Moody's: Brazil's banks to face higher loan losses, but cost of provisioning generally manageable

With prospects of an economic recovery fading, banks in Brazil are likely to see the quality of their assets deteriorate as a greater share of their loans become nonperforming, says Moody's Investors Service. Most of the banks that Moody's rates, however, have adequate capital to handle the higher provisioning costs that may arise.

In the analysis of 42 Brazilian banks presented in the report "Brazil's Banks to Face Weaker Asset Quality as Hopes Fade for Economic Recovery," Moody's finds that large private banks are generally well prepared for a deterioration in asset quality, while risks are greatest for mid-sized banks and government banks.

"Medium-sized banks are more sensitive because of their limited earnings capacity and their core business in small-company lending, which tends to be more exposed to economic downturns," says Moody's Vice President and Senior Credit Officer Ceres Lisboa. "Public banks, which grew rapidly in recent years, might see credit costs exceed earnings in 2015 as growth slows and NPL ratios rise."

Government-owned Caixa Economica Federal (Caixa, local currency deposit rating Baa2 negative, baseline credit assessment ba2) and Banco do Brasil (Baa2 negative, baa2), however, have adequate reserves to offset risks, despite their more limited earnings buffers when compared to large private lenders, according to the Moody's study.

Under the stress scenario explored in the report, that of provisioning expenses 26% higher in 2015 than in 2014, two large private banks would experience losses, as would several medium-sized banks and four public banks.

The majority of large private banks have enough earnings to absorb any unexpected increase in provisioning expenses, says Moody's. Both HSBC Bank Brasil (HSBC Bank, A1 review for downgrade, baa2) and Banco Citibank (Baa2 negative, baa2), however, would report losses under the stress scenario.

Moody's expects the Brazil's economy to shrink 1% in 2015, marking a fourth consecutive year of below-potential growth, while net job creation has been on the decline, contracting in the first two months of the year. Further complicating the economic outlook for the country is the fact that inflation has continued to accelerate despite soft economic activity, says the rating agency.

As of February, indicators of asset quality for the banking system remained healthy, but Moody's expects the disappointing GDP growth and slowing loan growth at the public banks to lead to a rise in the share of loans that are non-performing in 2015.