Credit watcher Fitch Ratings said Philippine banks’ viability ratings (VRs) are vulnerable to downgrades if the economy fails to lift off this year, resulting to further deterioration of assets and loan quality amid a weak operating environment.
“We see more prominent risks of a VR downgrade for the three largest banks, as their VRs are currently higher than the assigned operating environment score of 'bb+',” said Fitch in its latest banking update report, “Philippine Banks: 2020 Asset Quality Analysis”.
The country’s three biggest universal and commercial banks are BDO Unibank Inc., Metropolitan Bank and Trust Co. and Bank of the Philippine Islands – all of these banks have “bb+/negative” scores, reflecting the pandemic-hit banks’ impaired loan ratio.
“Conversely, Fitch may revise the outlook on the bank's asset quality scores to stable if we think a sustained economic recovery is more likely to persist beyond the near term. All of the rated banks' IDRs (issuer default rating) are driven by our expectation of sovereign support; hence, a negative revision in VRs will not necessarily lead to a downgrade in their IDRs unless our assessment of the likelihood of state support also weakens,” Fitch explained.
Still, Fitch added – “we may downgrade the banks' asset quality scores within the next few quarters if weaker-than-expected economic conditions persist.” Fitch is projecting GDP to bounce back to 6.9 percent this year from a 9.5 percent contraction in 2020.
Banks’ asset quality and risk appetite are “key rating drivers” for all of the Fitch-rated local banks. It noted in the report that negative revisions “would have a heavy bearing on the banks' VRs, as weaker asset quality could result in a further weakening in financial performance and potentially loss-absorption buffers.”
“Fitch takes a forward-looking approach when assessing the banks' asset quality. Their asset quality scores have limited headroom, as we expect most banks’ NPL (non-performing loan) ratios to exceed three percent for a sustained period. This underpins our negative outlook on the scores,” said the credit rating agency.
In the meantime, Fitch said the newly-signed Financial Institution Strategic Transfer (FIST) law will reduce banks’ gross NPLs retained on their balance sheets – “though the pace of disposals may continue to hinge on economic recovery momentum.”
“Losses from sales of NPLs to SPVs (special purpose vehicles) may be amortised over five years, smoothening the impact on banks' profitability and enabling a speedier recovery. The major banks continue to be adequately profitable in their core operations and will be able to employ more aggressive write-offs and sell their bad assets to these SPVs,” noted Fitch. “This could position the banks for a quicker recovery after the crisis if the NPL transfers can be successfully executed at reasonable market prices.”
Fitch said that with borrowers hardpressed to pay for their loans after grace periods provided in the two Bayanihan laws – and since unlike other markets with more “aggressive fiscal stimuli (which) have resulted in larger cash handouts and stronger employment support”, the situation in the Philippines is looking at a “potentially steeper asset quality deterioration” in the first half this year than in 2020.
Fitch said NPL ratio could rise to 4.5 percent to five percent by end-2021. It noted that the reported asset quality metrics “still understate the underlying deterioration in borrowers' repayment capacity, despite the significant increase in NPLs in 2020” of 3.7 percent versus 2.1 percent in pre-pandemic 2019. The two Bayanihan laws “helped to mask credit impairments”.
Fitch also expect the banking system's non-performing asset ratio, which includes real and other properties acquired or ROPA (foreclosed properties) will climb to 5.5 percent to six percent by end-2021 from 4.6 percent in 2020 and 3.1 percent in 2019. “Most large banks in the Philippines boosted their loan-loss reserves in 2020 in anticipation of weakening asset quality, which should help to limit further impairment risk. We expect credit costs to remain elevated in the near term amid faster NPL recognition and higher write-offs, despite the likely tapering of impairment charges in 2021,” said Fitch.