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Aug 7 (Reuters) - (The following statement was released by the rating agency)
Fitch Ratings says HSBC Holdings PLC's latest results are solid. The bank'sinternal common equity Tier 1 ratio target of greater than 10% is in line with current ratingsas it is enhanced by reliable income generation from diversified operations. Steady revenues andstrategic discipline provide essential buffers against sustained significant litigation and regulatory risks, and emerging risks from asset deterioration and potential macroeconomic instability in some markets.
Risks from legal proceedings, regulatory matters and customer remediation could result in a downgrade if they contributed to a material decline in the group's capital. At present, the group has set aside USD2.1bn for customer remediation and USD1.7bn against identified potential legal fines of USD6.3bn.
The bank remains exposed to un-quantified and thus un-provisioned cases (such as regulatory investigations and private lawsuits related to rate setting, Madoff-related activities, US taxes) and higher than expected losses from its US mortgage operations. HSBC sold US mortgages of USD24bn to various third parties during 2005-2007 of which USD6.9bn remained outstanding at end-June 2013 and which could lead to damages of USD2.8bn.
Fitch expects that loan impairment charges due to slower economic growth and cyclical asset deterioration - as already indicated by rising risk weighted assets in respect of credit risks measured under the IRB approach - would not dent profitability beyond HSBC's risk tolerance limit of 15% of operating income over the next six-12 months (H113: 8%). Credit costs, in particular in Asia-Pacific, will eventually accelerate and, in Fitch's opinion, pressing ahead with enforcing the strategic position of its underperforming segments North America, Europe, Latin-America and the Global Private Bank division remains key to staying below that 15% threshold over the medium term.
Competition, easing loan demand and conservative risk and compliance standards will impede accelerated volume growth. Fitch does not necessarily view the lack of the latter as a negative as long as cost control and strong global customer relationships deliver sustainable income. Revenue contributions from less volatile financial markets activities such as foreign exchange, securities and transaction services and payment and cash management activities slightly recovered to 37% of the Global Banking and Market division's revenues from 32% in Q113 (2012: 40%). Contributions from credit and rates activities remain volatile and halved in Q2 compared to Q1 due to market expectations for tighter monetary conditions.
Steady performance in Hong Kong (7.1% return on risk weighted assets) and the rest of Asia-Pacific (3.6%) combined with the absence of large one off litigation items enable the bank for the first time to exceeded its 10% benchmark cost of capital resulting in an economic profit of USD1.4bn in H113.
Fitch Core Capital relative to Basel III risk weighted assets was 10.6% at end-June 2013 (2012: 10.1%). The regulatory common equity Tier 1 ratio would be 10.1% if Basel III rules were already implemented which makes HSBC one of four European global trading and universal banks (GTUBs) that report ratios above 10%. Its leverage ratio of 4.1% is stronger than that of European peers.
The group reported underlying revenues and profit before tax of USD33.3bn and USD13.1bn in H113, respectively (H112: USD32.1bn and USD8.9bn). Muted revenue growth is a result of prevailing low interest rates, spread compression and the sale of run-off portfolios.
HSBC's activities in Europe have returned to profitability as the bank has benefitted from reduced provisions for customer remediation and falling costs of retail savings while loan impairment charges on its rapidly growing UK mortgages have fallen to low levels.
