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Fitch Downgrades Kazakh Policy Institutions on Sovereign Rating Action
Fitch Ratings has downgraded Development Bank of Kazakhstan's (DBK) Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) to 'BBB-' from 'BBB' and 'BBB+', respectively, and House Construction and Savings Bank of Kazakhstan's (HSCBK) Long-Term Local Currency IDR to 'BBB-' from 'BBB+'. The agency has also downgraded the Long-Term IDRs of KazAgroFinance (KAF) to 'BB+' from 'BBB-'. The Outlooks are Stable. A full list of rating actions is available at the end of this commentary.
The downgrades of these institutions are driven by Fitch's recent actions on Kazakhstan's sovereign ratings (see 'Fitch Downgrades Kazakhstan to 'BBB'; Outlook Stable', dated April 29, 2016, at www.fitchratings.com).
Fitch has assigned KAF's planned KZT77bn Series 1 senior unsecured debt issue under its second bond programme an expected Long-term rating of 'BB+(EXP)' and National rating of 'AA(kaz)(EXP)'.
KEY RATING DRIVERS - DBK and HCSBK
The Long-Term IDRs of DBK and HCSBK are based on their 'BBB-' Support Rating Floors (SRF), which reflect Fitch's view of the high probability of state support, if needed, for both institutions. This view is primarily based on (i) the banks' 100% ultimate sovereign ownership and (ii) their important policy roles in the development of, respectively, non-extracting economic sectors and the house savings and mortgage system in Kazakhstan.
In assessing support, Fitch also views positively (i) the moderate cost of any support that might be required by each of the institutions relative to sovereign financial resources, even allowing for considerable future growth; (ii) potential adverse economic or social consequences of a failure by the authorities to provide support, including in respect to other quasi-sovereign entities' access to, and cost of, foreign capital; and (iii) a track record of state funding and equity injections to support the banks' expansion to date.
The one-notch differential between the banks' 'BBB-' Long-Term IDRs and the sovereign's 'BBB' ratings reflects primarily (i) moderate risks stemming from indirect state ownership of DBK and HCSBK through JSC National Management Holding Baiterek ('BBB'/Stable); and (ii) loose government supervision of both banks. Baiterek's own financial resources are limited, giving rise to moderate risk of delays with receipt and pass-through of sovereign support. No government officials sit on the banks' boards of directors, and DBK is exempt from regulatory oversight by the National Bank of Kazakhstan.
The one-notch differential also captures (i) significant leverage at DBK, which is funded mainly by external borrowings; (ii) the absence of a special legal status for HCSBK; and (iii) the moderate risk that the sovereign could cease providing full support to all quasi-sovereign entities before defaulting on its own obligations in a stress scenario, given the sizable debt of Kazakh quasi-sovereigns.
The probability of DBK requiring support is significant in light of its material, albeit recently stable, wholesale third-party debt (USD4.3bn or 85% of liabilities at end-2015), moderate capital buffer (15% Fitch Core Capital (FCC)/risk-weighted assets (RWAs) ratio at end-2015, moderately down from 19% at end-2014) and significant foreign-currency loans (70% of gross loans at end-2015) predominantly to high-risk development projects. Nevertheless, the Kazakh government still has the ability, in Fitch's view, to support DBK given that the bank's third-party wholesale obligations at end-2015 were equal to a moderate 3.8% of Kazakhstan's GDP or 5% of sovereign reserves.
HCSBK is less likely, in Fitch's view, to need support in the medium term in light of its solid loan quality (0.5% non-performing loan ratio at end-1Q16) and strong capital buffer (55% FCC ratio at end-2015). The bank's small size (USD1.4bn equal to 0.3% of GDP or 0.4% of sovereign reserves at end-2015), limited third-party non-deposit liabilities and low balance-sheet dollarisation should also help to reduce support requirements. However, Fitch expects the bank's reliance on state funding (17% of total liabilities at end-2015) and subsidies to grow over the longer term as early-stage mortgage savings programmes mature.
Fitch believes the authorities' plans to partially privatise HCSBK will not significantly affect the state's support propensity, given the intention to retain a controlling stake in the bank and maintain its policy role. Fitch has not assigned a Long-Term Foreign Currency IDR to HCSBK due to its immaterial foreign currency operations.
KEY RATING DRIVERS - KAF
KAF's 'BB+' Long-Term IDRs are based on Fitch's view of the moderate probability of state support to the company given its policy role in provision of state-subsidised financial leasing and project financing to the agricultural sector.
KAF's ratings are also supported by (i) the authorities' track record of providing funding and capital to the company; (ii) the limited cost for the sovereign of any support that might be required due to KAF's small size (0.7% of GDP, 0.9% of sovereign reserves at end-2015); and (iii) cross-default linkage with its owner, KazAgro National management holding JSC ('BBB-'/Negative). At end-2015, KAF firmly qualified as a 'material subsidiary' (25% of consolidated assets vs. the required 10%) under the cross-default clause of the parent's outstanding USD2bn Eurobond issue, and Fitch believes this would provide an added incentive to provide support to the company.
KAF's lower rating level compared with DBK and HCSBK primarily reflects (i) Fitch's view of KAF's somewhat lesser importance for the country's economy and financial system; and (ii) the likelihood that parent KazAgro will be downgraded to 'BB+', as reflected by the Negative Outlook on its ratings. 
KAF's ratings also consider (i) the company's significant foreign wholesale obligations (16% of total liabilities at end-2015); and (ii) the indirect state ownership of the company through KazAgro, which may have negative implications for the timeliness and sufficiency of state support, especially if the state needs to prioritise support among quasi-sovereigns.
The probability of the company requiring state support in the future is significant considering its operations in the vulnerable agricultural sector. Non-performing and restructured loans/leases comprised a high 11% and 15% of gross exposures at end-2015, respectively, although asset quality is supported to a degree by low foreign-currency lending, solid collateral coverage and state subsidies to borrowers/lessees. Impairment reserves covered 9% of gross exposures, while the depreciation-driven revaluation of imported and subsequently leased equipment has further boosted collateral coverage of KAF's portfolio.
The company's capitalisation remains adequate (37% FCC ratio at end-2015, down moderately from 44% at end-2014, mainly due to FX losses), providing significant loss absorption capacity. KAF's government and parental non-equity funding comprised a sizable 74% of liabilities at end-2015, and could be converted into equity, if needed.
RATING SENSITIVITIES
The Long-Term IDRs for DBK and HCSBK are likely to remain one notch below the sovereign and for KAF two notches below. The Long-Term IDRs of all three institutions are likely to move in tandem with the sovereign ratings.
The ratings of DBK or HCSBK could be upgraded and equalised with the sovereign if (i) the banks become directly owned by the government and the state officials become more directly involved in the oversight of the institutions; or (ii) the government replaces or guarantees most of the banks' funding. A marked weakening of policy roles or association with the sovereign could result in negative rating actions. However, neither scenario is currently expected by Fitch.
DBK's ratings could also come under downward pressure if leverage increases markedly and asset quality deteriorates sharply without adequate capital support from the authorities.
KAF's Long-Term IDRs could be downgraded if the authorities' plan to privatise the company, the implementation of which is highly uncertain at present, leads to a weakening of KAF's connection with the Kazakh government.
The rating actions are as follows:
DBK
Long-Term Local Currency IDR: downgraded to 'BBB-' from 'BBB+'; Outlook Stable
Short-Term Local Currency IDR: downgraded to 'F3' from 'F2'
Long-Term Foreign Currency IDR: downgraded to 'BBB-' from 'BBB'; Outlook Stable
Short-Term Foreign Currency IDR: affirmed at 'F3'
Support Rating: affirmed at '2'
Support Rating Floor: revised to 'BBB-' from 'BBB'
Long term senior unsecured debt rating: downgraded to 'BBB-' from 'BBB'
Short term senior unsecured debt rating: affirmed at 'F3'

HCSBK
Long-Term Local Currency IDR: downgraded to 'BBB-' from 'BBB+'; Outlook Stable
Short-Term Local Currency IDR: downgraded to 'F3' from 'F2'
National Long-term Rating: downgraded to 'AA+(kaz)' from 'AAA(kaz)'; Outlook Stable
Support Rating: affirmed at '2'
Support Rating Floor: revised to 'BBB-' from 'BBB+'

KAF
Long-Term Foreign and Local Currency IDRs: downgraded to 'BB+' from 'BBB-'; Outlook Stable
Short-Term Foreign Currency IDR: downgraded to 'B' from 'F3'
National Long-term rating: affirmed at 'AA(kaz)'; Outlook Stable
Support Rating: downgraded to '3' from '2'
Support Rating Floor: revised to 'BB+' from 'BBB-' 
Senior unsecured debt rating: downgraded to 'BB+' from 'BBB-'
National senior unsecured debt rating: affirmed at 'AA(kaz)'
Expected senior unsecured debt ratings: assigned at 'BB+(EXP)'/'AA(kaz)(EXP)
 
Source: Fitch Ratings
16 2016 | View: 280 | Press Releases | Printint version
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