NEW YORK, November 26 (Fitch) Brazil's three largest public banks are grappling with an increasingly challenging economic environment, which resulted in material slowdowns in loan growth at two of the three institutions in the third quarter, says Fitch Ratings.
Each bank, including Caixa, Banco do Brasil, and BNDES, is vulnerable to weakening asset quality over the next year. However, as loan growth eases from a protracted period of very high double-digit increases, the banks' capitalization levels are less prone to significant deterioration, adds Fitch.
The slowdown in loan growth for Caixa and Banco do Brasil is consistent with Fitch's expectations, as lower loan demand is to be anticipated amid an environment where our estimation of the country's GDP growth in 2014 is now just under 0.5%. Caixa's year-over-year loan growth for the period ending 3Q14 was 24.4%, down from six consecutive calendar years of loan growth in the 40%-45% range. Banco do Brasil's loan growth slipped to 13.2% year-over-year for the period ending 3Q 2014, down from 18.6% over twelve month period ending Dec 2013. BNDES finished 3Q 2014 with 14.2% loan growth, roughly equal to that achieved over the year ending Dec 2013.
As of 3Q14, the capitalization levels of all three public banks were adequate, and, in our view, relatively lower loan growth will ease potential pressures on capitalization levels going forward. Caixa, which was particularly affected by very high paced growth, had a comfortable Core Equity Tier I ratio of 12.9% at quarter end. Banco do Brasil's capital base (Core Equity Tier I of 9.3% at quarter end) will benefit from the recently announced joint venture with Cielo S.A. (Brazil's leading merchant acquiring and payment processing company), which will increase its Core Equity Tier 1 ratio by 40 basis points on a pro-forma basis.
The capitalization ratios of all of the banks benefitted from the conversion of legacy Tier 1 hybrid capital instruments held by the Treasury to Basel III compliant Core Equity Tier 1 hybrids in 2014. Caixa benefitted most from this conversion because the amount converted was higher than other banks and because its capital had been pressured more significantly from years of rapid growth.
Reduction of risk weights of certain type of loans in 3Q14 also helped capitalization ratios. These changes also compensated for the burden exerted on the capitalization of Caixa and BNDES (Core Equity Tier I of 12.3% at quarter end) by high dividend payouts to the federal government over the last four to five years, as well as their lower internal capital generation capacity relative to their large private peers.
Third quarter results for the big three public banks continued to reinforce our expectation that there will be a gradual deterioration in their asset quality over the next year. As of 3Q14, both Banco do Brasil's and Caixa's NPLs (> 90 days) at 2.1% and 2.7%, respectively, were above end-2013 figures, although overall the upticks are under control.
BNDES has so far been an exception to this asset quality deterioration trend, as its reported asset quality numbers remain strong (overall NPLs > 90 days of < 0.1%). However, this should be viewed within the context of their high loan concentration by borrower, which suggest that credit costs could rise sharply in the event that one or more borrowers face difficulties under a sharper economic deterioration.
With expectations of only a moderate recovery in economic growth, it is likely that profits of these banks will see modest pressures. The banks' profitability could come under more strain if the operating environment deteriorates more than expected and leads to an increase in unemployment rate, particularly in the case of Banco do Brasil and Caixa, which are highly exposed to retail segments. BNDES is more exposed to a downturn in the infrastructure and industrial sectors. Pressures stemming from potential deterioration in the large corporate portfolio due to a myriad of factors could also impact these banks' asset quality and profitability during 2015.
Fitch believes that any return to very high loan growth, or worse than expected internal capital generation could trigger a need for parental support.
