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EMEA Sector Roundup: Emerging Risks and Trends, October 2017

Multiple Operators Suffer Damage to Fiber Networks from Hurricane Michael

Factbox: Hurricane Michael Impact Turns from Production Loss to Demand Destruction

Factbox: Oil, Gas Production Declines Intensify as Hurricane Michael Approaches

Factbox: Utilities, Oil Producers Brace for Hurricane Michael Along U.S. Gulf

EMEA Sector Roundup: Emerging Risks and Trends, October 2017

Here, in a companion report to "As The Political Fog Shifts To The U.K., Prospects Are Improving In The Rest Of EMEA," our latest credit conditions report also published on Oct. 2, 2017, we explore sector credit conditions and emerging risks for financial institutions, corporates, insurance, public finance and structured finance in Europe, the Middle East, and Africa (EMEA).


  • European banks: While stronger balance sheets and an improving loan environment auger well for dividend prospects, raising profitability to adequate levels remains a multiyear task. The imminent advent of IFRS 9 is expected to lead to greater volatility in provisioning and may affect bank's commercial behavior.
  • Russian banks: The operating environment in Russia remains challenging, banking supervision remains weak, and recently re-emerged funding volatility is further strengthening the market positions of state-owned banks and is increasing pressures on small and midsize private banks.
  • European nonfinancial corporates: While credit prospects are broadly stable in the majority of sectors because of better macroeconomic conditions, our key concerns relate to Brexit uncertainty as well as the risk of more aggressive financial policies at this stage of the cycle.
  • European insurance: Persisting low interest rates remain the top risk for life insurers, while property & casualty reinsurers struggle with excess capital that is exerting downward pressure on rates, even accounting for the scale of recent natural disasters.
  • International public finance: Brexit-related uncertainty is creating challenges for social housing and universities in the U.K., while the escalating tension between Catalonia and Spain's central government is of increasing concern.
  • European structured finance: The evolution of car financing in the U.K. has contributed to the strong growth in consumer credit since 2012, of which about 20% is car dealership financing that has been securitized. Lenders, not consumers, bear the explicit residual value risk.

European Banks

A stronger economic recovery than previously expected; a clearer postelection political landscape in France, Germany, and The Netherlands; and rising consumer confidence should support European banks on their path toward normalization. Lending growth may accelerate, and we could also see consolidation moves, which so far have been scarce and largely domestic, gaining further backing. Rescued banks, particularly those well advanced in their restructuring, are also likely to gradually return to private hands. Indeed, we already saw the Irish government divesting a 29% interest in Allied Irish Banks PLC and the Dutch government divesting an additional 7% interest in ABN AMRO Bank N.V. in June this year.

Banks have generally strengthened capital to the point where they are now considering more generous payouts to shareholders, albeit typically well below those of U.S. banks. Improving profitability to more adequate levels, however, remains a multiyear task.

Unlike in the U.S., where meaningful changes to the orderly liquidation authority framework are under discussion, in Europe resolution frameworks are likely to be enhanced, gaining credibility and effectiveness over time. Indeed, we continue seeing steps toward the creation of a broader and more harmonized market of senior subordinated (Tier III) instruments in Europe, which would facilitate banks' build-up of MREL (minimum requirement for own funds and eligible liabilities) cushions in a more cost-efficient way. While European-wide legislation is still to be discussed and approved by the European Parliament, some countries, in particular Spain and Belgium, have already followed the French initiative and passed legislative reforms to incorporate senior nonpreferred debt as a new debt class in the hierarchy of banks' liabilities. Banks in both countries (Banco Bilbao Vizcaya Argentaria S.A., CaixaBank S.A. and Belfius Bank SA/NV) tapped the market for the first time shortly thereafter.

The announcement early this month of pan-Nordic Nordea Bank AB's decision to relocate its headquarters to Finland (from Sweden) is the first of this kind. While we do not necessarily see others following, we believe the move is indicative of not only Nordea's but generally banks' desire to operate on a level playing field. This remains a priority for policymakers too, not least as they continue their push to complete the EU's banking union. Interestingly too, the Nordea process and outcome have led Danish and Swedish authorities to discuss whether they would be better off inside the banking union.

IFRS 9 To Increase Provisioning From January 2018

IFRS 9, the International Financial Reporting Standard that includes requirements for recognition and measurement, impairment, and general hedge accounting, comes into force from Jan. 1, 2018, but there is still limited disclosure from banks (in Europe and elsewhere) about the quantitative impact on their financials. It may not be until early 2018, at the time of banks' publication of their 2017 annual reports, before we start to see such information disclosed.

One of the purposes of IFRS 9 is the earlier recognition of expected credit losses in banks' financial reporting, through a requirement for both a 12-month expected loss provision on all performing loans and a lifetime expected loss provision on underperforming and nonperforming loans. There will thus be a hit to equity as opening balance sheets are restated and higher provisioning requirements become effective on day one, but given a broadly benign asset quality backdrop, we expect the impact to be manageable for most European banks.

There will also likely be greater volatility in provisioning charges. The regulatory capital impact of IFRS 9 should be limited in the EU, as plans are underway to set up transitional arrangements to phase in the impact to CET1 (common equity tier 1) over five years. Banks could still opt to fully load the impact of IFRS 9 on regulatory capital, but that would mean placing the bank in a comparatively weaker position ahead of future stress test exercises.

At present we do not expect the implementation of IFRS 9 to affect bank ratings in EMEA, as changes in accounting rules by themselves do not denote an altered situation, just affect the way a situation is reported. Only in the event application of IFRS 9 reveals fragilities not previously considered could ratings be affected.

Over time, IFRS 9 could also affect banks' commercial behavior. There may be a shift toward shorter-duration loan products, or a move toward higher pricing on certain products such as corporate loans and mortgages.

Multiple Operators Suffer Damage to Fiber Networks from Hurricane Michael

Communications providers are working to restore services in areas impacted by Hurricane Michael, but storm debris, power outages and significant fiber damage are hindering progress in those counties most devastated by the storm.

As of Oct. 14, a number of counties along the Florida Panhandle had more than half of their cell sites down, including Bay County — home of Panama City and Mexico Beach, described as "ground zero" of the storm by U.S. Federal Emergency Management Agency administrator Brock Long — where 66.1% of cell sites were down. Similarly, neighboring Gulf County had 69.6% of cell sites down, according to data from the U.S. Federal Communications Commission.

Based on the amount of damage in the area and ongoing power outages, it could be weeks before services are restored. Long said Oct. 12 that after search and rescue, restoring communications in impacted counties is among FEMA's top priorities.

"You have to be able to communicate to appropriately respond and we are trying to do everything we can to get the private sector vendors, the Verizon [Communications Inc.]'s of the world, to get in to try to get their systems back up and running," he said.

Long added, however, that the process is not easy. "There was a tremendous amount of debris. When you look at the damage in Mexico Beach, that is where the ocean rose potentially 14 feet … and shoved buildings out of the way. When you have that type of damage, it takes time to get in and go through," he said.

Hurricane Michael made landfall Oct. 10 near Mexico Beach as a Category 4 hurricane with 155-mile-per-hour winds.

For its part, Verizon said the "vast majority" of Florida and Georgia service has been restored, with 99% of the company's network in Georgia in service and 97% of its network in Florida. But the company noted there are pockets, particularly near Panama City, where the damage is severe.

"The storm caused unprecedented damage to our fiber, which is essential for our network — including many of our temporary portable assets — to work. Our fiber crews are working around the clock to make repairs, and while they are making good progress, we still have work to do to get the fiber completely repaired," the company said Oct. 14.

Fiber is the connecting component of a network that carries data from point to point. It is necessary for Verizon's permanent and temporary cell sites to be operational. The company noted that while it has multiple fiber paths to carry data, "The severity and intensity of the storm caused damage to all duplicate routes in the Panama City and Panama City Beach area."

In terms of wireline services, the FCC said 291,300 subscribers remain out of service as of Oct. 14, including 205,643 subscribers in Florida. The figures were down from a day earlier, when a total of 337,223 subscribers were without service, including 233,843 in Florida.

The top residential video and broadband provider in Bay County is Comcast Corp., according to MediaCensus data from Kagan, a research group within S&P Global Market Intelligence. Comcast, the largest cable operator in the U.S., said in an Oct. 12 statement that it is working to get Xfinity services back online.

"As power returns … and it becomes safe for our technicians and restoration crews, we will work to repair any damages affecting our network," the company said.

As of Oct. 15, more than 162,000 customers in Florida remained without power, including all 27,275 customers served by Gulf Coast Electric Cooperative. The cooperative said in an Oct. 12 Facebook Inc. post that its distribution system "suffered catastrophic damage"

In Gulf County, the top residential video provider is AT&T Inc.'s satellite video service DIRECTV, according to MediaCensus data, while the top residential broadband provider is Mediacom Communications Corp., the fifth-largest cable operator in the U.S.

Mediacom said Oct. 14 that its recovery efforts are underway but its network in Florida has 14 miles of severely damaged fiber near Walton County, as well as 25 miles of damaged fiber east of Panama City that is obstructing video transmission from Gulf County to Walton County.

"Our current priority remains focusing on repairing damage to our high-speed data transport network and main transmission facilities and repairing downed lines where we have access to the area. We have outages from widespread loss of commercial power along with downed lines, and structural damage throughout our systems," the cable operator said.

Factbox: Hurricane Michael Impact Turns from Production Loss to Demand Destruction

Houston, Oct. 11 2018 — Hurricane Michael made landfall at the Florida panhandle as a Category 4 hurricane Wednesday with 155 mph winds, quickly destroying demand for power, natural gas and refined oil products. Shut-in oil production rose modestly from Tuesday to over 700,000 b/d, but the storm has stayed east of much of the region's production, which means supply should be back online quickly.

Meanwhile, the severity of the storm has surprised to the upside, which could a mean longer lasting and more severe impact on demand for power, natural gas, refined products and ultimately crude oil.

"We expect the impact on refined products demand to be below that of previous hurricanes in the Gulf Coast such as Harvey in 2017, as the region impacted by Michael has lower population density than Houston ... Nevertheless, the impacts are favoring the high side of our estimates given the sheer severity of the storm," said Claudio Giamberti, Head of Demand and Refining at S&P Global Platts Analytics.

As of 7 pm EDT, the eye of Michael was moving over southwestern Georgia with maximum sustained winds still at 100 mph, according to the National Hurricane Center. The storm is expected to move northeast across the Carolinas before heading back out to sea Friday morning.

Factbox: Oil, Gas Production Declines Intensify as Hurricane Michael Approaches

Houston, Oct. 09 2018 — With Hurricane Michael expected to make landfall Wednesday mid-day in the Florida panhandle as a Category 3 hurricane, oil and gas producers continued to shut in production Tuesday, leading to a drop in output and rise in prices.

Shut-in Gulf of Mexico oil production more than doubled from Monday to nearly 700,000 b/d Tuesday. That drop in output contributed to WTI rising to nearly $75/b, with Gulf Coast sour crude Mars rising concurrently.

Natural gas prices followed suit, with Henry Hub reaching its highest level since January. That strength could be short lived as power outages lead to falling demand for natural gas for generation.

Factbox: Utilities, Oil Producers Brace for Hurricane Michael Along U.S. Gulf

Houston, Oct. 09 2018 — With Hurricane Michael expected to make landfall on the Florida Panhandle as a Category 3 storm Wednesday, offshore oil and gas producers were busy evacuating crews and shutting in production Monday. By mid-day, nearly 20% of Gulf of Mexico oil production had been taken offline. That number will likely have risen when reported Tuesday as operators continued to shut down platforms Monday afternoon.

Meanwhile, just 24 days after Hurricane Florence made landfall, electric utilities were gearing up for Hurricane Michael restoration efforts by staging crews and supplies in the storm's path. Lost power demand is likely to have a knock-on effect on natural gas demand and prices.

After it brings over 100 mph winds to the western-most portion of Florida, Hurricane Michael is expected to turn northeast, bringing wind and rain to Alabama, Georgia and the Carolinas before heading back out to sea. Thiis article covers the key takeaways across commodities.