Fitch downgraded Bank of Valletta to “BB B-“.The outlook is stable

Fitch Ratings downgrades Bank of Valletta plc (BOV) long-term issuer default rating (IDR) from “BBB” to “BBB-” and downgrades survival rating (VR) from “bbb” to “bbb-” And removed it from Under. Standard observation (UCO). The outlook for the long-term IDR is stable.

The rating action follows the placement of the BOV’s rating on the UCO on November 16, 2021 after Fitch’s updated bank rating criteria were published on November 12, 2021. The updated criteria introduced a fixed weighting scheme for deriving implicit VR from a bank’s key rating driver score. BOV’s VR has been downgraded by one notch to match the implicit VR, as the bank’s business profile and risk profile assessments currently do not justify applying positive adjustments to the implicit VR. increase.

Fitch withdrew the BOV’s support rating of “5” and the support rating floor of “no floor” after the publication of the updated bank rating standards. In line with the updated criteria, we have assigned BOVs a “Unsupported” (ns) Government Support Assessment (GSR).

Main evaluation drivers

The dominant bank of a small country: BOV’s IDR and VR continue to reflect its systematic role and major franchises in Malta, sufficient capital buffers associated with minimum regulatory requirements, stable financing, and solid liquidity. It also reflects the stable asset quality despite the pandemic and the satisfactory profitability that continues to be under pressure from dependence on net interest income and cost inflation.

Risk mitigation continues: BOV has strengthened its risk framework after regulatory agencies have identified some shortcomings. We have acknowledged significant progress so far, but it will take some time before the changes are fully effective, and Malta is a jurisdiction with average exposure to operational and reputational risk. I think some weaknesses remain. Lending standards and securities investment guidelines are prudent and in line with global industry practices.

Stable asset quality: Despite a pandemic of government measures to support the strong recovery of the Maltese economy and the creditworthiness of borrowers, the BOV’s impairment lending ratio improved slightly from 4.7% at the end of 2020 to 4.1% at the end of 2021. BOV also benefited from the recovery and healing of sound impaired loans. BOV has increased provisions for long-term impairment loans and pandemic borrowers, resulting in an appropriate impairment loan coverage of 74%. Asset quality is expected to be generally stable, but sensitive to changes in the operating environment.

Profitability below past levels: BOV profitability in 2021 recovered from pandemic lows, but banks suffered from low interest rates due to a fairly diversified business model, large securities portfolio and excessive liquidity. It was below the past level. As banks invest in risk management, compliance and IT, costs are consistently increasing.

Vulnerable to macroeconomic development: Revenue growth is expected to outweigh cost growth as BOV benefits from continued economic growth in Malta and a stronger placement of products that generate fees. However, macroeconomic uncertainty and inflation due to Malta’s potential permanence being included in the Financial Action Task Force (FATF) graylist has slowed earnings growth, increased loan impairment costs, and And ultimately, it can lead to lower profitability.

Capitalization of relative rating strength: Capitalization is scored as “bbb”, BOV’s common stock Tier 1 (CET1) ratio of 21.9% at the end of 2021 significantly exceeds the minimum regulatory requirements, and the capital burden of unreserved impairment loans is 6%. It reflects what was low. The capital adequacy ratio is expected to be generally stable, as the generation of internal capital should be closely aligned with the growth of risk-weighted assets (RWA).

Concentration, legal risk: Capitalization valuation is constrained by the concentration risk arising from BOV’s nearly exclusive domestic lending books. While capitalization is also exposed to the legal risks arising from the Deiulemar case, as reflected in the governance structure’s ESG relevance score of 4, the bank’s capital buffer is sufficient even in the most unfavorable scenarios. Expected.

Strong deposit base, sufficient liquidity: Financing and liquidity are rating strengths, supported by BOV’s dominant deposit franchise in the country and a deposit base that far exceeds lending. Liquidity is well and conservatively managed, with cash and liquidity government bonds accounting for more than half of total assets.

Untested market access: BOV has historically been limited in funding diversification because it did not have to raise unsecured debt in the wholesale market given its sufficient deposit base. However, banks expect to issue preferred debt in the coming quarters and meet minimum self-financing and eligible debt (MREL) requirements by the end of 2023. We believe that market access has not been tested yet, so increased volatility can be unreliable and costly.

No support: BOV’s “ns” GSR reflects Fitch’s view that external extraordinary sovereign support is possible, but unreliable. If a bank becomes unsustainable, senior creditors can no longer expect full special support from sovereigns. The EU Bank Recovery and Resolution Directive and the Eurozone Bank’s single resolution mechanism provide a framework for bank resolution and, where appropriate, on behalf of or before sovereign-backed banks. Require senior creditors to participate in the loss.

Evaluation sensitivity

Factors that can lead to negative assessment actions / downgrades, individually or collectively:

If the non-performing loan ratio rises to 6% or more over a long period of time, the operating profitability is structurally below 1.5% of RWA, or the CET1 ratio is below 15%, a disadvantageous judgment in the Deiulemar proceedings, for example. May lower the BOV rating. Abnormal capital allocation, large operational losses, or a combination of these.

Factors that may lead to positive rating actions / upgrades, individually or collectively:

The small size of the BOV and its concentration in the domestic market means that the BOV will be significantly higher, generate more diverse revenue, and improve the operating profitability of RWA by more than 2.5%, otherwise the rating increase will be limited. Means that

Upgrades also require a structurally impaired loan ratio of approximately 4%, a CET1 ratio of over 15%, and a solid risk governance record. Even if Malta is removed from the FATF graylist, remains above the European average, banks’ risk needs remain unchanged, and their operational reputation improves significantly, such as providing a good business outlook. , The rating may rise.

The upward revision of the GSR is conditioned on a positive change in the propensity of sovereigns to support banks. In Fitch’s view, this is not impossible, but very unlikely.

VR adjustment

The’bbb-‘business profile score exceeds the implicit score in the’bb’ category for the following adjustment reasons: market position (positive).

The asset quality score for’bbb-‘is higher than the implicit score for the’bb’category for the following adjustment reasons: Non-loan exposure (positive).

The “bbb” capitalization and leverage scores are below the implicit score in the “a” category due to risk profile and business model (negative) adjustments.

The “bbb” funding and liquidity score is below the implicit score in the “a” category for the following adjustment reasons: Non-Deposit Financing (Negative). Fitch downgraded Bank of Valletta to “BB B-“.The outlook is stable

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