S&P eyes NZ house price, dairy debt threats
Standard and Poor's has looked at how a potential jump in New Zealand house prices and an extended slump in dairy prices could affect the credit quality of New Zealand's Big Four Australian-owned banks, which are mostly exposed to mortgages and dairy debt."Although unlikely under our base-case assumptions, an acceleration in house price growth would further pressure New Zealand's banking system, exposing increased imbalances in the economy and highlighting the vulnerability of the system to a sharp correction in residential property prices," S&P said in a special report.The ratings agency also warned that ten per cent of dairy farmers owed a third of the dairy debt to banks, which was in turn about ten per cent of total bank lending."These farms tend to have higher levels of debt relative to output, leaving their operating cash flows exposed to downturns in their sector," S&P said."Should lower dairy prices persist, we believe banks would have to raise their provisioning, which would be detrimental to their profitability."Standard and Poor's noted, however, that New Zealand bank profitability was strong relative to its international peers, with high net interest margins and strong core earnings."Given the oligopolistic nature of the system and absence of overcapacity, we do not foresee that banks would be taking on undue risks even though some margin pressures may be looming on the horizon," S&P said.The agency said its base case was for a slowing of house price inflation, but it noted the Reserve Bank of New Zealand expected house price inflation to peak at around 17 per cent in 2016."Even though the risk remains low, a further increase in credit pressures will not result in a revision of the anchor assessment for banks operating in the country, but may have a bearing on the risk-adjusted capital ratios we calculate for individual banks."Dairy farmers face a third consecutive season of unprofitable payouts in 2016/17, which was increasing working capital needs. Dairy farmers owe New Zealand banks almost NZ$40 billion."With most forecasts suggesting that the dairy payout will be down in 2016, we expect New Zealand banks will have to increase their level of provisions to the dairy sector if prolonged low prices weigh on leveraged borrowers," Standard and Poor's said."In our view, this might cut the banks' profitability, but we expect the effect to be manageable within the current ratings."