FITCH DOWNGRADES RABOBANK TO 'AA-'; OUTLOOK NEGATIVE Fitch Ratings-Paris/London-21 November 2013: Fitch Ratings has downgraded Rabobank Group's (Rabobank) Long-term Issuer Default Rating (IDR) to 'AA-' from 'AA' and Viability Rating (VR) to 'aa-' from 'aa'. Fitch has also downgraded Rabobank's central organisation, Cooperatieve Centrale Raiffeisen-Boerenleenbank BA's (Rabobank Nederland) Long-term IDR to 'AA-' from 'AA'. The Outlooks on the Long-term IDRs are Negative. A full list of rating actions is at the end of this commentary. RATING DRIVERS - VR, IDRS AND SENIOR DEBT The downgrade of Rabobank's VR, and hence Long-term IDR, are a result of a gradual erosion of the differential in credit metrics between Rabobank and other strong European banks. Rating is a relative assessment, and Rabobank's credit profile has come more into line with its highly rated peers. This has largely to do with the sustained and improving strong profile of its peers - in the face of negative market and regulatory trends for banks globally - rather than any marked and/or irreversible deterioration in Rabobank's balance sheet profile or franchise. Rabobank's unreserved impaired loans-to-equity ratio, which has been deteriorating over the past five years, has increased the bank's vulnerability to falling collateral values. Rabobank's ratings remain underpinned by the bank's leading market positions in retail banking in the Netherlands and food and agriculture financing in selected international markets, prudent risk management, in particular in terms of credit and liquidity risks, and strong capitalisation. However, Fitch views Rabobank's profitability as structurally weaker than most highly-rated peers and through the cycle asset quality does not compare favourably with the strongest banks rated by Fitch, without taking into account the expected negative effects on the group's performance and asset quality from the protracted recession in the Netherlands. The cooperative nature of the Rabobank group is a key strength for the group's leading franchise in Dutch retail banking. However, while this provides the group with stable profit generation, it has also led to less focus on costs than at other banks, resulting in weaker cost efficiency. Cost-cutting measures in the Dutch retail banking operations will start to feed through in 2014, but the benefits are likely to be somewhat offset in the short term by subdued revenue generation, from depressed credit demand and repricing initiatives feeding through only slowly. Fitch expects the group to gradually improve earnings generation in the medium term, which should bring profitability closer to other highly rated banks' earnings. High returns have never been Rabobank's primary focus but generating strong revenues is the first line of defence to absorb losses and strengthen capitalisation. Operating profitability has been affected by high loan impairment charges, given the current stage of the Dutch economic cycle. Although signs of a nascent domestic recovery have developed in 2H13 in the Netherlands, it is expected to be weak and Fitch expects the lagging effects from two consecutive years of economic recession to continue translating into high loan impairment charges in 2H13 and only progressively ease through 2014. Rabobank is highly exposed to the Dutch economy because of its large market share of domestic mortgage loans, domestic SME lending and exposure to the real estate sector. Overall, its loan impairment charges have been in line with its two large Dutch peers, but loan impairment charges for its Dutch mortgage lending book have so far been substantially lower (6bp in 1H13 and 2012).
On the other hand, Rabobank suffered higher loan impairment charges for its commercial real estate portfolio. In Fitch's view, the commercial real estate exposure will require further material (relative to the book) impairment charges but these will be manageable for Rabobank. Overall, asset quality is sound, with an impaired loans to gross loans ratio of 2.6% at end-june 2013, low by international standards, especially during an economic recession. However, unreserved impaired loans deteriorated to 26% of equity at end-june 2013. While partly a reflection of the inclusion of fully performing loans in the impaired loan category, this is also a result of lower reserve levels than the peer average and compares unfavourably with those of 'AA' category peers. Lower earnings at Rabobank have historically been balanced by much better capitalisation than at highly rated peers. Starting from a high basis, Rabobank has maintained capital ratios at an elevated level. As most highly rated banks have improved their capital ratios, Rabobank's capitalisation is now in line with its best-in-class peers. Robust capitalisation is a key rating driver for highly rated banks. In Fitch's view, Rabobank's capital buffer is ample and should cover any material unforeseen losses. Fitch expects Rabobank to further bolster its already strong capitalisation, in light of the additional capital requirements under Basel III/CRD IV, and build up an extra buffer for its senior unsecured creditors in the context of the expected bail-in regime. Like its Swedish peers, Rabobank is structurally reliant on wholesale funding. The Dutch banking system is characterised by a relatively low level of customer savings (largely because of the substantial private pillar of the pension system) and the large mortgage market (because of tax incentives that prevailed) creating a funding gap. Domestic banks are therefore reliant on the confidence-sensitive capital markets to close this gap. Fitch expects Rabobank to maintain sufficient capital and ample liquidity to uphold investor confidence. Its access to capital markets has remained strong and uninterrupted over the past few turbulent years. Its ample liquidity position, a result of Rabobank's prudent liquidity management and an illustration of its low risk appetite, would enable the bank to sustain a prolonged period of capital markets closure. Given the strong cross-support mechanism within the group, in line with its Rating Criteria for Banking Structures Backed by Mutual Support Mechanisms, Fitch bases its analysis of Rabobank's creditworthiness on consolidated figures for the group and only assigns a VR to Rabobank. RATING SENSITIVITIES - VR, IDRS AND SENIOR DEBT The Negative Outlook reflects the challenges Rabobank faces in improving structural profitability, and consequently internal capital generation, especially given the strains on asset quality until the economic headwinds in the Netherlands disappear. Fitch will monitor how cost-cutting measures will feed through over 2014 and improve its structurally modest operating profitability. In addition, recent management changes at the executive board level could result in some uncertainties around the execution of the group's strategic initiatives, although Fitch does not expect a noticeable shift from the current strategic directions. Rabobank's VR is sensitive to a failure to improve earnings generation in the medium term. It is also sensitive to further material negative impact from the weak economic indicators in the Netherlands. Fitch expects the group's cautious underwriting policies, with a strong focus on collateral, will help it to avoid a significant deterioration in asset quality indicators. Wholesale funding reliance makes the group sensitive to market sentiment, which in turn means that it is important that Rabobank continues to outperform peers in most metrics. Rabobank has maintained liquidity buffers above peers, mitigating the risks of its wholesale funding reliance. Nevertheless, Rabobank's ratings are sensitive to material reductions in its capitalisation or liquidity profile and to investor sentiment turning against it.
RATING DRIVERS - SUPPORT RATING AND SUPPORT RATING FLOOR The Support Rating and Support Rating Floor reflect Fitch's expectation that there is an extremely high probability that the Dutch state (AAA/Stable) would support Rabobank, if required. This opinion derives from Rabobank's systemic importance in the Netherlands, as the leading retail bank with around 40% market share in household deposits. RATING SENSITIVITIES - SUPPORT RATING AND SUPPORT RATING FLOOR The Support Rating and Support Rating Floor are sensitive to any change in Fitch's assumptions about the on-going availability of extraordinary sovereign support to the bank. Changes in assumptions could be driven by a change either in the sovereign's ability (for example, triggered by a downgrade of the Netherlands' sovereign rating) or in its perceived willingness to provide such support. In Fitch's view, there is a clear intention ultimately to reduce implicit state support for financial institutions in the EU, as demonstrated by a series of legislative, regulatory and policy initiatives. On 11 September 2013, Fitch outlined its approach to incorporating support in its bank ratings in light of evolving support dynamics for banks worldwide (see "Fitch Outlines Approach for Addressing Support in Bank Ratings" and "Bank Support: Likely Rating Paths", at www.fitchratings.com). Rabobank's Support Rating would be downgraded and its Support Rating Floor revised down if Fitch concluded that potential sovereign support had weakened relative to its previous assessment. RATING DRIVERS AND SENSITIVITES- SUBORDINATED DEBT AND OTHER HYBRID SECURITIES Subordinated debt and hybrid securities issued by Rabobank Nederland are notched off Rabobank's VR. Therefore, their respective ratings have been downgraded by one notch and are sensitive to any change in Rabobank's VR. In accordance with Fitch's criteria 'Rating Bank Regulatory Capital and Similar Securities', subordinated (lower Tier 2) debt are rated one notch below Rabobank's VR to reflect below average loss severity of this type of debt when compared to average recoveries. The non-innovative Tier 1 securities and preferred stock are rated four notches below Rabobank's VR to reflect higher loss severity risk of these securities when compared to average recoveries (two notches from the VR) as well as high risk of non-performance (an additional two notches). The perpetual non-cumulative capital securities (XS0583302996 and XS0703303262) are rated five notches below Rabobank's VR: two of the notches represent the potentially high loss severity associated with the deeply subordinated securities. The other three notches represent Fitch's assessment of the incremental non-performance risk of the securities taking into account their high triggers. SUSBIDIARY AND AFFILIATED COMPANY RATING DRIVERS AND SENSITIVITIES Rabobank Nederland is the group's central bank and it is part of the cross-support scheme, hence its IDRs are aligned with those of Rabobank. The Long-term IDR of Friesland Bank has been downgraded to 'AA-' from 'AA' in line with the downgrade of Rabobank's Long-term IDR. Although Friesland Bank is not part of the cross-support scheme, its ratings are aligned with those of the group given its integration within the group and Rabobank's commitment to assume joint and several liability for all of its liabilities. Fitch has subsequently withdrawn Friesland Bank's ratings following the transfer of most of its business to Rabobank and the transfer of almost all of its outstanding liabilities to Rabobank Nederland in early October, with a rating remaining on one legacy hybrid Tier 1 bond (NL0000116457) that we understand is held by retail investors and is no longer considered relevant to Fitch's coverage.
The rating actions are as follows: Rabobank Long-term IDR: downgraded to 'AA-' from 'AA'; Outlook Negative Short-term IDR: affirmed at 'F1+' VR: downgrade to 'aa-' from 'aa' Support Rating: affirmed at '1' Support Rating Floor: affirmed at 'A+' Rabobank Nederland Long-term IDR: downgraded to 'AA-' from 'AA'; Outlook Negative Short-term IDR: affirmed at 'F1+' Support Rating: affirmed at '1' Support Rating Floor: affirmed at 'A+' Long-term senior unsecured debt (EMTN and GMTN): downgraded to 'AA-' from 'AA' Short-term senior unsecured debt (EMTN and GMTN): affirmed at 'F1+' Senior Long-term market-linked notes: downgraded to 'AA-emr' from 'AAemr' Subordinated debt: downgraded to 'A+' from 'AA-' Hybrid capital (non innovative Tier 1 and preferred stock): downgraded to 'BBB+' from 'A-' Perpetual non-cumulative capital securities (XS0583302996 and XS0703303262): downgraded to 'BBB' from 'BBB+' Friesland Bank Long-term IDR: downgraded to 'AA-' from 'AA'; Negative Outlook; and withdrawn Short-term IDR: affirmed at 'F1+' and withdrawn Support Rating: affirmed at '1' and withdrawn Tier 1 perpetual securities (NL0000116457): downgraded to 'BBB+' from 'A-' and withdrawn Contact: Primary Analyst Olivia Perney Guillot Senior Director +33 144 299 174 Fitch France S.A.S. 60 rue de Monceau 75008 Paris Secondary Analyst Philippe Lamaud Associate Director +33 1 44 29 91 26 Committee Chairperson Claudia Nelson Senior Director +44 20 3530 1191 Media Relations: Hannah Huntly, London, Tel: +44 20 3530 1153, Email: hannah.huntly@fitchratings.com. Additional information is available at www.fitchratings.com. Applicable criteria: 'Global Financial Institutions Rating Criteria', dated 15 August 2012; 'Rating Criteria for Banking Structures Backed by Mutual Support Mechanisms', dated 20 December 2012;
Assessing and Rating Bank Subordinated and Hybrid Securities, dated 5 December 2012 are all available at www.fitchratings.com. Applicable Criteria and Related Research: Global Financial Institutions Rating Criteria http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=686181 Rating Criteria for Banking Structures Backed by Mutual Support Mechanisms http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=695715 Assessing and Rating Bank Subordinated and Hybrid Securities http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=695542 ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/ UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.