Moody’s downgrades banking outlook to negative

Ryan Fowler

July 20, 2016

canary wharf london

The outlook for the UK banking sector has been downgraded to negative from stable by ratings firm Moody’s.

The change reflects the agency’s expectation that increased uncertainty about future trade rules between the UK and the European Union will lead to weaker credit fundamentals for banks.

Carlos Suarez Duarte, a senior vice president at Moody’s, said: “Increased uncertainty about the UK’s future trade relationship with the EU will likely lead to reduced confidence and lower investment and consumer spending in the UK.

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“This will, in turn, pressure revenues, asset quality and profitability metrics for all banks in the UK, though some are more resilient to these pressures than others.”

Moody’s expects UK banks’ operating environment to weaken, forecasting real GDP growth in the UK to slow to 1.5% in 2016 and 1.2% in 2017, versus its previous base case expectations of 1.8% and 2.1% in 2016 and 2017, respectively.

As a result of this lower GDP growth, it expects UK banks to see their asset quality worsen, with problem loans rising from a very low 2.7% of gross loans as of the end of 2015.  However it said this deterioration will be gradual, beginning only in 2017, with low levels of unemployment and historically low interest rates helping to mitigate against this risk.

Suarez Duarte said: “We expect some lag between the deceleration of the overall UK economy and any deterioration in the individual position of households and non-financial corporates.”

Moody’s also expects  banks profitability to come under pressure, driven by weaker credit demand on the back of heightened uncertainty, a higher cost of risk as asset quality weakens, and pressure on net interest margins with interest rates remaining lower for longer.

Nevertheless, UK banks have strong funding and liquidity profiles, with Moody’s expecting them to stay solid over the outlook period. While the agency notes the potential for an increase in the cost of funding and greater market volatility, it also expects the Bank of England to continue to support the banking system through the ongoing provision of contingent liquidity support.