Markets Exchanges,rating,

Markets Exchanges,rating,

London -- On June 28, Moody's Investors Service changed its outlook on the United Kingdom's (UK) banking system to negative from stable. The outlook change reflects the rating agency's expectation that increased uncertainty about future trade rules between the UK and the European Union (EU) will lead to weaker credit fundamentals for the country's banks.

The outlook expresses Moody's expectation of how bank creditworthiness will evolve in the UK over the next 12-18 months.

"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," says Carlos Suarez Duarte, a Senior Vice President at Moody's. "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."

As noted on 8 July 2016, 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, Moody's 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. Moody's notes, however, that 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.

"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," explains Mr. Suarez Duarte.

Moody's also expects UK 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. Some UK banks which currently depend on their ability to freely access the EU single market may also have to incur additional costs in re-engineering their business models in order to be able to continue to service their European clients.

Nevertheless, UK banks have strong funding and liquidity profiles, with Moody's expecting them to stay solid over the outlook period. While the rating 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.

Similarly, Moody's expects solvency ratios to remain solid, with ongoing de-risking and deleveraging, organic capital generation and risk-weighted asset optimization continuing to drive improvements. In addition, despite the downside risk from further litigation costs and lower earnings, the rating agency expects UK banks to maintain adequate going concern loss absorption buffers.

Finally, Moody's continues to assume a moderate probability of government support for the six largest UK banks and building societies.

Re-disseminated by The Asian Banker