Rating action

Scope Ratings GmbH (Scope) has today affirmed OTP Bank nyrt.’s issuer rating of BBB+, changing the Outlook to Negative from Stable.

Scope has also affirmed the ratings on the following debt categories and changed the Outlook to Negative:

• Preferred senior unsecured debt rating at BBB+

• Non-preferred senior unsecured debt rating at BBB

• Tier 2 debt rating at BB+

Rating rationale

The change in Outlook to Negative from Stable reflects Scope’s view that the persistence of high inflation combined with a slowdown in economic growth, particularly in Hungary, could impact the group’s asset quality. The Negative Outlook also reflects the increase in sovereign debt risk due to Hungary’s lower growth prospects and ongoing institutional challenges. As the largest financial institution in the country, OTP Bank nyrt. (OTP) is directly exposed to domestic sovereign risk through its sizable government bond portfolio, loans to public entities, and state-guaranteed loans to SMEs.

Risks related to OTP’s exposure to Russia and Ukraine are contained but could increase in a weaker economic environment. As of Q3 2022, the potential capital impact of an abrupt exit from the two countries would be manageable (140 bps) given the group’s strong buffers over requirements. In the first nine months of 2022, the group booked around HUF 90bn of impairments on Russian government bonds and goodwill (equivalent to about 7% of nine-month revenue). It also reported high impairments against a potential credit deterioration, particularly in Ukraine. The nine-month cost of risk in Russia and Ukraine stood at 580 bps and 1,530 bps, respectively. However, local operations have carried on surprisingly well; in Russia, the group reversed some credit impairments in the third quarter.

OTP’s ratings continue to be based on the group’s resilient business model, which is built on a dominant market position in Hungary and a high degree of geographical diversification. Less than half of the group’s total assets are domestic. This broad geographical diversification allows OTP to not only counterbalance the moderate volatility of its Hungarian operations but also to profit from higher margins and growth in less developed banking markets.

The ratings also consider OTP’s appetite for acquisitions in Central and Eastern Europe (CEE). Scope acknowledges the group’s strong execution record and the boost these acquisitions provide to OTP’s growth. Nevertheless, the rating agency also notes the challenges that accompany acquisitions, especially if they are made in large numbers.

Scope assesses OTP’s long-term sustainability as ‘developing’. While the rating agency acknowledges the group’s efforts to accelerate its digitalisation and lead its peer group in the CEE region, OTP only launched an ESG programme in 2020. Scope believes there is still room to improve the management of emerging ESG-D challenges. The progress made so far does not yet warrant a rating uplift (ESG factor).

The ratings benefit from OTP’s superior earnings generation compared to both national and international peers. Profitability is driven by high interest margins and economic growth in the CEE region, as well as by the group’s strong market position. Since 2016, the group’s return on equity has averaged around 16.5%. While the loss of Russia and Ukraine, two of the group’s most profitable franchises, would detract from earnings capability and business model diversification, Scope considers that OTP could continue to deliver double-digit returns.

In the next quarters, the group’s earnings may be negatively impacted by the interest rate cap in Hungary and by further government measures to support either the economy or borrowers. Moreover, loan growth will slow if the economic trend in the CEE region takes a turn for the worse.

Although OTP’s non-performing loan ratio is higher than international peers’, Scope considers it manageable in view of the high coverage. Both the Covid crisis and the military conflict in Ukraine have had a minimal impact on the group’s credit portfolio. OTP’s headline asset quality metrics have improved in the past quarters, mainly thanks to strong loan growth. This trend could be challenged in the case of a recession in the CEE region.

High capital buffers and a solid funding profile are additional strengths supporting OTP’s ratings. Despite dividend pay-outs and acquisitions, the group’s capital ratios have steadily increased over the years due to strong earnings.

OTP is primarily funded through deposits thanks to its strong positioning in retail markets, especially in Hungary and Bulgaria. The group’s subsidiaries are funded in their respective local currency, minimising currency mismatches between assets and liabilities.

One or more key drivers for the credit rating action are considered ESG factors.

Rating-change drivers

The Negative Outlook reflects Scope’s view that OTP’s credit profile could worsen as the operating environment in Hungary deteriorates.

What could move the rating up:
 

• A material reduction in exposure to domestic sovereign risk or an improvement in the outlook for Hungary

• Evidence that the group’s sustainability related efforts provide a competitive advantage compared to peers

What could move the rating down:
 

• Given the weaker economic outlook and the concentrated exposure to domestic sovereign risk, a material deterioration in the group’s asset quality or earnings combined with an increase in domestic sovereign risk.

• Erosion of the group’s capital position or evidence that OTP is increasing its exposure to Russia would be negative for the rating.

Overview of rating construct

Operating environment: Moderately supportive

Business model: Resilient

Initial mapping refinement: Low

Initial mapping: bbb-/bbb

Long-term sustainability (ESG-D): Developing

Adjusted anchor: bbb-

Earnings capacity and risk exposures: Supportive

Financial viability management: Comfortable

Additional rating factors: Neutral factor

Standalone assessment: bbb+

External support: Not applicable

Issuer rating: BBB+

Stress testing and cash flow analysis
No stress testing was performed. No cash flow analysis was performed.

Methodology
The methodologies used for these Credit Ratings and/or Outlooks, (Financial Institutions Rating Methodology, 28 January 2022, Bank Capital Instruments Rating Methodology, 2 May 2022), are available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other Services’, published on https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://scoperatings.com/governance-and-policies/regulatory/eu-regulation. Also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope Ratings’ definitions of default and Credit Rating notations can be found at https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Guidance and information on how environmental, social or governance factors (ESG factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
Outlook indicates the most likely direction of the Credit Ratings if the Credit Ratings were to change within the next 12 to 18 months.

Solicitation, key sources and quality of information
The Rated Entity and/or its Related Third Parties participated in the Credit Rating process.
The following substantially material sources of information were used to prepare the Credit Ratings: public domain, the Rated Entity and Scope’s internal sources.
Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instrument to be satisfactory. The information and data supporting the Credit Ratings originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data.
Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Ratings and Outlooks and the principal grounds on which the Credit Ratings and Outlooks are based. Following that review, the Credit Rating(s) was/were not amended before being issued.

Regulatory disclosures
These Credit Ratings and/or Outlooks are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and/or Outlooks are UK-endorsed.
Lead analyst: Alessandro Boratti, Analyst
Person responsible for approval of the Credit Ratings: Pauline Lambert, Executive Director
OTP’s issuer Credit Rating/Outlook was first released by Scope Ratings on 15 November 2021. The Credit Rating/Outlook was last updated on 9 March 2022.
OTP’s preferred senior unsecured debt Credit Rating/Outlook was first released by Scope Ratings on 15 November 2021. The Credit Rating/Outlook was last updated on 9 March 2022.
OTP’s non-preferred senior unsecured debt Credit Rating/Outlook was first released by Scope Ratings on 15 November 2021. The Credit Rating/Outlook was last updated on 9 March 2022.
OTP’s Tier 2 notes Credit Ratings/Outlooks were first released by Scope Ratings on 15 November 2021. The Credit Rating/Outlook was last updated on 9 March 2022.

Potential conflicts
See www.scoperatings.com under Governance & Policies/EU Regulation/Disclosures for a list of potential conflicts of interest related to the issuance of Credit Ratings.

Conditions of use / exclusion of liability
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