Fitch: Strong Credit Metrics Support UK Banks' Stable Outlook

The 2016 outlook for UK bank ratings is stable, based on strong credit metrics, says Fitch Ratings. This is in contrast to 2015, when 30% of ratings were on Negative Outlook, weighted down by the impending removal of sovereign support for banks. Standalone creditworthiness now drives most of UK banks' ratings and there could be some upgrades of VRs in 2016. However, the timing will depend on the success of further business model diversification and improvement of credit risk profiles.

We maintain a stable outlook for the banking sector, underpinned by supportive operating environment and reflecting the stabilisation of asset quality and better prospects for profitability, with risks related to the overall indebtedness of UK households and their vulnerability to rising base rates counterbalancing these positive developments.

Fitch expects UK banks' operating profitability to continue to improve in 2016 thanks to loan growth and widening margins, and despite higher operating costs as the banks implement structural changes to meet the ring-fencing rules. We expect the banks to continue to report a diminishing stock of impaired assets in 2016. Nevertheless, we believe that the UK banks' loan impairment charges hit a cyclical low in 2015 and are likely to increase moderately in 2016 when base rates start to rise.

UK banks' capitalisation has been improving in line with the regulator's decision that they need to meet Basel III rules, including the exclusion of most transitional filters, ahead of time. All banks have stated higher targets for common equity capital, which they have largely achieved, and we expect them now to begin to focus on building up their second tier of bail-in-able debt to meet higher regulatory and market expectations.

We expect liquidity to remain sound, supported by extended contingency funding available, if needed, from the Bank of England. We expect banks to increase use of unsecured wholesale funding to build up total loss-absorbing capacity and minimum requirement for own funds and eligible liabilities over the coming years.