DBRS Limited (DBRS Morningstar) confirmed the ratings of Desjardins Group (Desjardins or the Group) and the Fédération des caisses Desjardins du Québec (FCDQ)’s Long-Term Issuer Ratings at AA and Short-Term Issuer Ratings at R-1 (high). The trends on all ratings are Stable. Desjardins’ rating is composed of an Intrinsic Assessment of AA (low) and a Support Assessment of SA2, which is based on expectation that the Government of Canada (rated AAA with a Stable trend by DBRS Morningstar) would assist the Province of Québec (Québec; rated AA (low) with a Stable trend by DBRS Morningstar) in providing support to Desjardins, which has been designated as a domestic systemically important financial institution in Québec. The SA2 designation results in a one-notch uplift to the Long-Term Issuer Rating, resulting in a final rating of AA.
DBRS Morningstar also discontinued the Long-Term Senior Debt rating of Capital Desjardins inc. as the debt has been fully repaid and the entity dissolved into the FCDQ.
KEY RATING CONSIDERATIONS
The ratings and Stable trends reflect Desjardins’ strong franchise in Québec, which experienced strong economic growth prior to the Coronavirus Disease (COVID-19) pandemic and is now showing a healthy rebound, and where the Group has dominant market shares. Additionally, the Group’s diversified business model includes a sizable contribution from its insurance business, which holds top-tier market shares in Québec and ranks among the top five in Canada. Historically, Desjardins’ co-operative business model generates relatively stable earnings from its well-managed risk exposure, which contributes to the Group’s ability to absorb credit losses. The ratings also take into consideration Desjardins’ significant concentration risk, with the majority of loans underwritten in Québec, as well as Desjardins’ relatively high cost structure in comparison to the large Canadian banks.
The ratings also consider that government support measures have largely mitigated the negative economic impacts of the pandemic. Positively, economic performance has rebounded, and the labour market is essentially at full capacity; however, headwinds persist from an aggressive interest rate tightening cycle to combat inflation, geopolitical tensions related to the Russia-Ukraine conflict, supply-chain disruptions, and the pandemic. Furthermore, DBRS Morningstar remains concerned about the combination of high Canadian household debt levels that have reached an all-time high and elevated home prices that have been driven by housing market imbalances and robust demand during the pandemic (particularly in the greater Toronto and Vancouver areas). However, the majority of Desjardins’ credit exposure is underwritten in Québec, which has experienced a relatively benign credit environment in recent years and has not witnessed the rapid real estate price appreciation seen in some other provinces.
Over the longer term, DBRS Morningstar would upgrade the ratings if Desjardins continues building the scale and diversity of its franchise, without a commensurate increase in risk, while sustainably improving the cost-to-income ratio.
Conversely, DBRS Morningstar would downgrade the ratings if there was a reduction in the assessment of the likelihood of systemic support, material losses in the loan portfolio, especially from deficiencies in risk management or if there was a sustained decline in earnings generation capacity.
Franchise Combined Building Block (BB) Assessment: Strong
Desjardins is the sixth-largest financial institution in Canada by total assets with an expansive branch network in Québec (Canada’s second-largest province by population and GDP), where it holds leading market shares for both residential mortgage loans and deposits (38% for residential mortgages and 42% for deposits). Furthermore, the Group maintains sizable insurance businesses with leading franchises in Québec, where it is uniquely positioned to sell insurance products through its branches. This has been an important competitive differentiator for Desjardins compared with the large Canadian banks, which are prohibited from selling insurance through their bank branches.
Earnings Combined Building Block (BB) Assessment: Strong/Good
Desjardins generates strong earnings with the Group’s sizable insurance business and its wealth management franchise providing relatively stable sources of revenues during periods of volatility, such as was experienced during the pandemic. Although concentrated in Québec, Desjardins benefits from diverse revenue sources, including retail banking, insurance (life and general), wealth management, commercial/corporate banking, institutional asset management, trust services, and capital markets/investment banking. In Q1 2022, Desjardins reported net income of $519 million, a 35% decrease when compared with the historically unprecedented net income of $798 million in Q1 2021. This was due to higher net interest income and lower insurance expenses being partially offset by net investment losses and lower premium income as the Property and Casualty Insurance experienced a decline in premiums and a more normalized loss ratio.
Risk Combined Building Block (BB) Assessment: Strong
The Group’s risk profile remains solid. About 75% of the loan book comprises retail loans, most of which are residential mortgages and have historically generated low levels of losses. Although the Group has a smaller proportion of commercial and corporate loans in comparison to Canada’s large banks, its business loans are skewed toward small and medium-size enterprises (SMEs), which typically have less resources to cope with economic downturns. Mitigating this risk, Québec has relatively lower operating costs and the federal government has provided unprecedented support given the pandemic that has lessened the financial impact on the SME sector. Nonetheless, DBRS Morningstar does expect that while higher loan losses will materialize as government stimulus measures wind down, they will remain manageable.
Funding and Liquidity Combined Building Block (BB) Assessment: Strong/Good
Desjardins maintains a diverse funding mix that is largely composed of stable retail deposits, which are sourced from its network of caisses and service centres across Québec. This is supplemented by Desjardins’ active participation in the Canadian, U.S., and European wholesale funding markets, where it issues covered bonds, securitization notes, medium-term notes, and short-term paper. Meanwhile, Desjardins enjoys high liquidity levels in line with peers with a Liquidity Coverage Ratio of 134% for Q1 2022, and a net stable funding ratio of 129%, both well above the regulatory minimums.
Capitalisation Combined Building Block (BB) Assessment: Very Strong/Strong
DBRS Morningstar views Desjardins’ capital position as strong and sufficient to absorb potential losses given the Group’s well-managed risk exposures. As a cooperative institution, Desjardins is limited in its ability to raise fresh capital, although it can source emergency capital through its caisses network. However, DBRS Morningstar notes that Desjardins’ capital levels are almost twice those of Canada’s large banks, while its risk profile is not materially different. In March 2019, the Autorité des marchés financiers finalized the Bail-In Regime for Desjardins. As a result, Desjardins has issued bail-inable debt (senior and subordinated), which has further bolstered its regulatory capital position. Desjardins has already exceeded its regulatory requirement of 21.5% for its total loss-absorbing capacity (TLAC) ratio prior to the regulatory deadline of April 1, 2022, with a reported TLAC ratio of 25.8% as of Q1 2022. Given its existing capital position and ongoing replacement of maturing senior debt with Bail-inable Senior Debt, Desjardins is expected to remain ahead of its TLAC requirement.
Further details on the Scorecard Indicators and Building Block Assessments can be found at https://www.dbrsmorningstar.com/research/399918.
ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
Social (S) Factors
DBRS Morningstar views that the Social Impact of Products and Services ESG subfactor was relevant to the credit rating but does not affect the assigned ratings or trends. As a cooperative, Desjardins operates a membership-based community banking model where the social aspect of its activities strengthens its franchise, albeit at the expense of profitability. As a result, this factor is incorporated into the Group’s Franchise Strength grid grades.
A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings.
All figures are in Canadian dollars unless otherwise noted.
The principal methodology is the Global Methodology for Rating Banks and Banking Organisations (June 23, 2022; https://www.dbrsmorningstar.com/research/398692). Other applicable methodologies include the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (May 17, 2022; https://www.dbrsmorningstar.com/research/396929).
The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found on the issuer page at www.dbrsmorningstar.com.
The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.
This rating is endorsed by DBRS Ratings Limited for use in the United Kingdom, and by DBRS Ratings GmbH for use in the European Union, respectively. The following additional regulatory disclosures apply to endorsed ratings:
Each of the principal methodologies/principal asset class methodologies employed in the analysis addressed one or more particular risks or aspects of the rating and were factored into the rating decision. Specifically, the “Global Methodology for Rating Banks and Banking Organisations” (June 23, 2022) was used to evaluate the issuer, and “DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings” (May 17, 2022) was used to assess ESG factors.
The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. DBRS Morningstar’s outlooks and ratings are monitored.
For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. DBRS Morningstar understands further information on DBRS Morningstar historical default rates may be published by the Financial Conduct Authority (FCA) on its webpage: https://www.fca.org.uk/firms/credit-rating-agencies.
Lead Analyst: Maria Gabriella-Khoury, Senior Vice President, Global FIG
Rating Committee Chair: Michael Driscoll, Managing Director, Head of NA FIG
Initial Rating Date: June 5, 1997
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