OREANDA-NEWS. Fitch Ratings has today, affirmed the Long-Term and Short-Term Issuer Default Ratings (IDR) and Viability Ratings (VR) of five New Zealand-based regional financial institutions: TSB Bank Limited (TSB) at 'A-'; Southland Building Society (SBS) at 'BBB'; The Co-Operative Bank Limited (Co-op) at 'BBB-'; Nelson Building Society (NBS) at 'BB+'; and Wairarapa Building Society (WBS) at 'BB+'. At the same time, Fitch has revised SBS's and Coop's Outlook on their respective IDRs to Positive from Stable. The Outlook on TSB's, WBS's and NBS's IDRs are Stable.

The Support Ratings and Support Rating Floors of all these entities have been affirmed at '5' and 'No Floor', respectively. A full list of rating actions is at the end of this commentary.

The affirmation of the IDRs, VRs and senior debt ratings reflects our view that all five entities are likely to continue to perform solidly over the next 12 to 24 months. The Positive Outlooks for SBS and Co-op reflect a changed strategic approach for both banks. These changes have already shown early signs of performance improvements and membership growth, although we expect the biggest benefits to their respective competitive positions to emerge over the next 18-24 months. Importantly, we do not expect this growth to come at the expense of each bank's conservative risk appetite.

All five entities have simple and transparent business models, confined to the New Zealand market. Their main business focus is residential mortgages where they have relatively small national franchises and are price-takers, although most enjoy a level of community support in their home regions. Nevertheless, all entities have strong capital ratios relative to international peers, offsetting their limited access to common equity owing to their ownership structures, typically being a mutual or owned by community trusts.

We expect New Zealand's economic growth to continue, albeit slower than the last two years. The contribution to growth from the Christchurch rebuild has peaked and some commodity prices remain under pressure, impacting parts of agricultural output. Consequently, the Reserve Bank of New Zealand (RBNZ) has entered into a phase of monetary easing, lowering the official cash rate (OCR) by 75p to 2.75% since June 2015, which should support asset quality across the banking system, although revenue generation may become more challenging.

High household leverage and New Zealand's high property prices remain risks to the financial system. Following strong house price growth, the RBNZ announced the implementation of additional macro-prudential measures from 1 November 2015. However, the impact on the entities is limited as their exposure to Auckland remains small. Spill-over effects of a potential house price correction from Auckland are possible although current net immigration flows and the existing housing imbalance limit the chance of a near-term correction.

There are risks building in the agricultural sector where low dairy prices, should they persist, may contribute to asset quality issues in this sector. However, the entities in this peer review have limited exposure to the dairy sector. The operating environment does not constrain the entities' IDRs and VRs.

KEY RATING DRIVERS
IDRS, VRs AND SENIOR DEBT

TSB Bank Limited
TSB's conservative risk appetite has led to its consistently sound asset quality and profitability, which have been above industry average over the past decade. TSB's conservative risk appetite, combined with its simple business model has resulted in a strong balance sheet structure and sustainable operating performance. TSB's liquidity, funding and capital positions are good for an institution of its size and are strong relative to international and domestic peers. The ratings also take into account TSB's small domestic franchise, geographic concentration and limited access to new capital.

TSB's business model has been strongly influenced by the bank's conservative risk appetite which reflects the bank's tight underwriting standards, careful expansion outside its home region as well as holding a sizeable securities portfolio which supports the bank's exceptional liquidity position. However, single name concentration within the securities holding represents a major source of potential credit risk, although TSB has changed its maximum exposure limits by amending its treasury policy following the default of government-owned Solid Energy.

Southland Building Society
SBS's IDRs and VR reflect the bank's conservative risk appetite, improving asset quality and earnings, and sound capital ratios, offset by a modest domestic franchise and limited pricing power. We believe the bank's adjusted strategy, which was developed by SBS's new CEO, gives it the opportunity to grow its membership base in a targeted manner without materially increasing risk appetite - this is the reason for the Positive Outlook on SBS's Long-term IDRs.

We also expect earnings and profitability to improve in the medium-term without a material deterioration in asset quality, capital and funding if the new strategy is successfully implemented. However, falling interest rates, increased investment in the business and a modest increase in impairment charges mean there may be some pressure in the year to 31 March 2016.

SBS's 'deposits from customers' are rated one notch above the bank's IDRs at BBB+, to reflect substantial subordination to these instruments. Deposits from customers rank equally with commercial paper, and ahead of redeemable shares - SBS's main funding source. Deposits from customers and commercial paper combined only accounted for 9.5% of total liabilities and 8.7% of total assets at 31 March 2015.

The Co-operative Bank Limited
Co-op's IDRs and VR reflect the bank's modest risk appetite, sound asset quality and strong capital ratios. These considerations are offset by the bank's weaker earnings and profitability relative to domestic peers. The Positive Outlook on Co-op's Long-term IDRs reflect our expectation that the bank will continue to deliver stronger levels of asset and earnings profitability growth relative to peers over the rating horizon without material deterioration in its asset quality or capital ratios.

Co-op has continued to approach its expansion, particularly into the Auckland mortgage market, with some caution. The bank appears to have maintained its modest risk appetite, targeting lower loan/ value ratio (LVR) and owner occupier residential mortgages. The bank's strong loan growth could result a lower Fitch Core Capital ratio in the short term, although the total capital ratio would likely be maintained around current levels.

Wairarapa Building Society
WBS's IDRs, VR reflect the society's limited franchise, small absolute size and concentration risks in the loan portfolio. This is demonstrated in the higher impaired loan ratio at FYE15, caused by a small number of larger loans. WBS's investment property portfolio also adds additional market risk and volatility to its profitability. Offsetting these risks is the society's adequate capital position, conservative underwriting criteria and strength within its home market.

WBS's capital ratios are high relative to peers but we view this as appropriate given the society's small absolute capital base, loan concentrations and limited access to common equity. The society's conservative underwriting approach is reflected in its low level of loan losses and low LVR across its portfolio. The society has also indicated that it intends to reduce its property investment holdings.

Nelson Building Society
NBS's ratings are constrained by its modest franchise, small absolute size and capitalisation. These constraints result in reduced pricing power and increases concentration risks for the society. NBS's conservative risk appetite, generally solid asset quality and funding position act to partially offset these considerations.

The society has leveraged its position in its home market well, delivering strong loan growth over the last four years whilst improving its net interest margin. However, falling interest rates and increasing competition may inhibit future growth. As a mutual, the society has limited access to common equity and its capital ratios are lower than domestic peers, although stronger than some more highly rated international peers.

SUPPORT RATING AND SUPPORT RATING FLOOR
The Support Ratings and Support Rating Floors of all five financial institutions reflect that while support from the New Zealand sovereign is possible, it cannot be relied upon. In our view, the Open Bank Resolution Scheme (OBR) reduces the propensity of the sovereign to support its banks. The OBR allows for the imposition of losses on depositors and senior debt holders to make up capital shortfalls if a deposit-taking institution has failed.

RATING SENSITIVITIES
IDRS, VRs AND SENIOR DEBT

TSB Bank Limited
TSB's IDRs and VR would be sensitive to a weakening in its risk appetite, most likely coupled with a deteriorating capital position over the long-term rating horizon. A heightened risk profile - reflected in weaker underwriting standards or sharp loan growth - and/or risk controls, or a substantial increase in asset growth, could lead to deterioration in asset quality, operating performance and capitalisation, which could result in negative rating action.

Positive rating momentum would require significant improvements in the franchise while maintaining its current business model and risk appetite. An upgrade is unlikely in the short to medium term.

Southland Building Society
SBS's IDRs and VR may be upgraded if the bank successfully implements its adjusted strategy. We expect this to be reflected in growth in the bank's balance sheet and membership, and improved earnings, without a material deterioration in asset quality, capital or funding. We believe these outcomes are likely to emerge within 18-24 months.

The Positive Outlooks on the IDRs are likely to be revised to Stable if the change in strategic direction fails to result in an improved franchise for the bank, or if it comes at the expense of SBS's conservative risk appetite, or its sound funding and capital positions.

The rating on SBS's deposits from customers is subject to the same factors that influence the IDRs. In addition, a substantial increase in the proportion of senior unsecured debt (customers from deposits and commercial paper) would reduce subordination to these instruments and could result in a downgrade, aligning the rating with SBS's IDRs.

The Co-operative Bank Limited
Similar to SBS, an upgrade in Co-op's IDRs and VR will be driven by the successful implementation of its strategic plan, implemented in 2012. We expect the positive trends in asset growth, membership numbers and earnings to continue over FY16-FY17.

The Positive Outlooks on the IDRs could be revised to Stable if the bank loses momentum in its improvement or if the growth achieved comes at the expense of the bank's risk appetite, capital or funding position.

Wairarapa Building Society
WBS's IDRs and VR would be sensitive to a weakening in its asset quality, resulting in an erosion of its capital position. An upgrade in the society's ratings is unlikely due to the society's small absolute capital base, small domestic franchise and high level of loan concentrations.

Nelson Building Society
NBS's IDRs and VR could experience negative rating pressure should the society experience unexpected levels of loan deterioration, possibly due to aggressive growth or weakened underwriting criteria, resulting in a decline in earnings and capital ratios. An upgrade to NBS's ratings would require sustained improvements to the society's company profile and a strengthened capital position.

SUPPORT RATING AND SUPPORT RATING FLOOR
The Support Ratings and Support Rating Floors are sensitive to any change in assumptions around the propensity or ability of the New Zealand government to provide timely support to each institution.

The rating actions are as follows:

TSB Bank Limited
Long-Term IDR affirmed at 'A-'; Outlook Stable;
Short-Term IDR affirmed at 'F2;'
Viability Rating affirmed at 'a-';
Support Rating affirmed at '5'; and
Support Rating Floor affirmed at 'No Floor'.

Heartland Bank Limited:
Long-Term IDR upgraded to 'BBB' from 'BBB-'; Outlook Stable;
Short-Term IDR upgraded to 'F2' from 'F3';
Viability Rating upgraded to 'bbb' from 'bbb-';
Support Rating affirmed at '5'; and
Support Rating Floor affirmed at 'No Floor'.

Southland Building Society
Long-term IDR affirmed at 'BBB'; Outlook revised to Positive from Stable;
Short-term IDR affirmed at 'F2';
Local Currency Long-term IDR affirmed at 'BBB'; Outlook revised to Positive from Stable;
Local Currency Short-term IDR affirmed at 'F2';
Viability Rating affirmed at 'bbb';
Support Rating affirmed at '5';
Support Rating Floor affirmed at 'No Floor';
Commercial Paper affirmed at 'F2'; and
Long-Term senior unsecured debt (deposits from customers) affirmed at 'BBB+'.

The Co-operative Bank Limited
Long-Term IDR affirmed at 'BBB-'; Outlook revised to Positive from Stable;
Short-Term IDR affirmed at 'F3';
Viability Rating affirmed at 'bbb-';
Support Rating affirmed at '5'; and
Support Rating Floor affirmed at 'No Floor'.

Nelson Building Society:
Long-Term IDR affirmed at 'BB+'; Outlook Stable;
Short-Term IDR affirmed at 'B';
Local Currency Long-Term IDR affirmed at 'BB+'; Outlook Stable;
Local Currency Short-Term IDR affirmed at 'B';
Viability Rating affirmed at 'bb+';
Support Rating affirmed at '5'; and
Support Rating Floor affirmed at 'No Floor'.

Wairarapa Building Society:
Long-Term IDR affirmed at 'BB+'; Outlook Stable;
Short-Term IDR affirmed at 'B';
Local Currency Long-Term IDR affirmed at 'BB+'; Outlook Stable;
Local Currency Short-Term IDR affirmed at 'B';
Viability Rating affirmed at 'bb+';
Support Rating affirmed at '5'; and
Support Rating Floor affirmed at 'No Floor'.