Fitch Ratings has placed the National Long-Term Ratings of 14 Sri Lankan banks on Rating Watch Negative (RWN). Fitch will review the National Ratings of Sri Lankan financial institutions that are not mentioned in this commentary separately.
KEY RATING DRIVERS
“The RWN reflects heightened near-term downside risk stemming from constrained access to foreign-currency funding and the resulting indications of stress experienced by the banks in the system. This risk is exacerbated by the sovereign’s credit profile (Long-Term Foreign-Currency Issuer Default Rating (IDR): CC, Long-Term Local-Currency IDR: CCC) and the ensuing risks to the stability of the financial system.
“We believe mounting currency stress increases the likelihood of restrictions being imposed on banks’ ability to service their obligations in foreign currency – excluding HDFC, as the bank does not have any outstanding foreign-currency obligations – and local currency in the event of a sovereign default, or prior, should confidence deteriorate.
“We aim to resolve the RWN in the next six months, depending on the evolution of the banks’ funding and liquidity positions, which could result in multiple notch downgrades.
“We believe the domestic banks’ foreign-currency funding and liquidity positions are prone to sudden changes amid already weak creditor sentiment. Loan and deposit dollarisation for the sector was at 18% of total loans and 17% of total deposits as at end-2021.
“Sri Lanka’s operating environment remains challenging and our negative outlook on the score reflects the significant near- to medium-term downside risk presented by the weakening sovereign credit profile, as spillover effects could damage the country’s economic performance.
“This has led us to revise our 2022 outlook on the banking sector to ‘Deteriorating’, from ‘Neutral’. Macroeconomic challenges are likely to be greater than we initially anticipated which could result in a sharp deterioration in asset quality and impaired profitability metrics that expose the banks to capital deficiencies.
“The RWN on the ratings of the banks’ senior unsecured debentures, where assigned, stem from the RWN on the corresponding banks’ National Long-Term Ratings. Sri Lanka rupee-denoted senior debt, where applicable, is rated at the same level as the National Long-Term Rating in accordance with Fitch criteria. This is because the issues rank equally with the claims of the banks’ other senior unsecured creditors,’ Fitch Stated.
It added, “The RWN on the ratings of subordinated debt, where assigned, also stems from the RWN on the corresponding National Long-Term Ratings. Sri Lanka rupee-denominated subordinated debt, where applicable, is rated two notches below banks’ National Long-Term Ratings. This is in line with our baseline notching for loss severity for this type of debt and our expectations of poor recovery.