Implications for Major Banks of S&P’s Outlook Upgrade for Australia’s Sovereign Rating

S&P recently reaffirmed Australia’s sovereign credit rating at AAA and raised its outlook to stable from negative.  S&P’s outlook upgrade was due to the increased confidence in the federal budget’s return to surplus in the early 2020s driven by expectations for “steady government revenue growth”, spending restraint, the robust labour market in Australia and commodity prices.  The ratings agency also forecasts property prices will “continue their orderly unwind” in Sydney and Melbourne.  However, S&P warned that “while our base case is for a soft landing, our ratings could come under pressure if house prices fall sharply and increase risks to fiscal accounts, real economic growth, and financial stability”.

Despite the outlook upgrade for Australia’s sovereign credit rating, S&P maintained the outlook for the major banks’ ratings as negative due to “pressure remaining on government supportiveness for Australian banks”.  According to S&P, “We consider there remains a one-in-three risk of a downgrade of the four major Australian banks, Macquarie Bank, and Cuscal over the next two years”.  However, S&P expects to revise the ratings outlook for these banks to stable in the next two years if it believes pressures on government supportiveness toward the banking sector have eased.

S&P’s comments above provide further insight into the rating agency’s thinking.  At present the four major banks are rated “A-” by S&P on a stand-alone basis, simply looking at their financials and their business and operating environment.  However, S&P rates them at “AA-” because it attributes an additional 3 ratings notches to the prospect of government support for the banks in a crisis.  There are two factors to this government support being the Australian government’s ability to support the banks (which relies on the financial strength of the Australian sovereign) and the government’s willingness to lend support in a crisis.  The latest actions from S&P indicate the small increase in the financial strength of the Australian sovereign (i.e. its move from negative outlook to stable) has been offset by a small perceived weakening of the government’s propensity to support the major banks in a crisis (the reason the banks were not moved from negative outlook to stable).

Due to the fluidity of the situation, we have advised clients who have ratings policies that specify a certain proportion of assets be “invested with or held by financial institutions rated AA- or above” that this be changed to “invested with or held by major banks or other financial institutions rated AA- or above”.  This would then guard against breaches of policy caused by the major banks being downgraded to “A+”.

Leave a Comment

Your email address will not be published.

Share on facebook
Share on twitter
Share on linkedin

Latest posts

Scroll to Top