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Fitch Revises Portugal's Outlook to Positive; Affirms at 'BB+'
June 16, 2017 / 8:17 PM / 6 months ago

Fitch Revises Portugal's Outlook to Positive; Affirms at 'BB+'

(The following statement was released by the rating agency) Link to Fitch Ratings' Report: Portugal - Rating Action Report here PARIS/LONDON, June 16 (Fitch) Fitch Ratings has revised the Outlook on Portugal's Long-Term Foreign- and Local-Currency Issuer Default Ratings (IDR) to Positive from Stable and affirmed the IDRs at 'BB+'. The issue ratings on Portugal's senior unsecured foreign and local currency bonds have also been affirmed at 'BB+'. The Country Ceiling has been affirmed at 'A+' and the Short-Term Foreign and Local-Currency IDRs at 'B'. The ratings on Portugal's senior unsecured short-term issues have also been affirmed at 'B'. KEY RATING DRIVERS The revision of the Outlook to Positive reflects the following key rating drivers and their relative weights: HIGH The fiscal deficit was markedly reduced in 2016 to 2.0% of GDP from 4.4% in 2015, prompting the end of the Excessive Deficit Procedure (EDP) launched in 2009. The tightening was supported by contained current expenditure and stronger GDP growth from mid-2016. Fitch expects the same drivers will lead to further deficit reduction, to 1.4% by 2018. Weaker GDP growth and potential cost arising from capital injections into the banks are the two main risks to the deficit forecast. Fitch expects the government to continue to deliver tighter fiscal policy while maintaining stability within the parliamentary majority. However, the structure of the majority, which unites the socialist party and two far-left parties, exposes the government to potential political pressure to relax fiscal policy, especially after the exit from the EDP. Fitch expects the narrowing deficit and the recovery in nominal GDP growth to support a sustained downward trend in the debt to GDP ratio, to 126% of GDP by 2018 and 111% by 2026 from 130% of GDP in 2016. Fitch excludes from its debt dynamics any potential impact from interventions in the banking sector. In order to smooth the debt repayment profile, the authorities have bought back short-term debt, issued at longer term, and repaid part of the expensive IMF loan. The cost of servicing debt has declined as a result of the strategy. MEDIUM Portugal has recorded current account surpluses since 2013, reflecting stronger cost competitiveness and lower domestic demand. Exports accounted for 40% of GDP in 2016, up from 30% in 2010. The net lending position has averaged 2% of GDP since 2013, supporting a rapid decline in net external debt (NXD), to 144% of GDP in 3Q16 from 161% in 2012. Fitch expects higher domestic demand will drive down the external surplus by 2018, although it will remain consistent with a decline in NXD, which will remain high compared with the peer median. Fitch expects GDP growth will rise to 2.0% in 2017 from 1.4% in 2016, before slowing to 1.6% in 2018. Growth has picked up since mid-2016 (+2.8% y/y in 1Q-2017), boosted by a stronger labour market (the unemployment rate was 9.8% in April from 11.6% a year ago and a peak at 17.5% in 2013) and a gradual recovery in investment (+5.5% y/y in 1Q-2017). Net exports have also contributed to the acceleration in growth. Stronger confidence and the ramp-up in EU-funds disbursements should support growth from 2017, although legacy issues in the still challenged banking sector and the high stock of private sector debt will continue to weigh on medium term growth prospects. Portugal's 'BB+' IDRs also reflect the following key rating drivers: General government debt, at 130.4% of GDP at end-2016, is well above the 'BB' category median (51% of GDP) and the eurozone average (90%). GDP growth potential is lower than peers, at around 1.5%, reflecting the interplay of high private-sector indebtedness (equivalent to 217% of GDP in March 2017) and fragile banks that hinders investment, and weak demographics. Banks are weakened by a high level of impaired loans (11.8% of credit at risk loans in 2016, while the weighted average NPL ratio (EBA's definition) was close to 20% at end-1H16), representing a source of continuing risk to the sovereign's balance sheet in Fitch's view, although we currently do not anticipate further recapitalisation costs for the sovereign. Portugal's banking sector solvency has strengthened following capital increases by the two largest banks (CGD and BCP) at the start of 2017. A faster reduction in NPLs might require further strengthening in the insolvency framework, a process likely to take time, in Fitch's view. Human development, governance and income per capita indicators are all above those of 'BB' and 'BBB' rated peers, highlighting the country's institutional strengths. Portugal's Ease of Doing Business score is well above the 'BB' and 'BBB' medians. SOVEREIGN RATING MODEL (SRM) and QUALITATIVE OVERLAY (QO) Fitch's proprietary SRM assigns Portugal a score equivalent to a rating of 'A-' on the Long-Term FC IDR scale. In accordance with its rating criteria, Fitch's sovereign rating committee decided to adjust the rating indicated by the SRM by more than the usual maximum range of +/- 3 notches because in our view the country is recovering from a crisis. Consequently, the overall adjustment of four notches reflects the following adjustments: Macro: -1 notch, to reflect a relatively weak medium-term growth outlook, constrained by high corporate indebtedness, low investment, adverse demographic trends and financial sector weakness. Public Finances: -1 notch, to reflect very high levels of government debt. The SRM is estimated on the basis of a linear approach to government debt/GDP and does not fully capture the higher risk at high debt levels. External Finances: -2 notches, comprising two components. The +2 notch contribution to the SRM for "reserve currency flexibility" has been adjusted to +1 notch given Portugal's financial crisis experience. Secondly, one notch reflects that net external debt as a percentage of GDP is one of the highest in the world. Fitch's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three year centred averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch's QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM. RATING SENSITIVITIES The main factors that could, individually or collectively, lead to an upgrade are: -Greater confidence in a sustained downward trend in general government debt/GDP. -Absence of renewed stress in the financial sector that would lead to further costs for the sovereign and/or affect macro financial stability and economic growth. -Continued reduction in external indebtedness supported by current account surpluses. -Stronger long-term growth prospects. The main factors that could, individually or collectively, lead to a stabilisation of the Outlook are: -Failure to make progress in reducing general government debt/GDP ratios or unwinding of external imbalances. -Renewed stress in the financial sector that requires financial support from the state and/or affects macro financial stability and economic growth. KEY ASSUMPTIONS In its debt sensitivity analysis Fitch assumes a primary surplus averaging 2.1% of GDP, trend real GDP growth averaging 1.6%, an average effective interest rate of 3.7% and deflator inflation of 1.9%. Fitch expects that growth in the eurozone, Portugal's main trade partner, will be 1.7% in 2017 and 1.6% in 2018 from 1.8% in 2016. Contact: Primary Analyst Arnaud Louis Director +33 1 44 29 91 42 Fitch France S.A.S 60 rue de Monceau Paris 75008 Secondary Analyst Douglas Winslow Director +44 20 3530 1721 Committee Chairperson Paul Gamble Senior Director +44 20 3530 1623 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: Additional information is available on Applicable Criteria Country Ceilings (pub. 16 Aug 2016) here Sovereign Rating Criteria (pub. 18 Jul 2016) here Additional Disclosures Dodd-Frank Rating Information Disclosure Form here Solicitation Status here#solicitation Endorsement Policy here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT WWW.FITCHRATINGS.COM. PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. 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