In which markets are the financial institutions, generally speaking, on a positive ratings trend?
Ian Thompson: Probably the banking market that has shown the most improvement in recent times is Korea. We've seen some structural reforms and an improvement in non-performing loans, through securitization, sales to asset management companies, and write-offs. We have also seen an improvement in corporate governance by the Korean banks, which has been aided by the increasing stakes held in them by foreign companies. We've also seen an improvement in Korea in risk management practices. So we believe there have been some permanent structural improvements in that market and in addition to that there has been an improvement in the economy.
So we have moved some Korean banks to positive outlook. I think that is a market where you can expect to see some improvement in ratings going forward.
Do you view mergers as ratings-positive?
You cannot generalize but we look at whether mergers improve the financial profile, the franchise of the new organization.
Contraction in the amount of capacity in the market is generally a very positive thing.
Do you worry about the consumer credit boom in Korea getting out of control?
It's too early to get too nervous about that. It's true that, to date, where we have seen the bulk of improvement in Korea has generally been at the conglomerate area and the banks' exposure to that area. However, when you look at the banks that have had ratings upgrades in the last 18 months, it is generally the retail-orientated organization. So at this stage, our outlook is one of cautiousness, but we don't see this being a negative factor to date.
How do the average ratings for the Korean banks compare with the Japanese banks?
We have a number of Korean banks in the BB category and and a couple that have just sneaked into the BBB category. If you look at the Japanese banks, they are generally in the BBB category. The major difference with our ratings of the Japanese banks is the factoring in of a strong degree of systemic support. We're factoring in a belief the government will supplement their capital depletion. With the Korean banks we have seen restructuring and now these banks' standalone rating is migrating into the secure range.
If we look at the Japanese banks is there the potential for their ratings to go down further รป yes there is? There is a negative outlook. The challenges for the Japanese banks are numerous and the rising NPLs are a problem as is the lack of credit demand in the market. They have significant earnings problems.
Could you foresee a situation in the next couple of years where the average Korean bank has a higher rating than the Japanese average?
I could see the average Korean banks having a similar rating. At this stage, we do believe there is strong systemic support for the Japanese banks, and although we have a negative outlook, we do think they'll remain in the BBB category.
Bangkok Bank's debt has performed very well in the last six months. Is the performance of Thai bank debt now running ahead of their ratings?
Terry Chan: Spread tend to overshoot one way or the other. We saw Korean spreads tightening, and people came to us and said we should upgrade. But it was the banks themselves that were buying the bonds and causing the spreads to tighten. So we are always quite cautious and look at the fundamentals pushing the spreads.
Thompson: We obviously take a longer term view, and we call the rating over a three to five year period. Again, when you are looking at spreads there can be a difference in the investment time horizon.
Another thing I'd like to point out, is that during the Asian crisis all the banks were affected at the same time. Now it's less easy to generalize about banking sectors because we are seeing a greater delineation between winners and losers, thanks to flights to quality, and the fact that some banks have taken the right steps.
Chan: We have seen Asia go in and out of fashion. Asia doesn't look too bad now, and suddenly we've seen a reversal of interest. So sometimes trying to correlate a spread with a rating can be difficult. The bank's situation can almost be the same as last year, but suddenly Asia is in fashion, or Korea is it, and everyone is piling in.
Apparently, now that Korean banks are moving back into investment grade territory, there has been a surge in interest from Japanese investors.
Thompson: We like to think we provide a valuable role for investors in terms of placing debt.
It's interesting when you contrast Japanese banks versus Korean banks. It is a classic example of one market really taking strong remedial action to remedy problems, and another market which is taking a much longer, passive approach to its problems. So what you're seeing is a rapid rebound by the Korean banks, versus the deterioration of the Japanese banks over a decade.
What's your view on the major Thai banks?
Chan: We're still negative in our outlook. The Thai asset management company was formed four years after the crisis, which is pretty amazing given other countries had formed theirs much earlier. They are underprovisioned, and while the Thai banks are catching up there is still quite a way to go.
Thompson: We haven't seen the recapitalization we were hoping for.
There is talk of Bangkok Bank and Thai Farmers will need to raise capital next year.
Chan: When they did the SLIPs and CAPs we did warn the market that it was a plus, but we didn't give full credit for the equity element and it would have to be redeemed. The chickens are now coming home to roost and we will see how the markets are in the next year.
How confident are you about doing bank ratings in China?
Thompson: It is an opaque market and the risk management practices are an area that need to be developed. We are seeing improvement in the organizations, and WTO will help that, but they've got to clear the residual NPLs which we estimate to be 50% of the banking system, and correct the risk management practices. They are significant areas that require a lot of work.
Chan: Our ratings [of the major Chinese banks] vary between BB+ and BB. The risk management systems are very much in flux and rollout will takes years not months. However, we also factor in the fact there is government involvement in banks.
So we see two broad trends that affect the ratings. One, the government has indicated it will commercialise the banks over time; and two, the banks will improve their risk management. These are two opposite trends in terms of how they affect the rating.
Is rating a Chinese bank not a bit like throwing a dart at a dartboard?
Thompson: The information is opaque, but even with developed countries you have problems. If you look at NAB, they had a A$4 billion write-off because of a subsidiary they had in the US, and this totally came out of leftfield. I'm not sure you want to be too complacent anywhere, therefore. But on China, you are right.
Stepping back, we estimate that 50% of the Chinese bank assets are non-performing, and of that we would expect a recovery rate of 15%. You can work through those issues, and translate it back to the adequacy of the capital. You can review the franchise and its breadth. The systemic risk in the system we can also make a call on. You have to be cautious, you have to be thorough, and from time to time there will always be surprises, but you see that in mature market as well, as I just mentioned.
How do you rate Bank of China (Hong Kong) versus the parent?
We rate it a category higher at BBB+. We do believe there is some unique features to Bank of China (Hong Kong), one of which is being regulated in Hong Kong. The organization in Hong Kong is set up more on a standalone basis.
Chan: There is also a major difference in the asset quality.
