OREANDA-NEWS. Fitch Ratings has affirmed the Long-Term Issuer Default Ratings (IDRs) on two Japanese regional banks, Shizuoka Bank, Ltd. (Shizuoka) and Suruga Bank Ltd. (Suruga), at 'A' and 'A-', respectively. The Outlooks are Stable. A full list of the rating actions is provided at the end of this rating action commentary.

KEY RATING DRIVERS

VIABILITY RATING (VR) AND IDRs

The IDRs of Shizuoka and Suruga are driven by their VRs. Like other banks in Japan, most regional banks continue to face a challenging operating environment with uncertainties over the sustainability of government initiatives to stimulate economic development and competitive pressures in a very low interest rate environment. Nevertheless, the Stable Outlook for both banks' IDRs reflects Fitch's view that sharp credit cost increases will not crystallise in the foreseeable future and that their credit profiles will be underpinned by their adequate risk controls and buffers.

Shizuoka's VR of 'a' reflects its sustained strong capitalisation (Fitch Core Capital ratio of 17.7% at end-March 2015), leading franchise in the regional economy of Shizuoka Prefecture and potential buffer against credit risk through a high level of guarantees and collateral coverage, including public guarantees. Constraints on Shizuoka's ratings include its limited options for diversification in its revenue base, which relies on lending in Shizuoka Prefecture.

Suruga's VR of 'a-' factors in its decent profitability by Japanese standards (ROA at 0.8% compared with mega banks' average of 0.5% for the year ended March 2015) and improvement in the bank's net interest margin (NIM) whereas other domestic peers face downward pressure on NIM. Although this may reflect risk appetite to some degree, Suruga's higher profitability is backed by its unique business model in Japan, which focuses on providing a wide range of retail clients with multi-purpose loans. Suruga's ratings are constrained by a lack of diversification as a result of concentration in retail lending and its small asset size (consolidated total assets of JPY4trn compared with Shizuoka's JPY11trn at end-March 2015).

Strong funding and liquidity features, sustained by a firm deposit base, remain the key positive and major drivers for the Japanese banking system as well as for the both banks' ratings.

SUPPORT RATING (SR) AND SUPPORT RATING FLOOR (SRF)

Both banks' SRs and SRFs are affirmed as Fitch believes the Japanese government's propensity to support the domestic banking sector remains unchanged.

Shizuoka's SR and SRF reflect Fitch's belief that the government's propensity to provide support, if necessary, is strong given its size relative to other banks in its home prefecture and nationally. On the other hand, the propensity to provide support to Suruga may be more limited given the bank's marginal systemic importance within Japan's financial system and its small operational size.

RATING SENSITIVITIES

VR AND IDRs

A positive rating action for Shizuoka is unlikely given Japan's sovereign rating is at 'A', with a Stable Outlook.

For Suruga, positive action would likely stem from further structural improvement in the domestic operating environment leading to stronger loan growth and faster internal capital generation without a material increase in risk appetite. However, Fitch believes such structural improvement to be remote or will take some time.

For both banks, substantial deterioration in the operating environment resulting in greater volatility in performance, including through taking more risk to offset the impact of the operating environment, could exert negative pressures on the VRs and IDRs. This would include larger exposure to market risk, which is currently controlled as at manageable level.

SR AND SRF

Shizuoka's SR of '2' and SRF of 'BBB-' are sensitive to changes to Japan's sovereign rating, which underlines its ability to support the bank. The bank's SR and SRF were unchanged after Japan was downgraded from 'A+' with Negative Outlook to 'A' with Stable Outlook in April 2015. This was based on Fitch's belief that the government's propensity to support Shizuoka, if necessary, remains strong. Suruga's SR and SRF are not immediately sensitive to the sovereign rating, as Fitch already factors in limited probability of support. More generally, Fitch's perceptions about the authority's willingness to provide support to banks may be subject to change as the regulatory framework around bank resolution evolves in Japan.

The rating actions are as follows:

Shizuoka:
- Long-Term Foreign and Local Currency IDRs affirmed at 'A'; Outlook Stable
- Short-Term Foreign and Local Currency IDRs affirmed at 'F1'
- Viability Rating affirmed at 'a'
- Support Rating affirmed at '2'
- Support Rating Floor affirmed at 'BBB-'

Suruga:
- Long-Term Foreign and Local Currency IDRs affirmed at 'A-'; Outlook Stable
- Short-Term Foreign and Local Currency IDRs affirmed at 'F1'
- Viability Rating affirmed at 'a-'
- Support Rating affirmed at '4'
- Support Rating Floor affirmed at 'B'