Dec 10 - Fitch Ratings has downgraded Germany-based HSBC Trinkaus & Burkhardt AG's Long-term Issuer Default Rating (IDR) to 'AA-' from 'AA'. The Outlook is Stable. The agency has also affirmed the Viability Rating (VR) at 'a' and Short-term IDR at 'F1+'. A full list of rating actions is at the end of this comment.
The downgrade of the Long-term IDR mirrors the downgrade of HSBC Trinkaus's ultimate parent, HSBC Holdings Plc (HSBCH), to 'AA-'/Stable from 'AA'/Negative. A separate rating action commentary on HSBCH is available at www.fitchratings.com.
HSBC Trinkaus's IDRs remain equalised with HSBCH's, based on Fitch's Criteria "Rating FI Subsidiaries and Holding Companies". This reflects Fitch's view that the bank's activities are core to HSBC Group's key international banking strategy, in light of which a default of a subsidiary would have huge reputational consequences for the group. Against this background, Fitch believes that HSBC Trinkaus benefits from a very high propensity of institutional support and has affirmed the bank's Support Rating of '1' to reflect this.
The affirmation of the Short-term IDR at 'F1+' reflects HSBC Trinkaus's access to the group's strong and fungible liquidity if needed. Fitch expects this access to remain sufficient despite the potentially constraining effects that the need to comply with numerous legal and regulatory frameworks may have on fungibility of liquidity across the group's various jurisdictions.
The affirmation of the VR reflects the stability of HSBC Trinkaus's solid standalone risk and performance characteristics, which confirm the robustness of its balanced business model.
RATING DRIVERS AND SENSITIVITIES - IDRs
The categorisation of HSBC Trinkaus's activities as core to the group reflects the following:
The bank is an integral part of the group's business, providing core products to strategically important clients. It largely fulfils the group's strategic targets (international connectivity, economic development of the relevant markets, profitability, cost efficiency and liquidity). It provides the group with local relationships with export-oriented industrial clients (large caps and, increasingly, Mittelstand) in Germany, a market which the group considers has strong long-term potential and defines as a priority growth market. The revenues generated by the group from these clients materially exceed HSBC Trinkaus's own P&L contribution.
HSBCH's capital injection in 2010 demonstrates its commitment to the growth of its 80.6%-owned German subsidiary. Fitch expects the bank's business model and management principles to preserve satisfactory profit distribution in the Basel III, post-crisis environment, even though this contribution will remain modest in absolute terms due to the bank's size.
Its modest size, combined with the bank's autonomous funding, makes the risk of material unexpected calls on the group's liquidity unlikely. At the same time, in light of Germany's perception as the eurozone's main safe haven, group entities should remain keen to deposit relatively large excess liquidity at HSBC Trinkaus.
The shared branding, deep integration within the group's systems and regular cooperation with the group's European entities also contribute to the high propensity of group support.
HSBC Trinkaus's Long-term IDR will continue to move in line with HSBCH's as Fitch believes that the group's propensity to provide support is unlikely to decrease. The Stable Outlook mirrors that on HSBCH. Any change in HSBCH's IDRs or Outlook will trigger the same change at HSBC Trinkaus. A downgrade of the bank's Long-term IDR would probably trigger a downgrade of its Short-term IDR.
The affirmation of the VR reflects the bank's track-record of solid profitability, sound asset quality, flexible funding and liquidity profile and solid capitalisation. It also reflects Fitch's view that management's conservative approach to risk results in moderate tail risk from the bank's recurring trading activities. The VR also takes into account the high share of wholesale sight deposits in the bank's funding mix and the high fixed costs inherent to its business model.
The growth of HSBC Trinkaus's middle-market corporate business (Commercial Banking, CMB) is gradually increasing credit risk and reducing earnings diversification, although Fitch expects these effects to remain adequately contained. Fitch does not expect the structurally more challenging operating environment to allow the bank's performance to remain at its current strong level in the long term. However, the strong VR reflects the agency's expectation that its profitability will continue to outperform the overall wholesale banking sector.
The bank's renewed good performance in 9M12 confirms the benefits of its balanced business model despite structural earnings pressure in private banking. Its core businesses private banking, corporate and institutional clients are supported by sizeable trading activities. Fee income - the main source of revenues - should remain strong and diversified in 2013.
This should continue to sufficiently mitigate the challenging interest rate environment and rising competition in corporate lending, which are increasingly likely to put moderate pressure on net interest income. Market volatility should continue to support client-driven trading, albeit probably less so than in 9M12. Following a marginal staff reduction in 2012, the bank remains adequately staffed to manage incremental business volumes in CMB.
A severe cyclical downturn seems unlikely in Germany in 2013. However, the lasting crisis in parts of the eurozone increases pressure on export-driven corporates. This should trigger a manageable loan impairment growth in CMB, which is most vulnerable to these developments.
Fitch also expects management to continue to manage market risk conservatively in light of the significant credit spread, interest rate and equity risks arising from enduring market volatility.
The bank's client-driven funding appears robust enough to face the new, structurally challenging funding environment. The short maturity of its assets and its large, high-quality, ECB-eligible liquid assets sufficiently mitigate the liquidity risk that would otherwise arise from the absence of material long-term funding sources. The bank's solid capitalisation and internal capital generation appear sufficient to absorb a moderate cyclical deterioration of asset quality and modest growth in CMB lending.
In light of HSBC Trinkaus's high reliance on capital markets and short-term funding, even a materially improving financial profile would be unlikely to warrant an upgrade of the VR. Given the low flexibility available at the current rating level, Fitch would downgrade the VR if it believed that management was likely to adopt a more aggressive approach to trading risk to compensate potential earnings pressure. Downward pressure on the VR would also result from surging, widespread corporate defaults or large single-event trading losses revealing unexpected structural weaknesses in market risk management.
The rating actions are as follows:
Long-term IDR: downgraded to 'AA-' from 'AA'; Outlook Stable
Short-term IDR: affirmed at 'F1+'
VR: affirmed at 'a'
Support Rating: affirmed at '1'