riables every three years, thus ensuring a continuous loop of improvement on which variables best predict expected losses. Unfortunately, it is still unclear if these rules will apply to the government¡¯s large mortgage financing trusts or to nonbank mortgage lenders (known as SOFOLes). The new mortgage-reserve formulas are not limited to observed performance (e.g., days past due), but incorporate the variables statistically proven to best predict expected losses: coupon payment, sum of prior payments, asset value, remaining balance, currency, and the involvement of a third-party loan
Lendersmortgagepayments 7189 Payment
The ratings shown are PNC¡¯s deposit rating, its standalone bank financial strength rating mapped to the long-term scale, and the corresponding rating outlooks. Federal Reserve regulation stipulating overdraft fee policy changes, effective 1 July 2010; disallows overdraft charges unless a customer explicitly opts-in. Debit card rewards points and rebates for use of non-PNC ATMs by Free Checking customers.
15
MOODY¡¯S WEEKLY CREDIT OUTLOOK
7 MARCH 2011
NEWS & ANALYSIS
Credit Implications of recent worldwide news events
originator. The new formulas for non-revolving consumer lending include additional variables, including number of payments, remaining number of payments, and original amount of loan. The regulator had previously announced that it would differentiate loss-given defaults for mortgages between Mexican states, using our Contract Enforceability Indicator (EC),10 which classifies each state on enforceability of legal proceedings. In the final calculation methodology published last Tuesday, the regulator incorporated a further loss-given default variable, acknowledging best practices already functioning well among the banks. It includes the existence of judicial lender/borrower arrangements aimed at bypassing sometimes snail-paced court proceedings and the existence of trusts that only transfer ownership to the borrower once the loan has been paid off. Both of these greatly speed up repossessions in Mexico. The new non-revolving consumer reserves differentiate between asset-backed, auto, payroll-linked, personal, and group micro lending. In the past, niche banks found themselves complying with a general consumer-lending norm. Now, banks focused on asset-backed lending, such as Banco Azteca S.A. (unrated), will utilize specialized formulas that incorporate differences in payment behavior/culture among its clients. Also benefitting are Banco Autofin México S.A. (B1 stable; E+/B2 stable)11 and Volkswagen Bank S.A. (unrated), which are focused on auto lending; Banco Compartamos S.A. (unrated), which is focused on group micro lending; and Banco Ahorro Famsa S.A. (unrated), which is focused on personal loans. Missed payments will nevertheless continue to be a major trigger for reserve creation. As a general rule, four missed payments for mortgages will prompt 100% reserve requirements. The 100% reserve requirements for non-revolving consumer credits will vary between seven weeks and four months after non-payment, in line with the different characteristics of these loan types. As seen in the exhibit below, the banking system is well reserved against expected losses. No individual bank maintains reserves that are lower than our stress-case losses. Mexican Banking System: Adjusted Reserves Against Expected and Stressed Losses Year-end 2010 Expected 25 20 15 10 5 Total Portfolio Consumer Mortgages Commercial Financial Institutions Government Stressed Reserves Pre WO
Source: CNBV and Moody¡¯s estimates.
10 11
Please see Special Comment entitled ¡°Indicadores de Ejecutabilidad Contractual,¡± published November 2009. The bank ratings shown in this article are the bank¡¯s deposit rating, its standalone bank financial strength rating mapped to the long-term scale, and the corresponding rating outlooks.
16
MOODY¡¯S WEEKLY CREDIT OUTLOOK
7 MARCH 2011
NEWS & ANALYSIS
Credit Implications of recent worldwide news events
Marjan Riggi Vice President - Senior Credit Officer +44.20.7772.1603 marjan.riggi@moodys.com
LSE¡¯s Trading Outages: Bad for Them and Bad for Their Customers On 25 February, the London Stock Exchange Group (LSE, Baa2 review for upgrade), halted cash equities trading for nearly four hours because of a trading system fault that prevented orderly dissemination of equity prices. This was the third outage in the four months since the LSE rolled-out its new MilleniumIT electronic trading system late last year. We believe that these technological setbacks are credit negative for the LSE. The 25 February outage occurred early in the day, disrupted the ¡°daily auction¡± (when price references are set for trades for later that day), coincided with the day of some company earnings results, and left many brokers frustrated and scrambling to find alternative platforms. Overhauling its trading technology is one of the most important strategic initiatives for the LSE, which has lost significant cash equity market share (see exhibit below) to faster and more efficient platforms like Chi-X Trading (unrated) and BATS Europe (unrated). We believe that the persistent problems with its migration to a more competitive trading system is resulting in increasingly downbeat customer feedback and is negative for LSE¡¯s market share and pricing power. FTSE Listed Cash Equity Market Share % 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% LSE Group Turquoise Chi-X BATS NYSE Euronext
Source: BATS Europe
In October 2009, the LSE acquired MilleniumIT, a Sri Lankan-based technology services company specialising in trading platforms and financial markets software. The rationale was to reduce the latency of trade executions and give the LSE a more agile and scalable in-house IT capability for future business development. The group recognised that to compete in a fast-moving trading environment it was crucial to upgrade its technology and trading speed, which was lagging far behind that of many of its established, as well as newer, competitors. Therefore, throughout late 2009 and 2010, the LSE has followed a systems overhaul programme to gradually migrate its key trading platforms to MilleniumIT systems. Other large exchanges, like the NYSE Euronext (NYX, A3 positive), have had their share of outages. However, these were not serious enough to damage their customers¡¯ confidence. Furthermore, NASDAQ OMX (NDAQ, Baa3 stable), which has one of the fastest, most versatile trading systems (INET Genium) has had virtually no outages related to its technology. The LSE¡¯s outages, therefore, stand out among its competition.
17
MOODY¡¯S WEEKLY CREDIT OUTLOOK
7 MARCH 2011
NEWS & ANALYSIS
Credit Implications of recent worldwide news events
We believe that the incremental damage to customer confidence caused by frequent breakdowns of trading systems will weaken the LSE relative to its competitors. Indeed, we have noted before that one of the credit challenges for the LSE is the execution risk related to its technology upgrades. While the LSE is poised to benefit from its upcoming merger with the TMX group (unrated), competition among the exchanges has intensified in recent weeks. In terms of cash equities, the combination of Chi-X and BATS, both technologically advanced highspeed platforms (together they have nearly 30% market share of UK cash equities), will be better positioned to compete as a larger alternative to the LSE. This is especially true because Chi-X and BATS¡¯s fees for trading are also cheaper than the LSE¡¯s. Indeed, the LSE¡¯s most recent outage persuaded some traders to use these alternative platforms for the first time. This may spur more traders to switch to such competitors and put further pressure on the LSE. In addition, the upcoming combination of NYX with Deutsche Boerse (unrated) does not bode well for the LSE in panEuropean cash equity as well as derivatives trading, further emphasising the need to minimise damage from its technology issues.
18
MOODY¡¯S WEEKLY CREDIT OUTLOOK
7 MARCH 2011
NEWS & ANALYSIS
Credit Implications of recent worldwide news events
Tom Petersson Associate Analyst +44.20.7772.1564 tom.petersson@moodys.com
Household Debt Prompts Sweden to Evaluate Banking Regulations, a Credit Positive Last Tuesday, the Swedish government¡¯s Financial Crisis Committee announced it will evaluate measures to reduce risks at Swedish banks, including stricter capital rules before the official implementation of Basel III, reducing the mortgage loan-to-value ratio (LTV) ceiling, and requiring amortisation on some mortgage loans. These proposed measures will be credit positive for Swedish banks, as they reduce the risk of overheating in the Swedish property market and strengthen banks against credit losses. Lending growth during the past six years has averaged a relatively high 10% per year, facilitated by low interest rates, greater access to the international debt markets (overall foreign-denominated funding has more than doubled over the past five years12), and low risk weightings of Swedish mortgage loans. In spite of these factors, domestic asset quality has proved resilient to the financial crisis owing to rising house prices. In 2010, domestic-market problem loans13 relative to total loans averaged well below 1% for rated Swedish banks. However, against a backdrop of sustained consumer credit growth, even during the financial crisis, the Swedish central bank is increasingly vocal about the downside risks in the property market, Swedish households¡¯ increasing overall indebtedness, and therefore the need to strengthen capital buffers as a precautionar