S&P downgrades Aussie mortgage linchpin

Via S&P:

Genworth Australia Ratings Lowered To ‘A’ Under Revised Criteria; Outlook Stable

• We view that Genworth Australia’s constrained business diversity and challenging market conditions make it increasingly susceptible to competitive pressures, as reflected in a decline in revenue and earnings over recent years.

• We are lowering our ratings on Genworth Australia to ‘A’, following the application of our new Insurers Rating Methodology and in assessing the risks associated with its concentrated product offering.

• We are also revising the rating on Genworth Australia’s subordinated debt to ‘BBB+’.

• The ratings on Genworth Australia will continue to be driven by its stand-alone credit profile as we assess it as delinked from its major shareholder, GFI, under our revised Group Rating Methodology.

•The stable outlook reflects our expectation that Genworth Australia’s competitive position and earnings will stabilize over 2019 and 2020.

SYDNEY (S&P Global Ratings) July 25, 2019–S&P Global Ratings today said it has lowered to ‘A’ from ‘A+’ its insurer financial strength and issuer credit ratings on Genworth Financial Mortgage Insurance Pty Ltd. (Genworth Australia) and insurer financial strength rating on Genworth Financial Mortgage Insurance Pty Ltd. (NZ Branch). We also lowered the rating on Genworth Australia’s subordinated debt to ‘BBB+’ from ‘A-‘. The outlook is stable.

We assess the ratings on Genworth Australia as delinked from those on Genworth Financial Inc. (GFI; B/Watch Dev/B), which means that the ratings on Genworth Australia do not benefit from any expectation of extraordinary group support, nor are they subject to any negative intervention from the group.

This rating action follows a review of Genworth Australia under our revised criteria (“Insurers Rating Methodology,” published on July 1, 2019; “Hybrid Capital: Methodology And Assumptions,” published on July 1, 2019; and “Group Rating Methodology,” published on July 1, 2019).

Our stable outlook reflects our expectation that Genworth Australia’s earnings will stabilize over the next two years and that it will maintain its strong competitive position as the largest LMI in Australia, as well as its current level of capitalization.

Although unlikely, downward rating pressure could occur if there is:

• A deterioration in the insurer’s competitive position resulting in a material weakening in its market share, for example due to a loss of major clients or increased competition;

• A further material decline in operating performance; or

• A weakening in its prospective capital position to below the ‘A’ level, under our global insurance capital model.

Although unlikely, we could upgrade Genworth Australia if our assessment of capital adequacy materially improved to a level consistent with the ‘AA’ category assessment or stronger.

The ‘A’ rating on Genworth Financial Mortgage Insurance Pty Ltd. (Genworth Australia) reflects S&P Global Ratings’ view of the insurer’s strong competitive position, which is supported by its leading market share, and strong capital position. Our assessment also factors in a lack of diversity in its product offering.

The downgrade reflects our view of the weakened competitive position of Genworth Australia within the local market. We consider this to be a result of its lack of broad business diversity as a monoline insurer. Genworth Australia’s earnings and market share has decreased alongside some structural declines in the industry over the past five years. The reduction in its revenues and capital base over this period means that the insurer’s ability to weather large shocks has diminished, in our view.

We view that weakened market conditions for lenders’ mortgage insurers have been driven by a range of factors such as lower market appetite for high loan-to-value ratio bank lending, restrictions on mortgage broker commissions, and more onerous loan servicing assessment. Together, these have led to a structural decline in new business volumes that may be further impacted by introduction of a government backed loan deposit scheme for first home buyers. While Genworth maintains a leading market share in the LMI market, we expect increased competition from bank LMI captives and a new entrant to place pressure on Genworth’s market position and earnings.

The stable outlook reflects our expectation that Genworth Australia’s profitability will stabilize at around current levels over the next one to two years. Improved market momentum, which will be aided by lower interest rates, the incremental loosening of regulatory lending constraints, and greater certainty around tax settings for investors, would support the outlook on Genworth Australia. However, we expect new business volumes to remain at lower levels.

We consider Genworth Australia to be a nonstrategic subsidiary of GFI, and the ratings on Genworth Australia are delinked from the group. As such the ratings on Genworth Australia do not benefit from, nor are they constrained by, any extraordinary group support. This assessment takes into account local regulatory oversight, external minority ownership, and restrictions on capital transfers.

It is a modern miracle that the thing is not yet junk. Regulatory capital has been run down for years:

As delinquencies grind higher by 8% per annum with QLD and NSW joining the WA party. VIC is invited too, don’t worry:

With insurance in force now at $309bn:

Yielding a cool capital leverage ratio of, wait for it, 307x on Australia’s highest risk cohort of mortgagees.

Houses and Holes

David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the fouding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal.

He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.

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