March 20, 2012 / 5:07 PM / 5 years ago

Fitch affirms Zuercher Kantonalbank at 'AAA'; outlook stable

NEW YORK, March 20 (Reuters) - (The following statement was released by the ratings agency)

March 20 (Fitch) Fitch Ratings has affirmed Zuercher Kantonalbank's (ZKB) Long-term Issuer Default Rating (IDR) at 'AAA', Short-term IDR at 'F1+', Viability Rating (VR) at 'a+', Support Rating at '1' and Support Rating Floor at 'AAA'. The Outlook on the Long-term IDR is Stable. The affirmation of ZKB's IDRs, Support Rating and Support Rating Floor reflects the explicit guarantee provided to the bank under a specific cantonal legislation (ZKB Law) by its sole owner, the Canton of Zurich ('AAA'/Stable).

Given ZKB's importance to the canton and the potential repercussion for the financial sector in Zurich, Fitch considers it extremely likely that the canton would support the bank in a timely manner, if necessary.

Any changes in the ratings of the Canton of Zurich would affect ZKB's support-driven ratings. Should the Swiss authorities choose to eliminate cantonal banks' liability guarantees, then this would also put downward pressure on the bank's ratings. However, Fitch does not expect this to materialise in the medium-term and in the unlikely event that it did, Switzerland's multi-tiered political system would, in the agency's view, hinder its quick implementation.

The affirmation of ZKB's VR reflects the bank's moderate risk profile, sound asset quality, ample liquidity and a healthy funding structure. It also takes into account the bank's high exposure to Zurich's housing market. ZKB's VR is sensitive to a downturn in the real estate market in Switzerland, in particular in Zurich. Further downward pressures on ZKB's VR could arise if a rise in interest rates or the deterioration of the eurozone crisis should result in higher default rates of export-oriented SMEs and corporates.

ZKB's operating profitability benefitted from its well diversified revenue base and a healthy growth in lending activities during 2011. Operating performance remained relatively stable year on year despite a growing cost base amid an increasingly demanding regulatory operating environment. However, Fitch believes that ZKB has limited scope for additional cost optimisation and will be challenged to further meaningfully diversify revenues in the short-term without taking on any additional risks.

Although ZKB's private banking client base is largely on-shore, it does have a certain number of off-shore clients, including US clients. ZKB is amongst 11 Swiss-domiciled banks under investigation by US authorities for allegedly helping US nationals to evade taxes through off-shore accounts. While US client assets are according to the bank limited, the outcome of the investigation is in Fitch's view uncertain and could potentially have a meaningful negative impact for ZKB.

ZKB's moderate risk profile is largely driven by the credit risk in its sizeable residential loan book and market risk from structural interest rate risk and trading activities. All risks are subject to frequent monitoring and a high level of collateralisation of the bank's loan book somewhat mitigates its exposure to credit risk.

The bank's solid franchise provides the bank with access to customer funding, which supports the bank's sound funding and liquidity profile.

The revised stricter minimum capital requirements for Swiss banks mean that although ZKB's capitalisation compares well internationally, it falls short of the new regulatory requirements. Fitch acknowledges that the bank intends to use a mix of capital strengthening measures. One such measure was the issuance of new-style Tier 1 buffer capital notes in early 2012.

ZKB is the third-largest Swiss bank and the largest cantonal bank by total assets. It is also a leading 'universal' bank in the Canton of Zurich. ZKB's operations are restricted largely to the region in and around Zurich due to its public mission and legal form, where it benefits from a strong position in SME and particularly mortgage lending. The bank's strategy focuses on complementing its core activities with private banking and asset management activities.

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