian banking sector, please refer to the special report titled '2019 Outlook: Canadian Banks' to be published in the near future.
KEY RATING DRIVERS IDRS, VRS AND SENIOR DEBT
Today's affirmation reflects NBC's continued strong asset quality, improved earnings performance and its good capital levels. NBC's current rating is also supported by a solid company profile and franchise within the province of Quebec. Also supporting NBC's rating along with the other Canadian peer banks is the role that the Canadian Mortgage and Housing Corporation (CMHC) plays in supporting balance sheets, albeit at a lower level than in the past. Fitch continues to believe that NBC's smaller deposit and lending market share relative to its primary competitor in Quebec (DESJ) as well as its smaller scale on a national basis relative to larger peers constrain its overall rating. Moreover, the continued significant presence of capital markets activities in terms of revenue and net income contribution relative to rated domestic and global peers constrains NBC's ratings. This view is consistent with how Fitch views capital markets activities throughout its bank rated universe. Fitch continues to view positively NBC's strong asset quality. At 3Q18 (July 31, 2018), gross impaired loans (GILs) to gross loans stood at 0.46%, up 10bps from a year ago but below the peer average of 0.55% at the same time period. Gross impaired loans climbed due to modest deterioration in the bank's commercial loan book as well as higher impaired loan formation associated with Credigy, Ltd., NBC's segment that buys performing and non-performing consumer loans outside of Canada. Fitch views NBC's underwriting as relatively disciplined which has led to a lower absolute level of impaired loans over time as well lower volatility of credit losses. NBC's higher exposure to the province of Quebec, which tends to have a less volatile economy, is also considered a factor in the bank's good credit performance over time. Fitch has observed a modest shift in NBC's loan mix over time. Levels of business and corporate lending as well as international exposures have grown in both absolute and relative terms; the level of uninsured mortgages relative to total residential mortgages has modestly increased due to various regulatory rules; and NBC's exposure to the provinces of Ontario and British Columbia has modestly grown. However, Fitch's expectation that NBC will remain focused and concentrated in its core market of Quebec is factored into today's rating action. NBC's improvement in both the level and consistency of earning's performance supports today's rating action. NBC's operating profit to risk-weighted assets (RWA), Fitch's earnings benchmark ratio, has led the peer group over five, 10 and 20 quarter time frames. However, the bank's earnings consistency has only recently become superior to that of its peers. The bank has been able to sustain positive operating leverage for seven consecutive quarters driven by solid revenue growth and good cost controls. Consistency has been aided by fewer one-time charges related to restructuring or sectoral credit provisions. NBC's capital levels continue to improve on an absolute and relative basis, which is reflected in today's rating affirmation and Stable Outlook. The bank, which at the end of FY14 had the lowest Common Equity Tier 1 (CET1) ratio of the peer group, has since cumulatively boosted the measure by 240bps through 3Q18. This is the highest cumulative level of capital accumulation in the peer group over the time period and has resulted in NBC having a CET1 ratio above peer averages. Management has stated that it intends to manage capital at levels in-line or above peers over time and is only comfortable doing share buybacks with a CET1 ratio above 10.75%. Fitch's expectation that NBC's CET1 will indeed remain at or above peer averages is incorporated into the affirmation and Stable Outlook. Funding and liquidity continue to be solid and supportive of NBC's rating. Similar to peers, NBC has shown success in building its level of customer deposits although wholesale funding continues to account for outsized meaningful proportion of its funding. NBC reports a strong liquidity coverage ratio (LCR) within the Canadian bank peer group at 147% and continues to have strong on-balance-sheet unencumbered liquidity.
SUPPORT RATING AND SUPPORT RATING FLOOR
The bank's Support Rating (SR) of '2' and Support Rating Floor (SRF) of 'BBB-' reflect Fitch's view on the continued potential for support for the largest Canadian banks in the near term given their systemic importance. Canadian banking authorities have wide latitude to resolve a troubled bank including re-capitalizing an institution, creating a bridge bank, or imposing losses on creditors. However, recently implemented bail-in rules for the Canadian domestic systemically important banks (D-SIBs) reflect the government's intent to reduce potential sovereign support. In addition, guidelines on total loss absorbing capital require D-SIBs to build up a minimum of 21.5% of total loss absorbing capital (TLAC) by November 2021, which would significantly lower sovereign propensity to provide support, in Fitch's view. Over time, Fitch will likely lower the SRs and SRFs of these institutions as bail-in eligible debt is issued.
SUBORDINATED DEBT AND OTHER HYBRID SECURITIES
Subordinated debt and other hybrid capital issued by NBC and its subsidiaries are all notched down from the common VR in accordance with Fitch's assessment of each instrument's respective non-performance and relative loss severity risk profiles, which vary considerably. NBC's subordinated debt is notched one level below its VR for loss severity in accordance with Fitch's assessment of each instrument's non-performance and relative loss severity risk profile. NBC's preferred stock is five notches below its VR, made up of two notches down for non-performance and three notches down for loss severity.
SUBSIDIARY AND AFFILIATED COMPANY
All of the subsidiaries and affiliated companies reviewed as part of the Canadian bank peer review factor in a high probability of support from parent institutions to the subsidiaries. This reflects that performing parent banks have very rarely allowed subsidiaries to default. It also considers the high level of integration, brand, management, financial and reputational incentives to avoid subsidiary defaults
DERIVATIVE COUNTERPARTY RATING, LONG- AND SHORT-TERM DEPOSIT RATINGS
NBC's Derivative Counterparty Rating (DCR) and Long-Term deposit ratings are at the same level as the bank's Long-Term IDR and senior unsecured debt. Short-Term deposit ratings are similarly equalized with the bank's Short-Term IDR. Under recently finalized bail-in rules for Canadian D-SIBs, derivative counterparties and depositors have preferential status over other senior obligations and are excluded from being written down under a bail-in, irrespective of the amount of bail-in eligible debt outstanding.
RATING SENSITIVITIES IDRS, VRS AND SENIOR DEBT
Today's rating action incorporates Fitch's view that uncertainties remain on what lies ahead for the Canadian housing market and general economy. The action also incorporates Fitch's recognition of tail risks in the context of monetary policy tightening, elevated household indebtedness, continuing housing price inflation and modestly slowing economic growth. To date, consumer assets, particularly mortgages, continue to perform well. However, Fitch views banks' asset quality as vulnerable to rising rates, particularly with respect to uninsured mortgages originated during the interest rate trough of 2015-2016, many of which will reset at materially higher rates in 2020-2021, within the rating time horizon. At the same time, such medium term stress is mitigated by structural features of the Canadian mortgage market, as well as relatively low loan-to-value ratios, appropriate macro-prudential measures as well as the sound loss-absorbing capacity of the banks. Given all of this, Fitch expects NBC's ratings, as well as the rest of its Canadian peers' ratings, to be constrained to current levels over the medium term, all-else equal. Specific to NBC, modest rating pressure could also ensue should NBC's credit performance deteriorate evidenced by impaired loans and loan losses trending to levels above long-term averages. This could be potentially become more severe should macroeconomic risks continue such as unexpected increases in interest rates, a severe housing price correction as well as macroeconomic weakness in the overall Canadian economy that leads to a material rise in unemployment as noted above. NBC's ratings are highly sensitive to its earnings profile and credit quality. As noted above, the bank has reported very consistent credit quality over time relative to its peers, and this supports its rating. NBC's ratings continue to be sensitive to its credit quality converging with peers, particularly in markets outside of Quebec. Fitch would view earnings volatility increasing as the result of capital markets revenue nearing or surpassing 30% of total revenue as credit negative. In addition, given the Financial Action Task Force's identified weaknesses in Canada's anti-money laundering / anti-terrorism financing (AML/ATF) regime, NBC's ratings would be sensitive to material and systemic conduct risk findings, particularly as they relate to anti-money laundering/terrorism financing or sanctions compliance. While this is not currently expected, material findings that suggest broad-based weaknesses or failings in the risk management infrastructure could pressure NBC's ratings.
SUPPORT RATING AND SUPPORT RATING FLOOR
The SR of '2' incorporates Fitch's expectation that there could be some level of support for the Canadian D-SIBs going forward, although it has been weakened given the implementation of bail-in legislation. Fitch recognizes that Canadian authorities have taken steps to improve resolution powers and tools but intend to maintain a flexible approach to bank resolution. However, SRs and SRFs would likely be lowered further as banks begin to issue bail-in eligible debt. While Fitch had viewed the reduction of support to occur closer to the time of compliance with bail-in requirements in 2021, Fitch may likely accelerate the lowering of the SR and SRF prior to the banks' full compliance with the TLAC requirement. However, in Fitch's view, legacy senior debt excluded from bail would benefit from higher notching once sufficient qualifying junior debt buffers (QJD) is built up to recapitalize the bank.
SUBORDINATED DEBT AND OTHER HYBRID SECURITIES
The subordinated debt and hybrid capital ratings are primarily sensitive to any change in the VRs of the bank.
SUBSIDIARY AND AFFILIATED COMPANIES
The subsidiary and affiliated company ratings are primarily sensitive to any change in the VRs of the banks.
DERIVATIVE COUNTERPARTY RATING, LONG- AND SHORT-TERM DEPOSIT RATINGS
NBC's DCR and deposit ratings are sensitive to changes in the bank's IDRs. DCR and deposit ratings may be upgraded by one notch above the bank's respective Long-Term and Short-Term IDRs in the event of the bank's faster-than anticipated issuance of bail-in eligible debt sufficient to effectively recapitalize the bank. Fitch has affirmed the following ratings with a Stable Outlook: National Bank of Canada --Long-term IDR at 'A+'; --Short-term IDR at 'F1'; --VR at 'a+'; --Senior debt at 'A+'; --Short-term senior debt at 'F1'; --Subordinated debt at 'A'; --Preferred stock at 'BBB-'; --Short-term deposits at 'F1'; --Support Rating at '2'; --Support Rating Floor at 'BBB-'. National Bank of Canada New York Branch --Short-term IDR at 'F1'; --Commercial paper at 'F1'. NBC Asset Trust --Preferred Stock at 'BBB-'. Fitch has assigned the following ratings: National Bank of Canada: --Derivative Counterparty Rating at 'A+(dcr)'; --Long-term deposits at 'A+' Contact: Primary Analyst Bain K. Rumohr, CFA +1-312-368-3153 Fitch Ratings, Inc. 70 West Madison Street Chicago, IL 60602 Secondary Analyst Christopher Baker, CFA Director +1-312-606-2361 Committee Chairperson Alan Adkins Senior Director +44 20 3530 1702 Media Relations: Sandro Scenga, New York, Tel: +1 212 908 0278, Email: sandro.scenga@fitchratings.com. Additional information is available on www.fitchratings.com Applicable Criteria Bank Rating Criteria (pub. 12 Oct 2018) https://www.fitchratings.com/site/re/10044408 Additional Disclosures Dodd-Frank Rating Information Disclosure Form https://www.fitchratings.com/site/dodd-frank-disclosure/10049288 Solicitation Status https://www.fitchratings.com/site/pr/10049288#solicitation Endorsement Policy https://www.fitchratings.com/regulatory
ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTPS://WWW.FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT 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. DIRECTORS AND SHAREHOLDERS RELEVANT INTERESTS ARE AVAILABLE AT HTTPS://WWW.FITCHRATINGS.COM/SITE/REGULATORY. 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.
Copyright © 2018 by Fitch Ratings, Inc., Fitch Ratings Ltd. and its subsidiaries. 33 Whitehall Street, NY, NY 10004. Telephone: 1-800-753-4824, (212) 908-0500. Fax: (212) 480-4435. Reproduction or retransmission in whole or in part is prohibited except by permission. All rights reserved. In issuing and maintaining its ratings and in making other reports (including forecast information), Fitch relies on factual information it receives from issuers and underwriters and from other sources Fitch believes to be credible. Fitch conducts a reasonable investigation of the factual information relied upon by it in accordance with its ratings methodology, and obtains reasonable verification of that information from independent sources, to the extent such sources are available for a given security or in a given jurisdiction. The manner of Fitch's factual investigation and the scope of the third-party verification it obtains will vary depending on the nature of the rated security and its issuer, the requirements and practices in the jurisdiction in which the rated security is offered and sold and/or the issuer is located, the availability and nature of relevant public information, access to the management of the issuer and its advisers, the availability of pre-existing third-party verifications such as audit reports, agreed-upon procedures letters, appraisals, actuarial reports, engineering reports, legal opinions and other reports provided by third parties, the availability of independent and competent third- party verification sources with respect to the particular security or in the particular jurisdiction of the issuer, and a variety of other factors. Users of Fitch's ratings and reports should understand that neither an enhanced factual investigation nor any third-party verification can ensure that all of the information Fitch relies on in connection with a rating or a report will be accurate and complete. Ultimately, the issuer and its advisers are responsible for the accuracy of the information they provide to Fitch and to the market in offering documents and other reports. In issuing its ratings and its reports, Fitch must rely on the work of experts, including independent auditors with respect to financial statements and attorneys with respect to legal and tax matters. Further, ratings and forecasts of financial and other information are inherently forward-looking and embody assumptions and predictions about future events that by their nature cannot be verified as facts. As a result, despite any verification of current facts, ratings and forecasts can be affected by future events or conditions that were not anticipated at the time a rating or forecast was issued or affirmed. The information in this report is provided "as is" without any representation or warranty of any kind, and Fitch does not represent or warrant that the report or any of its contents will meet any of the requirements of a recipient of the report. A Fitch rating is an opinion as to the creditworthiness of a security. This opinion and reports made by Fitch are based on established criteria and methodologies that Fitch is continuously evaluating and updating. Therefore, ratings and reports are the collective work product of Fitch and no individual, or group of individuals, is solely responsible for a rating or a report. The rating does not address the risk of loss due to risks other than credit risk, unless such risk is specifically mentioned. Fitch is not engaged in the offer or sale of any security. All Fitch reports have shared authorship. Individuals identified in a Fitch report were involved in, but are not solely responsible for, the opinions stated therein. The individuals are named for contact purposes only. A report providing a Fitch rating is neither a prospectus nor a substitute for the information assembled, verified and presented to investors by the issuer and its agents in connection with the sale of the securities. Ratings may be changed or withdrawn at any time for any reason in the sole discretion of Fitch. Fitch does not provide investment advice of any sort. Ratings are not a recommendation to buy, sell, or hold any security. Ratings do not comment on the adequacy of market price, the suitability of any security for a particular investor, or the tax-exempt nature or taxability of payments made in respect to any security. Fitch receives fees from issuers, insurers, guarantors, other obligors, and underwriters for rating securities. Such fees generally vary from US$1,000 to US$750,000 (or the applicable currency equivalent) per issue. In certain cases, Fitch will rate all or a number of issues issued by a particular issuer, or insured or guaranteed by a particular insurer or guarantor, for a single annual fee. Such fees are expected to vary from US$10,000 to US$1,500,000 (or the applicable currency equivalent). The assignment, publication, or dissemination of a rating by Fitch shall not constitute a consent by Fitch to use its name as an expert in connection with any registration statement filed under the United States securities laws, the Financial Services and Markets Act of 2000 of the United Kingdom, or the securities laws of any particular jurisdiction. Due to the relative efficiency of electronic publishing and distribution, Fitch research may be available to electronic subscribers up to three days earlier than to print subscribers. For Australia, New Zealand, Taiwan and South Korea only: Fitch Australia Pty Ltd holds an Australian financial services license (AFS license no. 337123) which authorizes it to provide credit ratings to wholesale clients only. Credit ratings information published by Fitch is not intended to be used by persons who are retail clients within the meaning of the Corporations Act 2001 Fitch Ratings, Inc. is registered with the U.S. Securities and Exchange Commission as a Nationally Recognized Statistical Rating Organization (the "NRSRO"). While certain of the NRSRO's credit rating subsidiaries are listed on Item 3 of Form NRSRO and as such are authorized to issue credit ratings on behalf of the NRSRO (see https://www.fitchratings.com/site/regulatory), other credit rating subsidiaries are not listed on Form NRSRO (the "non-NRSROs") and therefore credit ratings issued by those subsidiaries are not issued on behalf of the NRSRO. However, non-NRSRO personnel may participate in determining credit ratings issued by or on behalf of the NRSRO.