UK Banks Remain Resilient In Limbo State In Run Up To Brexit - S&P

(Alliance News) - S&P Global said UK banks remain resilient despite the prolonged state of political and economic "limbo" in the country.

The ratings agency said the largest banks have remained resilient in the run up to Brexit.

Standard & Poor's holds an A+ credit profile rating for HSBC, BBB+ for Barclays, A- for Lloyds and BBB+ for RBS.

"Recent half-year results from the major UK banks show robust asset quality metrics, stable capital, and healthy liquidity and funding. Together, these strengths provide a stable foundation from which to weather uncertainties arising from the outcome of Brexit, or other factors such as trade tensions threatening a global economic slowdown," S&P said.

S&P said its ratings for the large UK banks remains "appropriate", but is acutely aware of the "more nuanced" operating environment.

"UK banks have generally delivered stable earnings in the first half, although lower profitability could result from pressure on net interest margins and slowing loan demand. Capital distributions have increased in most cases as banks look to prioritize investor returns during a broadly benign period in which common equity Tier 1 ratios have either increased or end-state targets have been maintained," the ratings agency said.

S&P is taking solace in the views from the management of the top banks suggesting "more risk-averse" behaviour, intending to "aggressively" cuts costs rather than increase risk appetite.

The ongoing worry for UK lenders, however, is the "relentless" mortgage market competition, S&P said.

S&P commented: "Aggressive redeployment of deposits into the mortgage market owing to ring-fencing policy has exacerbated the 'lower for longer' global rates theme in the UK. Increased participation from non-traditional players such as equity release and other fintech are also compounding competition. We expect political and economic uncertainty to delay any potential Bank of England rate hike and with that relief in margin pressure."

The effect of this increased competition and pressure in the mortgage market is driving net interest margins lower. S&P said this pressure could "intensify" as "additional headwinds emerge".

"Exceptionally low and inverting yield curves, and higher standard variable rate attrition, have accelerated the pace of net interest margin erosion beyond that induced by deployment of trapped liquidity by ring-fenced banks," S&P added. "With further political uncertainty and an elevated risk of deteriorating global growth likely in the second half of 2019, there are numerous earnings headwinds to overcome."

S&P's best case scenario forecast for UK banks assumes the UK leaves the EU with a deal, and expects to keep its ratings stable in this scenario. The current ratings are unlikely to withstand a "disruptive" Brexit, however.

"Banks are ultimately a function of the economy that they serve. For investment-grade ratings, we take a long-term view of an entity's creditworthiness and expect that a highly rated bank can withstand a typical recession, perhaps with only a one-notch downgrade during the period, absent bank-specific problems. Our generally supportive view of UK bank capitalization, asset quality, and funding and liquidity profiles supports this expectation," said S&P.

A no-deal Brexit scenario that results in "severe macroeconomic weakness", however, could lead to rising personal and corporate UK insolvencies and weaker collateral values. This will eventually result in bank asset quality undermining earnings, S&P noted.

S&P added: "In that kind of no-deal scenario, we see outlook revisions as more likely than downgrades in the near term and, in our view, these factors would be relatively greater for smaller lenders given their business focus on UK retail banking or property-related lending."