Outlook for the Swedish banking still negative, but improving

The credit outlook for the Swedish banking sector remains negative, although it is improving. Swedish banks still face a challenging operating environment which will continue to put pressure on their financial fundamentals in 2010, Moody's Investors Service said.
The report added that Swedish banks remain exposed to key risks, notably asset quality deterioration, particularly from the severely damaged Baltic economies and constrained revenue generation resulting from credit risk and funding costs. However, Swedish banks are in a better position than they were a year ago thanks to a brighter domestic economic outlook, some signs of stabilisation in the Baltic economies, and the easing of conditions in the wholesale funding markets.
After emerging from the most acute phase of the global financial crisis, the Swedish banking sector has remained solid overall, thanks to its large banks' robust and stable domestic retail franchises and resilient traditional core pre-provision profitability, which has represented a good buffer to absorb deterioration in the main financial ratios.
"Despite having weathered the crisis without material systemic damage, Swedish financial institutions have exhibited vulnerabilities particularly in terms of their funding profiles, resulting in direct — albeit very limited — government intervention," said Antonella Pisani, author of the report.
Most of the large Swedish banks took measures to strengthen their capital in order to absorb future asset quality deterioration, particularly from the Baltic countries, to which the Swedish banking system is partly exposed. However, Moody's notes that, unlike in other banking systems, this capital has been raised directly from the capital markets without need for government injections.
"The Swedish rated banks' domestic exposures have suffered only very modest deterioration, with the resilient and good performance of the retail mortgage sector partly offset by slightly weaker asset quality on the corporate sector, particularly on SMEs and property companies. However, for their Baltic credit exposures, the deterioration has been rapid and severe," Pisani explained. Nonetheless, Moody's maintains a cautious view even for the Swedish exposures going forward, given that, as asset quality problems typically emerge with a certain time lag, it could take another year or more before the expected credit losses are fully recognised incorporating the effects of the increase in unemployment.
With regard to the new Basel proposals, Moody's anticipates that, if they are implemented "as is", their impact will be broadly manageable for the Swedish banking sector. It cautions, however, that these new regulatory requirements will likely entail higher funding costs and ultimately further pressure on the sector's earnings-generation capacity. Given their relative dependence on market funding, most Swedish banks will find the proposed liquidity requirements more challenging than the stricter capital requirements.