Primary Credit Analyst:
Goeksenin Karagoez, FRM, Paris (33) 1-4420-6724; goeksenin.karagoez@standardandpoors.com Secondary Contact:
Magar Kouyoumdjian, London (44) 20-7176-7217; magar.kouyoumdjian@standardandpoors.com
Table Of Contents
Major Rating Factors
Outlook
Rationale
SACP
bb
Anchor
bb-Business
Position Strong +1 Capital and
Earnings Adequate 0 Risk Position Adequate 0
Funding Average
0
Liquidity Adequate
+
Support0
GRE Support 0
Group
Support 0
Sovereign
Support 0
+
AdditionalFactors0
Issuer Credit RatingBB/Positive/B
Major Rating Factors
Strengths: Weaknesses:
• Dominant retail market position in Hungary with solid domestic retail deposit base.
• High net interest margins, which serve as a buffer against elevated impairment costs and special banking taxes.
• High systemic importance in Hungary, and
demonstrated liquidity support from the Hungarian central bank.
• High credit risk abroad, notably in Russia and Ukraine.
• Still sluggish credit demand in Hungary.
• Ongoing and potential new pressure on economic and industry conditions in the eurozone and the riskier Central and Eastern Europe (CEE) markets in which OTP Bank operates.
Outlook: Positive
The positive outlook on OTP Bank PLC and OTP Mortgage Bank takes into account our expectation of more benign operating conditions in Hungary, and to a certain extent, in the rest of the CEE region.
We could raise our ratings on the two banks by one notch, if in the next 12 months, we concluded that conditions in the domestic real estate market and the purchasing power of households had improved, while credit demand picked up, leading to fewer credit risks and better earnings for Hungarian banks.
Conversely, if economic risks for Hungarian banks don't decrease as we currently anticipate over our outlook horizon, we could revise the outlook on OTP Bank to stable. An outlook change to stable could also result from a scenario in which credit risks in Russia and Ukraine remain exceptionally elevated and are accompanied by slower economic recovery or credit growth in Hungary than we currently expect. Trends in Russia and Ukraine remain a key rating component, and depending on how conditions evolve, we could consider either a positive or negative rating action on OTP Bank.
A positive rating action on the foreign currency ratings on Hungary would not automatically trigger a similar action on OTP Bank and OTP Mortgage Bank. Such an action would also require an improvement in OTP Bank's
stand-alone credit profile (SACP), which we believe would come mainly from an overall improvement in the operating environment for Hungarian banks rather than in its own risk features.
Rationale
The ratings on OTP Bank reflect the bank's 'bb-' anchor, as well as its "strong" business position, "adequate" capital and earnings, "adequate" risk position, "average" funding, and "adequate" liquidity, as our criteria define these terms. The bank's SACP is 'bb'. The final issuer credit rating (ICR) on OTP reflects is stand-alone creditworthiness and does not incorporate any kind of support.
We equalize the ratings on OTP Mortgage Bank with those on OTP Bank because of its "core" status. Our view of its status is based on its full ownership by and very close organizational and operational integration with OTP Bank.
Anchor: OTP Bank has significant operations outside its home market of Hungary
Our bank criteria use our Banking Industry Country Risk Assessment (BICRA) economic risk and industry risk scores to determine a bank's anchor, the starting point in assigning an ICR.
OTP Bank has significant operations outside its home market of Hungary, including Bulgaria, Ukraine, Russia, Croatia, Romania, Slovakia, Montenegro, and Serbia. Accordingly, we use a blended economic risk score of close to '8' in our BICRA analysis. We base the blended score on OTP Bank's loan portfolio distribution. The industry risk score of '7' is based on the bank's home market, Hungary. As a result, the bank's anchor is 'bb-'.
After nearly a decade of suppressed demand, the Hungarian economy is recovering on the back of increased export capacity, flattering base effects, and impermanent factors, especially generous EU funds. Continued fiscal
rationalization, a distortionary and unpredictable tax regime, low household confidence, higher poverty levels than the rest of the CEE, and very tight credit conditions, owing the fragility of the banking system, weigh on future growth prospects, in our view. While we believe that bank's asset quality largely bottomed out, we expect systemwide
nonperforming loans (NPL) will remain above 15% in coming two years and accompanied by high risk costs, since coverage by reserves is just adequate. However, this positive trend at home is partly offset by elevated credit risks and uncertainties in Russia and Ukraine, which together account for about 12% of OTP Group's customer loans. This figure is decreasing, however, owing to contracting loan books, write-offs, and depreciating currency in both countries. With regards to industry risk, we believe that years of deleveraging and loss-making, owing to the unpredictable policy framework, and the authorities' unfavorable attitude toward the banking system is coming to an end in Hungary. A brokerage scandal emerged in early 2015 and the failure of close to 10 banks in 2014 indicated once again the gaps not only in the supervision but also in the regulatory coverage and reach. We view Hungarian authorities' recent promise to reduce the heavy tax burden on banks as a good step forward toward a more market friendly environment. Yet, the tax burden will be aligned with EU norms only in 2019 and banks are still dealing with high credit losses. Therefore, we expect that Hungarian banks' earnings will lag behind those of CEE banks. The ongoing deleveraging in the banking system is bringing loan-deposits ratio of the system on par with that of peers. While OTP does not have any foreign shareholders, we continue to view funding support from foreign parent banks as positive for systemwide funding, since this is a more stable external funding source in our view.
Table 1
OTP Bank PLC Key Figures
--Year-ended Dec.
31--(Mil. HUF) 2015* 2014 2013 2012
Adjusted assets 10,555,035 10,812,331 10,187,326 9,875,717 Customer loans (gross) 6,619,561 6,936,084 7,412,800 7,547,047 Adjusted common equity 1,036,713 1,064,845 1,315,611 1,276,804 Operating revenues 194,342 890,582 914,176 830,659 Noninterest expenses 109,271 478,499 523,347 429,336 Core earnings 1,914 130,648 64,108 120,840 *Data as of March 31. HUF--Hungarian forint.
Business position: Dominant competitive position in Hungary
We assess OTP Bank's business position as strong, since it benefits from the bank's dominant competitive position in Hungary and greater geographic diversity than its domestic and foreign peers. At year-end 2014, the group's combined eight foreign subsidiaries accounted for more than 50% of consolidated group loans (see chart 1). It had total assets of Hungarian forint (HUF) 10,714 billion (€34.5 billion) as of March 31, 2015, making it the largest bank in Hungary, with more than 25% market share of domestic banking assets. Supported by a large regional network of about 1,400 branches and a legacy as the state's savings bank, OTP Bank is predominantly a retail-focused institution, as
demonstrated by its about 26% share of the domestic mortgage loan market and total retail deposits as of March 31, 2015. In our view, this business focus reinforces customer and revenue stability. OTP is one of the few Hungarian banks in the country that managed to increase its loan book in recent years--excluding the impact of the conversion of mortgages in foreign currency to forint in 2015--while operating environment remained difficult. This helped the bank weather elevated risk costs in Russia and Ukraine.
Chart 1
OTP Bank's long-term strategy continues to be based on defending its leading retail position in its Hungarian home market and further developing its commercial bank expansion in CEE to leverage long-term growth opportunities in the region. We expect that the losses of the group's banking subsidiaries in Ukraine and Russia will continue to weigh on its earnings, albeit less than last year. The group stopped new lending in Ukraine and remains very selective in Russia. We expect that the current conflict between the two countries will have longer-term strategic implications for the group.
Table 2
OTP Bank PLC Business Position
--Year-ended Dec. 31--(%) 2015* 2014 2013 2012
Return on equity 0.7 (7.4) 4.3 8.3 *Data as of March 31.
Capital and earnings: OTP's capital cushion is sufficient to absorb significant credit costs and anticipated margin contraction
We assess OTP Bank's capital and earnings as adequate. This reflects our expectation that the bank's
improved economic risk score for Hungary), will gradually improve to just above 7.0% over the next 12 to 18 months. Its consolidated Basel-III regulatory Tier-1 capital ratio stood at 13% on March 31, 2015. Our forecast RAC ratio assumes low-single-digit loan growth, a gradual decline in credit losses to less than 250 basis points (bps) in 2016, and a dividend payout of about 30%. We also assume no extraordinary dividends or major acquisitions in our projections. Our assessment also takes into account the strength of OTP Bank's core earnings, which benefit from a combination of strong margins and good geographic diversity. In our view, this should continue to support its capitalization
throughout the business cycle, despite suffering short-term setbacks due to one-time costs in its home market as well as stressed economic outlooks with some overseas subsidiaries.
Indeed, core earnings have enabled the bank to absorb significantly elevated credit costs above its normalized losses (109 bps) and new taxes in recent years without incurring any losses or hampering its capitalization. Although this was not the cases in 2014, since the group had to provision for one-time incidents in Hungary (principally due to refunds following rulings in favor of customers) and in Ukraine (operations in the region annexed to Russia) and reported a large loss equivalent to 10% of its capital base. We believe that the group has left the worst behind with regard to credit losses or heavy tax burdens, notably in Hungary, and we anticipate the bank to return to black in 2015, albeit at a suppressed level as in recent years.
Table 3
OTP Bank PLC Capital And Earnings
--Year-ended Dec.
31--(%) 2015* 2014 2013 2012
Tier 1 capital ratio 13.0 14.1 17.4 16.1 S&P RAC ratio before diversification N.M. N.M. 7.5 8.5 S&P RAC ratio after diversification N.M. N.M. 7.6 8.8 Adjusted common equity/total adjusted capital 100 100 100 100 Net interest income/operating revenues 72.9 71.4 71.5 77.7 Fee income/operating revenues 25.3 24.2 22.1 18.6 Market-sensitive income/operating revenues 4.4 2.3 3.4 0.5 Noninterest expenses/operating revenues 56.2 53.7 57.2 51.7 Preprovision operating income/average assets 3.1 3.9 3.8 4.0 Core earnings/average managed assets 0.1 1.2 0.6 1.2 *Data as of March 31. N.M.--Not meaningful. RAC--Risk-adjusted capital.
Table 4
OTP Bank PLC Risk-Adjusted Capital Framework Data
(Mil. HUF) Exposure* Basel II RWA
Average Basel II RW (%)
Standard & Poor's RWA
Average Standard & Poor's RW (%) Credit risk
Government and central banks 3,719,932 122,125 3 2,928,591 79 Institutions 706,482 296,738 42 365,851 52 Corporate 1,683,917 1,634,538 97 3,056,283 181 Retail 4,235,262 2,665,938 63 4,565,253 108 Of which mortgage 2,305,836 1,310,250 57 1,610,803 70
Table 4
OTP Bank PLC Risk-Adjusted Capital Framework Data (cont.)
Securitization§ 0 0 0 0 0
Other assets 986,313 822,700 83 2,364,969 240 Total credit risk 11,331,906 5,542,038 49 13,280,947 117
Market risk
Equity in the banking book† 64,568 43,750 106 576,100 892 Trading book market risk -- 335,600 -- 503,400 --Total market risk -- 379,350 -- 1,079,500
--Insurance risk
Total insurance risk -- -- -- 0
--Operational risk
Total operational risk -- 897,925 -- 1,940,222
--(Mil. HUF) Basel II RWA
Standard & Poor's RWA
% of Standard & Poor's RWA Diversification adjustments
RWA before diversification 6,819,313 16,300,668 100 Total Diversification/Concentration
Adjustments
-- 475,125 3 RWA after diversification 6,819,313 16,775,793 103
(Mil. HUF) Tier 1 capital Tier 1 ratio (%)
Total adjusted capital
Standard & Poor's RAC ratio (%) Capital ratio
Capital ratio before adjustments 969,935 14.2 1,064,845 6.5 Capital ratio after adjustments‡ 969,935 14.1 1,064,845 6.3 *Exposure at default. §Includes the securitization tranches deducted from capital in the regulatory framework. †Exposure and Standard & Poor's risk-weighted assets for equity in the banking book include minority equity holdings in financial institutions. ‡Adjustments to Tier 1 ratio are additional regulatory requirements (e.g., transitional floor or Pillar 2 add-ons). RWA--Risk-weighted assets. RW--Risk weight. RAC--Risk-adjusted capital. HUF--Hungary forint. Sources: Company data as of Dec. 31, 2014, Standard & Poor's.
Risk position: Renewed asset quality pressure from some overseas operations
We assess OTP Bank's risk position as adequate, reflecting our view that the bank is on par with other banks operating in regions with similar economic risk in terms of its track record of losses and asset quality (see chart 2). OTP Bank incurred high credit losses in the past five years, because its loan portfolios--particularly through foreign currency mortgages--had rapidly expanded before the 2008 global crisis, notably in case of some of its Eastern European subsidiaries. The conflict between Ukraine and Russia has only worsened the problems. While we expect a meaningful improvement of the overall asset quality metrics, we monitor the evolution of the group's credit composition by different geographic regions as well as by lending type (unsecured, corporate, small and midsize enterprise, and retail), since this could alter its credit risk profile.
Chart 2
Market risk is limited, because OTP Bank has no exposure to structured investments and hedges most of its foreign currency and interest rate risk. This strategy relies on the swap markets functioning adequately. Market risk is
concentrated mostly at the parent level. OTP Bank has separate limits for active treasury (only at headquarters and the Bulgarian subsidiary) and passive treasury (at all other subsidiaries). Tight limitation of passive treasury ensures smooth management of positions from banking activities, in our view. OTP Bank provides its subsidiaries with fixed or floating internal loans to match the repricing characteristics of their loan books, thereby mitigating interest rate risk. OTP Bank closes trading positions and adjusts the repricing structure of external debt to hedge interest rate risk at the group level. Investments in network banks are partly hedged against foreign exchange risk.
Table 5
OTP Bank PLC Risk Position
--Year-ended Dec.
31--(%) 2015* 2014 2013 2012
Growth in customer loans (18.3) (6.4) (1.8) (6.2) Total diversification adjustment/S&P RWA before diversification N.M. N.M. (1.4) (2.6) Total managed assets/adjusted common equity (x) 10.3 10.3 7.9 7.9 New loan loss provisions/average customer loans 3.6 4.2 3.5 2.9
Table 5
OTP Bank PLC Risk Position (cont.)
Net charge-offs/average customer loans N.M. (4.5) (5.5) (6.0) Gross nonperforming assets/customer loans + other real estate owned 18.4 19.3 19.8 19.1 Loan loss reserves/gross nonperforming assets 88.8 84.3 84.2 80.1 *Data as of March 31. N.M.--Not meaningful. RWA--Risk-weighted assets.
Funding and liquidity: OTP retains a strong retail funding base and a good level of liquid assets
We asses OTP Bank's funding as average and liquidity as adequate. Our assessment of funding largely reflects its stable funding ratio which has stood comfortably above 100% over the past four years and exhibited a positive trend (see chart 3). Its loan-to-deposit ratio has been decreasing for more than four years now and stood at 79% on March 31, 2015. When retail bonds are included in the denominator, the ratio is less than 75%. While this is partly due to the ongoing deleveraging since 2008, OTP Bank has limited reliance on foreign funding thanks to a strong domestic retail franchise, which allows a solid granular retail deposit base. As a domestically owned bank, it has no parent funding either, which differentiates it from peers in the region where foreign ownership is significant. OTP Bank's deposit base has shown resilience during periods of economic stress. OTP Bank's mortgage bank subsidiary funds its operations principally through issuance of covered bonds, which are partly bought by the bank.
Our assessment of OTP Bank's liquidity to a large extent reflects the adequate coverage of short-term wholesale funding needs by broad liquid assets (4.3x as of the first half of 2014). The bank retains excess liquidity with a strong level of liquid assets, mainly in the form of cash and government bonds, equivalent to almost one-third of its total assets. Refinancing requirements over the next several years are low. To better exploit group synergies, OTP Bank has created a shared liquidity pool.
Table 6
OTP Bank PLC Funding And Liquidity
--Year-ended Dec.
31--(%) 2015* 2014 2013 2012
Core deposits/funding base 80.0 86.0 82.2 81.9 Customer loans (net)/customer deposits 78.7 75.7 90.0 97.6 Long-term funding ratio 88.5 94.1 91.6 93.8 Stable funding ratio 131.4 137.1 122.6 118.1 Short-term wholesale funding/funding base 6.8 6.6 9.7 7.2 Broad liquid assets/short-term wholesale funding (x) 6.3 6.4 3.7 4.3 Net broad liquid assets/short-term customer deposits 46.8 43.2 32.6 30.4 Short-term wholesale funding/total wholesale funding 34.0 47.5 54.6 39.7 Narrow liquid assets/3-month wholesale funding (x) 7.6 7.8 5.4 9.5 *Data as of March 31.
External support: No notches of uplift to the SACP
In our view, OTP Bank has "high systemic importance," in Hungary, however, this does not result in any uplift to the ICR, since the SACP is at the same level as the rating on the sovereign. It should be noted that our current supportive classification of the Hungarian government might change in light of recent BRRD implementation in Hungary but this would have no implications on OTP's ratings, everything else being the same.
We consider OTP Bank's ownership to be a neutral rating factor, because the bank is publicly traded with no strategic majority shareholder. Its shares are widely held by foreign and, much less so, domestic institutional and private investors. The government holds a stake of less than 1% following the conversion of its former golden share into ordinary shares.
Additional rating factors: None
No additional factors affect the ratings on OTP Bank.
OTP Mortgage Bank
We have equalized the ratings on OTP Mortgage Bank with those on OTP Bank because of its core status. Our view of its status is based on its full ownership and very close organizational and operational integration with its parent. OTP Bank operates OTP Mortgage Bank like a branch that specializes in refinancing residential mortgages originated by OTP Bank. OTP Mortgage Bank has a leading position in retail mortgage lending in Hungary, with 26% of all mortgage loans in the country (as of year-end 2014). OTP Bank is obliged to repurchase any NPLs at face value when a loan is more than 90 days in arrears. We believe OTP Mortgage Bank's return on assets could remain very low, due to the high guarantee and administrative fees paid to the parent coupled with sizable funding costs, but its return is largely
protected against credit risk. The capital allocated to OTP Mortgage Bank is only moderate, which raises no major concerns for us, because we believe that OTP Bank is highly likely to support its core subsidiary, if necessary, as it was the case in 2014.
Related Criteria And Research
Related Criteria
• Revised Market Risk Charges For Banks In Our Risk-Adjusted Capital Framework, June 22, 2012
• Banks: Rating Methodology And Assumptions, Nov. 9, 2011
• Banking Industry Country Risk Assessment Methodology And Assumptions, Nov. 9, 2011
• Group Rating Methodology And Assumptions, Nov. 9, 2011
• Bank Capital Methodology And Assumptions, Dec. 6, 2010
• Use Of CreditWatch And Outlooks, Sept. 14, 2009
• Commercial Paper I: Banks, March 23, 2004
Related Research
• Outlooks On Three Hungarian Banks Revised To Positive On Subsiding Economic Risks; Ratings Affirmed, May 18, 2015
• Hungary Long-Term Rating Raised To 'BB+' On Reduced External Vulnerability; Outlook Stable, March 20, 2015
• OTP Bank Outlook Now Stable On Asset-Quality-Deterioration Buffers And Stabilizing Hungarian Economy; Affirmed At 'BB/B', June 20, 2014
Anchor Matrix Industry
Risk
Economic Risk
1 2 3 4 5 6 7 8 9 10 1 a a a- bbb+ bbb+ bbb - - - -2 a a- a- bbb+ bbb bbb bbb- - - -3 a- a- bbb+ bbb+ bbb bbb- bbb- bb+ - -4 bbb+ bbb+ bbb+ bbb bbb bbb- bb+ bb bb -5 bbb+ bbb bbb bbb bbb- bbb- bb+ bb bb- b+ 6 bbb bbb bbb- bbb- bbb- bb+ bb bb bb- b+
7 - bbb- bbb- bb+ bb+ bb bb bb- b+ b+
8 - - bb+ bb bb bb bb- bb- b+ b 9 - - - bb bb- bb- b+ b+ b+ b 10 - - - - b+ b+ b+ b b
b-Ratings Detail (As Of September 2, 2015)
OTP Bank PLC
Counterparty Credit Rating BB/Positive/B
Senior Unsecured BB
Short-Term Debt B
Counterparty Credit Ratings History
Ratings Detail (As Of September 2, 2015) (cont.)
20-Jun-2014 BB/Stable/B
22-Mar-2013 BB/Negative/B
27-Nov-2012 BB/Stable/B
23-Dec-2011 BB+/Negative/B
15-Nov-2011 BBB-/Watch Neg/A-3
24-Mar-2011 BBB-/Negative/A-3
Sovereign Rating
Hungary BB+/Stable/B
Related Entities OTP Mortgage Bank
Issuer Credit Rating BB/Positive/B
*Unless otherwise noted, all ratings in this report are global scale ratings. Standard & Poor's credit ratings on the global scale are comparable across countries. Standard & Poor's credit ratings on a national scale are relative to obligors or obligations within that specific country. Issue and debt ratings could include debt guaranteed by another entity, and rated debt that an entity guarantees.
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