Fitch Affirms Cathay at 'BB+'; Outlook Revised to Positive
The rating action follows a periodic review of the midtier regional banking group, which includes BankUnited Inc. (BKU), BOK Financial Corp. (BOKF), Cathay General Bancorp (CATY), East West Bancorp (EWBC), First Republic Bank (FRC), First Horizon National Corp. (FHN), First National of Nebraska Inc. (FNNI), Fulton Financial Corp. (FULT), Hilltop Holdings, Inc. (HTH), Synovus Financial Corp. (SNV), TCF Financial Corp. (TCB), Trustmark Corp. (TRMK), UMB Financial Corp. (UMBF) and Wintrust Financial Corp. (WTFC).
Company-specific rating rationales for the other banks are published separately, and for further discussion of the midtier regional bank sector in general, refer to the special report titled 'US Banks: Midtier Regional Bank Periodic Review,' to be published shortly.
KEY RATING DRIVERS
VR AND IDRS
Today's rating affirmation incorporates CATY's improved asset quality metrics, continued strong earnings performance and solid capital profile. The Positive Outlook also signals the potential for upward rating movement if CATY's operating performance remains in line with or outperforms our expectations.
CATY's asset quality has continued its trend of improvement over the last three years as management has successfully worked out of problem credits without incurring significant credit costs. Fitch calculates CATY's nonperforming assets (NPA), which includes accruing restructured loans, at 1.56% at FYE2015, the first year it has fallen below the 2% mark since the financial crisis. This level remains toward to the top end of the peer group average.
CATY's improving credit performance is due to management's proven ability to work out both nonaccrual loans and accruing restructured loans, as well as a slowdown of problem loan inflows. As dollar NPAs decreased by 36% since FYE2012, credit costs have remained manageable evidenced by net charge-offs that totalled $10.7million over the last three years. As a result, CATY has been in a position to release some of its reserve for credit losses over the same time period. Nevertheless, the bank has maintained the second highest ALLL coverage ratio in the peer group that stood at 266.6% of nonperforming loans (excluding accruing restructured loans) at FYE15.
CATY's earnings performance is considered a rating strength. Despite a higher cost-of-funds relative to its peer group, CATY has consistently maintained a solid earnings profile over recent years, with the return on assets (ROAA) averaging 1.23% over the last 10 quarters. This performance is mainly due to the aforementioned low credit costs and strong operating cost efficiencies stemming from its relatively small and concentrated branch network. CATY is one of the few banks that have meaningfully grown its net interest margin (NIM) over the last 12 quarters, attributable to the decrease in cost of funding resulting from the unwinding of legacy higher cost long-term repurchase agreements (REPO).
Fitch expects modest further upside in the NIM over the short term as further REPOs are redeemed, though the benefit from rising rates will likely be offset in part by a rate-sensitive deposit base. The bank reported a modestly asset sensitive profile with a $5.5million rise in net interest income under a 100bps shock in rates scenario. Nonetheless, Fitch still expects the bank's ROAA to remain on the high end of the peer group.
Liquidity remains a rating constraint for CATY. The bank has a very high loan to deposit ratio of 98% at 3Q15. Furthermore, CATY's cost of deposits is one of the highest in the peer group with 60% of deposits in high-cost and rate sensitive interest bearing deposits and Jumbo CDs at 3Q15.
At 3Q15 the bank's Fitch Core Capital ratio stood at 12.8%, the second highest in the peer group. Fitch expects CATY to continue optimizing its capital through distributions in the form of common dividends and through a new share repurchase program initiated in 2015. During the third quarter of 2015, CATY issued an additional $83million worth of common equity as partial payment for the acquisition of Asia Bancshares, Inc. which was acquired on July 31, 2015. As a result of the recent common stock issuance, the acquisition was neutral to CATY's capital ratios.
CATY is exposed to concentration risk, with 53% of CATY's loan portfolio consisting of CRE at 3Q15. Fitch views this cautiously, given recent CRE values, especially relative to long-term average growth rates for this asset class. Despite this concentration, Fitch believes there has been an improvement in CATY's overall risk management, owing in part to the lessons learnt from the financial crisis. Further, a 3% decrease in C&I loan exposure over the 2015 fiscal year is viewed positively by Fitch given the very competitive lending environment.
The bank is somewhat reliant on continued growth in the Chinese-American population, especially in the first generation which is in turn dependent on immigration rates. Furthermore, Fitch believes the recent slowdown in Chinese economic growth will have a very modest impact on CATY's operating environment and loan performance since the bank extends loans to U.S. based customers backed by local collateral. While the bank maintains a representative office in China, the only branch outside the U.S. is in Hong Kong.
LONG-TERM AND SHORT-TERM DEPOSIT RATINGS
CATY's uninsured deposit ratings are rated one notch higher than the company's IDR because U.S. uninsured deposits benefit from depositor preference. U.S. depositor preference gives deposit liabilities superior recovery prospects in the event of default.
SUPPORT RATING AND SUPPORT RATING FLOOR
CATY has a Support Rating of '5' and Support Rating Floor of 'NF'. In Fitch's view, CATY is not systemically important and therefore, the probability of support is unlikely. IDRs and VRs do not incorporate any support.
HOLDING COMPANY
Should CATY begin to exhibit signs of weakness, demonstrate trouble accessing the capital markets or distributions from its bank subsidiary, or have inadequate cash flow coverage to meet near-term obligations, there is the potential that Fitch could notch the holding company IDR and VR from the ratings of the operating company.
RATING SENSITIVITIES
VR and IDRs
Positive rating action may occur if CATY's capital position remains at the high end of the peer group and earnings remain stable. The Positive Outlook also incorporates incremental deterioration in asset quality from currently benign levels, though Fitch expects CATY's credit will perform in line with peers.
Conversely, Fitch may revise the Outlook back to Stable if there is deterioration in asset quality that exceeds our expectations. Further, ratings momentum would be impacted if CATY's capital is managed significantly lower, or the earnings profile deteriorates materially.
A shift in CATY's risk profile through significant and outsized growth in higher risk loan categories such as construction loans could also put downward pressure on the rating or outlook.
The rating also factors in the possibility of further merger and acquisition (M&A) activity by CATY. Any further consolidation activity will not be viewed negatively should it result in diversification of CATY's loan portfolio, strengthening of the franchise and remain within CATY's area of expertise, presuming there are not material execution and integrations risks, or an outsized decline in capital ratios.
LONG- AND SHORT-TERM DEPOSIT RATINGS
The long-and short-term deposit ratings are sensitive to any change to CATY's long- and short-term IDR.
SUPPORT RATING AND SUPPORT RATING FLOOR
CATY's Support Rating and Support Rating Floor is '5' and 'NF', respectively, and therefore there is limited likelihood that these ratings will change over the foreseeable future.
HOLDING COMPANY
Should CATY's holding company begin to exhibit signs of weakness, demonstrate trouble accessing the capital markets, or have inadequate cash flow coverage to meet near-term obligations, there is the potential that Fitch could notch the holding company IDR and VR from the ratings of the operating entity. This is viewed as unlikely though for CATY's given the strength of the holding company liquidity profile.]
The rating actions are as follows:
Cathay General Bancorp
--Long-term IDR affirmed at 'BB+'; Outlook Positive
--Short-term IDR affirmed at 'B';
--Viability Rating affirmed at 'bb+';
--Support Rating affirmed at '5';
--Support Floor affirmed at 'NF'.
Cathay Bank
--Long-term IDR affirmed at 'BB+'; Outlook Positive
--Long-term deposit rating affirmed at 'BBB-';
--Short-term IDR affirmed at 'B';
--Short-term deposit rating affirmed at 'F3';
--Viability Rating affirmed 'bb+';
--Support Rating affirmed at '5';
--Support Floor affirmed at 'NF'.
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