Moody’s downgrades ratings of five Pakistani banks

ISLAMABAD: Moody's Investors Service on Friday downgraded the long-term deposit ratings of five Pakistani banks from Caa1 to Caa3. 

These banks include Allied Bank Limited (ABL), Habib Bank Ltd. (HBL), MCB Bank Limited (MCB), National Bank of Pakistan (NBP) and United Bank Ltd. (UBL). The five banks' long-term foreign currency Counterparty Risk Ratings (CRRs) has also been downgraded to Caa3 from Caa1. 

As part of the same rating action, Moody's also lowered the five banks' Baseline Credit Assessments (BCAs) to Caa3 from Caa1, and as a result also downgraded their local currency long-term CRRs to Caa2 from B3, as well as their long-term Counterparty Risk Assessments to Caa2(cr) from B3(cr). The outlook on all banks' long-term bank deposit ratings has been changed to stable from negative.

The move comes just a few days after Moody's had downgraded Pakistan's credit rating to Caa3 from Caa1, to reflect Moody's assessment that Pakistan's increasingly fragile liquidity and external position significantly raises default risks.

Why the downgrade?

The downgrade of the long-term ratings of the five Pakistani banks reflects (1) the weakening operating environment, as captured by Moody's lowering of its Macro Profile for Pakistan to "Very Weak" from "Very Weak+"; and (2) the high interlinkages between the sovereign's weakened creditworthiness – as indicated by the downgrade of the sovereign rating to Caa3 from Caa1 – and the banks' balance sheets, given the banks' significant holdings of sovereign debt securities.

The deterioration in Pakistan's operating environment reflects both the rising government liquidity and external vulnerability risks, with foreign exchange reserves declining to critically low levels, as well as the high costs of living with headline inflation likely to rise further as energy prices increase in tandem with the removal of energy subsidies. According to Moody's, the combination of these factors, together with the high interest rates, will dampen consumer confidence and compromise borrowers' repayment capacity. In turn, these factors will pressure banks' earnings, asset quality and capital metrics, and also potentially jeopardise financial stability. These pressures have led to the lowering of the country's Macro Profile to Very Weak from Very Weak+.

According to Moody's, the banks' high sovereign exposure, mainly in the form of government debt securities that range between 36%-61% of their total assets, also links their credit profile to that of the government. In view of the correlation between sovereign and bank credit risk, these banks' standalone credit profiles and ratings are effectively constrained by the Caa3 rating of the government.

The stable outlooks assigned to all the banks' long-term deposit ratings are in line with the stable outlook on government of Pakistan. The stable outlook further reflects banks' stable local currency funding and liquidity and resilient earnings-generating capacity that partly mitigate macro- and sovereign-driven risks.

The ratings could be upgraded following a material strengthening of the operating environment and in the government's credit profile, and provided that the banks maintain their resilient financial performance.

Pakistani banks' ratings could be downgraded if the sovereign rating is downgraded, given the banks' sizeable holdings of sovereign debt securities. Downward pressure on the BCAs of individual banks could also develop from a deterioration in banks' financial metrics, in particular their asset quality, profitability, and capital adequacy.