MOODYS.COM

22 JUNE 2017

NEWS & ANALYSIS Corporates 2 » Celanese Joint Venture with Blackstone Will Initially Weaken

Its Leverage » Boeing’s Launch of 737 MAX 10 Is Credit Positive » South Africa’s Revised Mining Charter Is Credit Negative and

Unlikely to Be Implemented » Italy Accepts ArcelorMittal's Bid to Acquire Steel Manufacturer

llva, a Credit Positive

Infrastructure 8 » Hong Kong and China Gas Co. Tariff Increase Would Be

Credit Positive » KEPCO and KHNP Will Be Adversely Affected by Korea's Plan to

Reduce Nuclear Power Generation » Origin Energy’s Price Hike in Retail Electricity Is Credit Positive

Banks 14 » Brazilian Credit Bureau Will Enhance Bank Risk Management » Société Générale Sells 20% of ALD, a Credit Positive » Potential Exchange of Dana Gas' Sukuk Because of Shariah

Breech Is Credit Negative for Sukuk Investors » Egypt's Banks Will Benefit from Country's Increased Tourism » Korean Banks Will Benefit from Mortgage Measures

Asset Managers 23 » Active Asset Managers Would Benefit from New

ETF Technology

CREDIT IN DEPTH What to Expect in the US Bank Capital Stress Test 28

The Federal Reserve’s bank capital stress test is likely to be less stringent in 2017. We expect regulators to allow dividend increases and sizable stock repurchases, with the result that banks’ capital ratios will remain steady or improve only modestly. The biggest change to this year’s stress test is the elimination of the qualitative assessment for 21 of the 34 participants determined to be noncomplex, removing an independent, comparative assessment that has been helpful to creditors and analysts.

RECENTLY IN CREDIT OUTLOOK

» Articles in Last Monday’s Credit Outlook 32 » Go to Last Monday’s Credit Outlook

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NEWS & ANALYSIS Credit implications of current events

MOODYS.COM

Corporates

Celanese Joint Venture with Blackstone Will Initially Increase Its Leverage On Monday, US specialty chemicals producer Celanese U.S. Holdings LLC (Baa3 stable) said that it would form a 70%/30% joint venture with the private-equity firm Blackstone Group L.P., combining their acetate tow businesses, which produce the raw material for cigarette filters. By levering up the venture, Celanese will get $1.6 billion in cash and Blackstone will get $540 million.

The deal with Blackstone is credit negative for Celanese because it will fully consolidate the levered joint venture and guarantee $400 million of the $2.2 billion of debt at the venture. The deal must still clear significant regulatory hurdles, considering the acetate tow industry has only four large producers outside of China. But if it proceeds, the agreement will initially weaken Celanese’s credit metrics.

Celanese plans to use $800 million of its $1.6 billion cash dividend from the joint venture to repay debt, offsetting the EBITDA it will lose to the joint venture. However, its pro forma consolidated debt/EBITDA ratio, including our adjustments, will increase to 3.3x from 2.7x as of 31 March 2017, and net leverage will increase to 3.0x from 2.3x.

The increase in leverage will be temporary, however, with gross debt/EBITDA declining below 3.0x by the end of 2018. The deal will also weaken Celanese’s cash flow metrics, but they will remain above 20% and will continue to provide support for its investment-grade rating.

The new joint venture, levered at about 3.5x with some $2.2 billion in debt, marks Celanese’s first step in monetizing its acetate tow business, which faces considerable strain from global overcapacity. Although Celanese will still own 70% of the joint venture and guarantee $400 million of its debt, the company is likely to completely monetize the acetate tow unit by 2020-22. For now, Celanese will combine its remaining acetate tow operations, including its three joint venture facilities in China, with lower-margin assets formerly owned by Belgium’s Solvay SA (Baa2 negative), which sold its acetate tow business to Blackstone on 1 June.

By combining two of the four global producers, forming the joint venture may slow the decline in margins, but acetate tow’s profitability has little potential for long-term improvement. China is likely to continue ramping up its production capacity, and will shortly stop imports of acetate tow, making some shutdown of capacity almost inevitable. Celanese should draw some benefit from expanding the amount of low-cost flake used in the joint venture’s European facilities over time. Although Celanese could conceivably move to reacquire Blackstone’s 30% equity stake, the acetate tow segment’s currently weak prospects make such a move unlikely.

This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page on www.moodys.com for the most updated credit rating action information and rating history.

John Rogers Senior Vice President +1.212.553.4481 john.rogers@moodys.com

NEWS & ANALYSIS Credit implications of current events

3 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

Boeing’s Launch of 737 MAX 10 Is Credit Positive On Monday, The Boeing Company (A2 stable) launched its 737 MAX 10 at the Paris Air Show. By Wednesday, the company disclosed 203 orders or commitments, including conversions of previously ordered MAX models. The launch is credit positive because it adds an aircraft to Boeing’s MAX family that can compete directly with the rival Airbus SE (A2 stable) A321neo, Airbus’ largest narrowbody.

The MAX 10, which is five feet longer than its nearest sibling, the MAX 9, will offer carriers more capacity, further lowering costs per seat mile and per passenger. Boeing now has a larger MAX variant to compete with the Airbus A321neo, which has garnered a large portion of the orders for that company’s new engine option (neo) narrowbody aircraft. The absence of a more closely sized MAX model allowed the Airbus’ neo family to outsell Boeing’s MAX narrowbody offerings.

The announced orders for the MAX 10 and other recent orders for other MAX aircraft will reduce Airbus’ cumulative lead for new generation narrowbodies to about 1,000 orders. By opting for a variant instead of a clean-sheet design to take on the A321neo, Boeing will reduce the cost of development and enhance the franchise value of its 737 program.

Although the introduction of the new variant may spur additional orders, we do not believe it will fuel demand for narrowbodies beyond what is already reflected in Boeing’s annual current market outlook, which the company released Tuesday. The outlook, which forecasts aircraft demand for the next 20 years through 2036, projects that 29,530 single-aisle airplanes will be delivered through 2036, up by 1,390 (nearly 5%) from its earlier outlook for 2016-35. Boeing attributes the uptick to stronger-than-expected growth in passenger demand this year, which it believes will be durable as more people embrace air travel.

Although we believe most MAX 10 orders will cannibalize demand for the MAX 9, adding the larger aircraft is important for Boeing because it will enhance the appeal of its narrowbody lineup among operators with mixed fleets of Airbus and Boeing aircraft and among existing Boeing operators that might have otherwise ordered the A321neo.

United Continental Holdings Inc. (Ba2 stable) ordered 100 of the MAX 10 aircraft, conversions of existing orders and more than any other customer. Lion Air Group (unrated) made a commitment for 50 MAX 10 aircraft. Using an estimated list price of $120 million per airplane, we estimate that the first 250 MAX 10s would be valued at a total of $30 billion, or $15 billion assuming a 50% discounted contract price. Launch customers typically receive even steeper discounts.

Jonathan Root, CFA Vice President - Senior Credit Officer +1.212.553.1672 jonathan.root@moodys.com

NEWS & ANALYSIS Credit implications of current events

4 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

South Africa’s Revised Mining Charter Is Credit Negative and Unlikely to Be Implemented Last Thursday, South Africa’s Department of Mineral Resources introduced a revised mining charter that requires South African mining companies to increase black shareholders’ equity holdings to 30% from 26%. The higher black economic empowerment (BEE) equity holding requirement is credit negative because it will likely require miners to use cash or raise debt to facilitate the equity transfer. We believe that current shareholders are unlikely to support a further dilution of their equity interests.

Anglo American plc (Ba1 positive), AngloGold Ashanti Limited (Baa3 positive), Gold Fields Limited (Ba1 positive), Petra Diamonds Limited (B1 positive), Sibanye Gold Limited (Ba2 stable) and South32 Limited (Baa1 stable) would be negatively affected if the revised mining charter were to be implemented in its current form. This is reflected by around $2.5 billion of equity value being lost from a combined market capitalisation of nearly $31 billion since the release of the revised mining charter.

However, we do not believe that the implementation of the revised mining charter is likely. The Chamber of Mines, an industry group representing South African miners, said it that would work to suspend the implementation of the revised mining charter in court. The Chamber of Mines questions the constitutionality of some of the provisions in the reviewed mining charter, and argues that the Department of Mineral Resources did not follow processes required among various legislative considerations.

The revised mining charter is ambiguous in many areas, allowing for a number of significantly different interpretations. It is difficult to dimension the exact size of an additional equity raise, and most notably whether such an equity raise would be done at the parent or mine level, as well as recognition of other equity top-up considerations.

The revised mining charter is also credit negative for South African mining companies because a number of the requirements will add to the costs of operating mines and will reduce free cash flow generation. This is evident in that holders of new mining rights will be required to pay a minimum of 1% of annual turnover in a given financial year to these empowerment shareholders, in accordance with legislative solvency and liquidity requirements and partly offset by ordinary dividend payments. Questions have been raised about the legality of the payments under the South African Companies Act that will have a material effect on free cash flow generation, which will likely decline significantly because of the payments. Less cash flow would reduce mining companies’ ability to continue to pare down their debt or invest in expansion, such as developing reserves.

At the same time, requirements surrounding new prospecting rights will hinder companies’ ability to develop new reserves. In order to acquire new mining rights, miners must be 50%-plus-one-share owned by black economic empowerment shareholders. This could dilute miners’ returns because the economic feasibility of new projects will be subject to far higher investment hurdle rates because of a lower share of profits. The higher investment rates will ultimately deter investment in developing new reserves, decreasing mining production and cash flow generation. These additional investment and operating considerations will mean that previously reported reserves, defined as underground mineral content that can be profitably mined (based on certain commodity price and cost assumptions), will move to the resources category, defined as underground mineral content that cannot be mined profitably, because of higher cost expectations when it comes to extracting underground mineral content.

The revised mining charter also places new conditions on the procurement of mining equipment and materials. South African companies will be required to provide 70% of content, with 44% of it BEE compliant (which requires a number of conditions beyond ownership) and 21% black-owned. A further 5% of content will have to come from 50%-plus-one-vote female-black-owned companies and from 50%-plus-

Douglas Rowlings Assistant Vice President - Analyst +971.4.237.9543 douglas.rowlings@moodys.com

NEWS & ANALYSIS Credit implications of current events

5 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

one-vote youth-owned companies. These requirements would add to operating costs for those miners not already in compliance if such new suppliers meeting these requirement charge higher prices.

South Africa’s ruling party, the African National Congress (ANC) has raised concerns that the reviewed charter could lead to job losses. The charter’s policies run counter to what was outlined in the Economic Transformation Discussion Document for the ANC’s National Policy Conference scheduled to take place at the end of the month. The ANC’s National Policy Conference may recommend that the revised mining charter be withdrawn to allow for adequate stakeholder consultation or it may recommend amendments to the current draft.

NEWS & ANALYSIS Credit implications of current events

6 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

Italy Accepts ArcelorMittal’s Bid to Acquire Italian Steel Manufacturer llva, a Credit Positive Last Friday, ArcelorMittal (Ba1 stable) said that it had reached an agreement with the Italian government regarding its bid to purchase Ilva S.p.A. (unrated). The government seized Ilva from its previous owners and filed criminal charges when they could not cover environmental liabilities. The company was subsequently placed into special administration. The acquisition, made through a consortium called AM Investco Italy Srl that is 88% owned by ArcelorMittal, is credit positive for the company.

The acquisition will give ArcelorMittal access to the second-largest steel market in Europe. Ilva’s main manufacturing site is located near Taranto in Southern Italy, next to one of Europe’s largest deep water ports, which should open opportunities for the company to export to North Africa and the Middle East. Ilva’s assets also include two well-invested downstream and finishing operations in Northern Italy, by the port of Genova.

The planned transaction, which ArcelorMittal expects to close in the second half of this year, involves the company paying a total purchase price of €1.8 billion. Over the first two years after closing, ArcelorMittal will make quarterly lease payments of €180 million per year (which may continue if necessary until court processes are lifted). Thereafter, at the later point of either two years or the lifting of criminal seizures on some of Ilva’s production assets, ArcelorMittal will pay the remaining balance of the purchase consideration, less the accrued lease payments.

ArcelorMittal’s acquisition of Ilva furthers a consolidation of the European steel industry. Although the consortium does not propose a reduction in capacity, the acquisition will consolidate market share in the region and we believe that it will restore local offerings from Ilva, which used to be one of the largest integrated steel manufacturers in Europe before it went into administration.

The acquisition will allow ArcelorMittal to enhance its product mix in Italy, where it did not own mills previously. A possible agreement with Marcegaglia, one the largest downstream operators in Italy and one of Ilva’s largest customers, would also be positive and support operations and volume output. We believe that ArcelorMittal will be able to leverage its operational expertise to bring Ilva back to profitability. In the meantime, the transaction will probably reduce ArcelorMittal’s EBITDA because we do not expect Ilva’s EBITDA to be positive this year.

Despite improved market conditions in Europe, we do not expect Ilva to have positive EBITDA before 2018. Ilva reported negative EBITDA in 2016 of approximately €215 million. Assuming no improvements, the effect on ArcelorMittal’s consolidated EBITDA would be limited when compared with the $7.5 billion Moody’s-adjusted EBITDA for the 12 months to March 2017. ArcelorMittal has also identified approximately €310 million of synergies, but does not expect to fully realise them before 2020.

The acquisition will reduce ArcelorMittal’s cash flow because the purchase agreement includes a capital expenditure commitment of €2.4 billion, although this will likely be spread over seven years and the Italian government will provide €300 million. ArcelorMittal does not expect Ilva’s operations to be free cash flow positive before 2020. The transaction also assumes €1 billion of net working capital, which is already fully funded.

We believe that the transaction will increase ArcelorMittal’s Moody’s-adjusted leverage by 0.3x-0.5x, depending on the level of EBITDA assumed for Ilva and based on metrics for the 12 months to March 2017, because we would consider the purchase price as a debt. At the end of March 2017, ArcelorMittal’s leverage was 3.3x.

Hubert Allemani Vice President - Senior Analyst +44.20.7772.1785 hubert.allemani@moodys.com

NEWS & ANALYSIS Credit implications of current events

7 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

With this acquisition, ArcelorMittal expects to increase Ilva’s finished steel shipment to 9.5 million tons by 2024 from 5.5 million tons in 2016. The increase would depend on the company making about €1.15 billion of environmental expenditures, part of a €2.4 billion total capital expenditure commitment. The Ilva acquisition would immediately add about 6 million tons of crude steel production to ArcelorMittal, which equals just about 15% of its 2016 crude steel production of 42.6 million tons from its European operations.

NEWS & ANALYSIS Credit implications of current events

8 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

Infrastructure

Hong Kong and China Gas Co. Tariff Increase Would Be Credit Positive On 16 June, Hong Kong and China Gas Co. Ltd. (HKCG, A1 stable), Hong Kong’s sole gas operator, announced a proposed increase of HKD1.1 cents per megajoule on its basic tariff for Hong Kong’s piped gas distribution segment, equivalent to an average increase of 4.6% (excluding fuel cost adjustments), effective 1 August 2017. The hike would apply to HKCG’s residential, commercial and industrial customers.

We estimate that the average 4.6% tariff hike will result in an increase of HKD300 million in HKCG’s revenue and EBITDA, based on the actual gas sales volume of its Hong Kong operation in 2016, a credit positive for the company. The HKD300 million increase in revenue equals 1.1% of total 2016 revenue, and 2.6% of EBITDA in 2016.

After the rate hike, we expect only a moderate improvement in HKCG’s Hong Kong operation’s EBITDA margin to 52% from 50%. The Hong Kong operations contributed about 45% of total EBITDA in 2016. Consequently, we expect a modest improvement in its financial metrics, with projected adjusted funds from operations/debt improving to 22%-25% over the next two years.

Increasing operating costs, including for materials, rentals, and staff, prompted the tariff adjustment. We expect HKCG to maintain the revised basic tariff for the next two years after this adjustment. The last tariff adjustment of HKD1 cent per megajoule was in August 2015 when HKCG promised to keep the standard tariff unchanged until August 2017. Over the past 10 years, HKCG has adjusted the tariff four times.

The tariff adjustment has reinforced the merits of HKCG’s automatic cost pass-through mechanism that allows the company to maintain stable profits and cash flow with 100% cost pass-through without government interference. The well-structured tariff mechanism, underpinned by HKCG’s proven track record, is one of the key drivers of its A1 rating.

We expect that Hong Kong’s gas market will continue to have light-handed regulation, which will allow HKCG to have more flexibility in tariff adjustment. HKCG reviews its information and consultation agreement with the Hong Kong government every three years and the latest agreement will expire in April 2018. The agreement does not refer to any form of rate of return regulation or tariff setting, nor a license for HKCG to operate in Hong Kong.

HKCG’s gas tariff has two components: the standard tariff and fuel cost variation charge. Under the agreement, HKCG regularly discloses information, including sales, cost of gas and fuel cost variation charge adjustments, and consults with the government three months before a proposed tariff adjustment. The fuel cost variation charge is an automatic price mechanism that allows HKCG to pass on all feedstock price fluctuations to its customers.

Ralph Ng Analyst +852.3758.1530 ralph.ng2@moodys.com

NEWS & ANALYSIS Credit implications of current events

9 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

KEPCO and KHNP Will Be Adversely Affected by Korea’s Plan to Reduce Nuclear Power Generation On Monday, Korea President Jae-in Moon announced that the new administration would stop extending the operational life of nuclear reactors from their original design life and halt construction of new nuclear reactors currently at the planning stage. He also indicated his intention to increase capacity utilization of liquefied natural gas-fired power plants and expedite renewables development in order for Korea to increase its use of energy sources with a lower risk of catastrophe and lower carbon emissions.

The move is credit negative for Korea Hydro & Nuclear Power Company (KHNP, Aa2 stable) and its parent Korea Electric Power Corporation (KEPCO, Aa2 stable) because it reveals the government’s intention to stop the country’s nuclear reactors upon expiration of their original design life and then decommission them.

The new administration will likely seek to stop KHNP’s Wolsong unit 1, which has a capacity of 679 megawatts, as soon as it is sure of reliable power supply without the reactor, given the reactor’s operational life has been extended once already. Of KHNP’s remaining operational 23 nuclear reactors, 10 reactors with a combined capacity of 8,450 megawatts, which accounted for 30% of the company’s total capacity at year-end 2016, have original operational lives expiring over the next 12 years (see Exhibit 1) and will likely stop operations upon expiration of their design life. Previously, the government had approved the first extension of the operational life for Kori unit 1, which permanently stopped operating in June 2017, for decommissioning, and Wolsong unit 1 for 10 years when the reactors’ design life expired.

EXHIBIT 1

Remaining Operating Life of KHNP’s Nuclear Reactors

Sources: Korea Hydro & Nuclear Power and Moody’s Investors Service

The government estimates that cash decommissioning costs will be KRW600-KRW700 billion per reactor. However, KHNP will likely face the risk of cost overruns in nuclear decommissioning because the company has not had decommissioning experience and the process will require the use of complex technology.

Decommissioning the nuclear reactors means higher fuel costs for KEPCO because it will need to increase its reliance on liquefied natural gas generation and renewables to supply power to the economy. We expect that closure of Kori unit 1, Wolsong unit 1 and an additional 10 reactors will likely increase KEPCO’s annual fuel costs by KRW1.2-KRW2.4 trillion in 2023-25 and by KRW4-KRW6 trillion in 2027-29, compared with extending the operating life of the reactors. Our estimate is based on our assumption that the cost difference to generate energy using nuclear fuel and gas fuel remains consistent with the past 12 months (see Exhibit 2) and that no consistent pass-through tariff system is implemented to compensate for the higher input costs.

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Mic Kang Vice President - Senior Analyst +852.3758.1373 mic.kang@moodys.com

NEWS & ANALYSIS Credit implications of current events

10 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

EXHIBIT 2

Trajectory of Fuel Cost Gap for Nuclear and Gas Energy Generation

Sources: Korea Power Exchange and Moody’s Investors Service

However, the move will have minimal effect on KHNP’s and KEPCO’s credit metrics over the next three to five years because the first decommissioning will start in 2022 and the majority of nuclear reactors will remain operational until then. In addition, commissioning new nuclear reactors with a combined capacity of 5,600 megawatts in 2016-19 (see Exhibit 3), and a KRW15-KRW17 trillion reduction in capital expenditures during 2018-27 from the government’s decision to abolish new nuclear projects currently at a planning stage, will mitigate the adverse effects from the closure of nuclear reactors.

EXHIBIT 3

KHNP’s Projected Total Nuclear Capacity in Megawatts

Notes: Data excludes Shin-Kori units 5 and 6, which have a combined capacity of 2,800 megawatts and are at an early stage of construction, because the government has not made a final decision. Additionally, KEPCO’s financial burden stemming from fuel cost increases will be mitigated if the burden is shared with end-users. Mr. Moon said there would be a review of tariffs for industrial use in order to prevent excessive electricity consumption. Sources: Korea Hydro & Nuclear Power and Moody’s Investors Service

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-03

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b-07

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-10

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1Se

p-11

Feb-

12Ju

l-12

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-12

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-13

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-13

Mar

-14

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Nuclear Gas

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2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 2032

NEWS & ANALYSIS Credit implications of current events

11 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

Origin Energy’s Price Hike in Retail Electricity Is Credit Positive On Friday, Origin Energy Ltd. (Baa3 negative), one of Australia’s leading integrated energy companies, announced an increase to its electricity charge of around 16% and a hike in the gas charge of around 8.5% for residential and small business customers. These customers comprise the majority of Origin’s customer base and generate more than half of its energy retail revenue.

The price increase is credit positive for Origin and we estimate that it could modestly increase its aggregate EBITDA in the low-single-digit percentage range based on our estimate for fiscal 2018 (which ends 30 June 2018). Our calculation assumes that Origin will increase retail tariffs in Victoria in December, in line with the weighted average increase of 8% for retail gas and 11% for retail electricity customers across other states, and assumes that Origin’s overall energy procurement cost (including energy for its business customers) will increase by 5.0%-7.5% for gas and by 20%-25% for electricity from fiscal 2016 rates (see Exhibit 1).

EXHIBIT 1

Origin Energy’s Historical and Projected Energy Revenue and Costs

Note: Historical cost includes the cost of energy procurement and the network cost. Sources: Origin Energy annual report and Moody’s Investors Service projections

The cost increases reflect the company’s need to source a portion of its energy from the wholesale markets at prevailing prices. The actual EBITDA effect will vary based on the timing of price reviews on its supply contracts and the extent to which Origin has hedged its exposure to higher wholesale energy prices.

Origin’s increase follows similar actions by competitors AGL Energy Ltd. (Baa2 stable) and EnergyAustralia (unrated) in recent weeks. Likewise, the price increases are also credit positive for AGL, although the benefit will be derived from its electricity business. AGL owns two of the largest coal-fired generation assets in the east coast market, including Loy Yang A, which sources fuel from a coal mine also owned by AGL, and which underpin its access to fixed-cost electricity supply.

The large price increases are attributed to the material rise in the cost of wholesale electricity and gas over the past 12 months and higher electricity futures prices, which utilities purchase to hedge their cost exposure, as shown in Exhibits 2 and 3.

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ios

Spencer Ng Vice President -Senior Analyst +612.9270.8191 spencer.ng@moodys.com

NEWS & ANALYSIS Credit implications of current events

12 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

EXHIBIT 2

Quarterly Electricity Prices in New South Wales, Australia, January 2016-June 2018

Source: Australian Energy Regulator

EXHIBIT 3

Average Gas Price at Major Australian Gas Hubs in Fiscal 2016-17

Note: Fiscal 2017 data denote year-to-date prices in the fiscal year ending 30 June 2017. Source: Australian Energy Regulator

The price hike will also provide some short-term support for smaller energy retailers. The top three retailers collectively serve around 70% of electricity customers and 80% of gas customers in Australia’s populous east coast market. As such, the top retailers’ decision to increase prices to recover higher energy procurement costs, rather than pursue market share growth, gives smaller retailers the capacity to increase their prices and at least partially recover cost of purchasing energy from the market (see Exhibit 4).

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NEWS & ANALYSIS Credit implications of current events

13 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

EXHIBIT 4

Market Share of Australia’s Top Three East Coast Energy Retailers

Source: Australian Energy Regulator

However, we believe smaller standalone retailers will likely find it more difficult to expand their customer base. This is because higher energy costs will diminish their ability to offer and sustain discounts and compete without their own fixed-cost energy supply.

Higher energy prices will likely lead to greater regulatory scrutiny over the utilities’ profitability, and could lower underlying demand for energy because of affordability pressures. The government has already commissioned multiple reviews of the material rise in energy prices in the past 12 months.

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Origin Energy AGL Energy EnergyAustralia

NEWS & ANALYSIS Credit implications of current events

14 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

Banks

Brazilian Credit Bureau Will Enhance Bank Risk Management Last Wednesday, the five largest Brazilian banks entered a definitive agreement setting up the terms and conditions for the establishment of a centralized credit bureau, Gestora de Inteligência de Crédito S.A. (GIG, unrated). GIG will pool credit information on corporate and personal borrowers, which will enhance loan origination by allowing banks to price credit risk more adequately, a credit positive.

The credit bureau, which will be fully operational in 2019, is a joint venture between government-owned banks Banco do Brasil S.A. (Ba2/(P)Ba2 negative, ba21) and Caixa Economica Federal (Ba2/Ba2 negative, b1), and Brazil’s three leading private banks, Itau Unibanco S.A. (Ba2 negative, ba2), Banco Bradesco S.A. (Ba2/(P)Ba2 negative, ba2) and Banco Santander (Brasil) S.A. (Ba1/(P)Ba1 negative, ba2). Together, these lenders account for 72% of Brazil’s credit markets. Each shareholder will control 20% of the company.

The data the credit bureau compiles will offer the banks additional visibility into a borrower’s repayment capacity, benefiting credit origination while reducing delinquencies and defaults. Following its deep economic recession, credit origination currently remains subdued (see Exhibit 1), constrained by a weak corporate segment and high unemployment. As of April 2017, the loan delinquency ratio had stabilized at 3.8%-4.0% (see Exhibit 2), but average lending spreads remained as high as 22.3%, which signals that banks are still uncertain about future improvements in asset quality.

EXHIBIT 1

Brazil’s Corporate and Household Credit Origination 12-Month Growth

Sources: Central Bank of Brazil and Moody’s Investors Service

1 The bank ratings shown in this report are the banks’ local deposit rating, senior unsecured debt rating and baseline credit

assessment.

-14%

1%

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-8%

-4%

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-14

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-14

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Mar

-15

Apr-1

5

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-15

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5

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15

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15

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-15

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6

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Ceres Lisboa Senior Vice President +55.11.3043.7317 ceres.lisboa@moodys.com

Thiago Scarelli Associate Analyst +55.11.3043.7347 thiago.scarelli@moodys.com

NEWS & ANALYSIS Credit implications of current events

15 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

EXHIBIT 2

Brazil’s Nonperforming Loan Ratios for Corporate and Household Debt

Sources: Central Bank of Brazil and Moody’s Investors Service

In 2013, the National Monetary Council set up rules for the creation of credit bureaus, modifying rules protecting customers’ financial information that had previously prevented such initiatives. In November 2016, the Brazilian antitrust authority Conselho Administrativo de Defesa Economica had approved GIG’s creation under the condition that it follows fair market competition with respect to other credit bureaus and adopts governance practices that prevent the shareholders from sharing their existing consumer database with the new company. GIG will only be able to track and share financial information from customers that allow the bureau to do so.

This initiative is also aligned with the Brazilian regulator’s agenda to reduce credit risk, streamline credit origination and enhance default recoveries, setting the stage for credit expansion at lower costs to borrowers.

3.8%

4.0%

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

4.0%

4.5%

5.0%

Apr-1

4

May

-14

Jun-

14

Jul-1

4

Aug-

14

Sep-

14

Oct

-14

Nov

-14

Dec

-14

Jan-

15

Feb-

15

Mar

-15

Apr-1

5

May

-15

Jun-

15

Jul-1

5

Aug-

15

Sep-

15

Oct

-15

Nov

-15

Dec

-15

Jan-

16

Feb-

16

Mar

-16

Apr-1

6

May

-16

Jun-

16

Jul-1

6

Aug-

16

Sep-

16

Oct

-16

Nov

-16

Dec

-16

Jan-

17

Feb-

17

Mar

-17

Apr-1

7

Corporate Household

NEWS & ANALYSIS Credit implications of current events

16 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

Société Générale Sells 20% of ALD, a Credit Positive Last Thursday, Société Générale (A2/A2 stable, baa22) announced that it had sold 20% of its corporate car leasing and fleet management subsidiary ALD (unrated) via an initial public offering for cash consideration of €1.2 billion. We estimate that the realised gain from the sale will increase Société Générale’s common equity Tier 1 ratio (CET1) by around 11 basis points from 11.6% reported at 31 March 2017, a credit positive.

Société Générale sold 80.8 million ALD shares, reducing its stake in ALD to 80%. The offer included a 30-day over-allotment option granted to the stabilising agent, which, if exercised in full, will result in the disposal of an additional 3% of ALD shares. The bank will maintain full control of ALD, which will remain consolidated in its financial accounts.

ALD offers operational vehicle leasing and fleet management for corporate customers globally and has the largest geographical coverage of any vehicle leasing company, with operations in 41 countries and a fleet of 1.4 million vehicles at the end of March 2017. ALD has grown its operations rapidly in recent years, leveraging Société Générale’s global footprint and benefitting from cross-selling opportunities with the bank’s other business lines. ALD had a return on equity well above 15% during the past five years and its net profits were up 2.7x to €512 million over the same period (see exhibit). Société Générale will lose a portion of ALD’s profits as a result of the sale, which corresponded to around 3% of the bank’s net profits based on the 2016 financials.

ALD’s Net Profits and Return on Equity

Sources: ALD and Société Générale

Société Générale first announced its intention to sell a minority stake in ALD last February, when it also indicated that ALD would seek additional business growth. The bank has indicated that it will use the proceeds from the sale for general business purposes. The bank has large retail, commercial, corporate and investment banking operations in France and internationally, which have grown steadily in recent years, unlike some of its large European competitors. The bank will announce its new strategic business plan later this year.

2 The bank ratings shown in this report are the bank’s deposit rating, senior unsecured debt rating and baseline credit assessment.

0%

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6%

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12%

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16%

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22%

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2011 2012 2013 2014 2015 2016

€M

illio

ns

Net Profits - left axis Return on Equity - right axis

Andrea Usai Senior Vice President +44.20.7772.1058 andrea.usai@moodys.com

NEWS & ANALYSIS Credit implications of current events

17 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

Potential Exchange of Dana Gas’ Sukuk Because of Shariah Breech Is Credit Negative for Sukuk Investors On 18 June, United Arab Emirates (UAE)-based Dana Gas PJSC (unrated) announced that the English High Court of Justice had granted an injunction to restrain holders of Dana Gas’ $700 million Mudaraba sukuk from taking action against the company for halting coupon payments and proposing an exchange for a new sukuk. The company petitioned the court for the injunction after commencing legal proceedings in Sharjah courts on 13 June to have the Mudaraba sukuk declared unlawful under UAE law because it does not comply with Shariah banking principles.

Despite very limited information regarding the structure’s legal and Shariah compliance, and what exactly the courts have thus far decided, if Dana Gas’ petitions are upheld by the Sharjah courts, it would trigger a standstill on the two upcoming contractual payments and an exchange with new securities carrying inferior terms and returns, a credit negative for the Dana Gas sukuk investors. The issue is also credit negative for Islamic finance in general and would likely diminish the liquidity and growth of the sukuk market.

The company, which is listed on Abu Dhabi Stock exchange, said that because of the sukuk’s lack of Shariah compliance, a restructuring is necessary to ensure conformance to relevant laws. The company also assured all parties that no dissolution event or technical default has occurred, nor could one occur because of the unlawful nature of the sukuk. The company also advised that it will not pay the profit distribution due in July this year because of the sukuk being unlawful.

Although most investors regard the company’s announcement as a tactical move in its debt negotiations with lenders, a ruling in favor of Dana Gas would potentially send shockwaves among Islamic finance and sukuk investors, even though Dana Gas’ lenders could still seek enforceability through other jurisdictions, depending on the documentation of the specific sukuk in question. Not distributing profits because the structure, which was previously considered Shariah compliant, is now considered non-compliant and therefore unlawful would have wider implications on the sukuk markets. The implications include concerns about the legality of existing sukuk and the effect on their issuers, the role and authority of Shariah boards, the responsibilities of the lead arrangers’ due diligence on the issuances, our approach to analyzing sukuk structures, and the liquidity of sukuk markets. Although Dana Gas is a small issuer in the UAE market, the credit implications of a court decision in its favor would test sukuk regulatory and legal frameworks beyond Dana Gas as an issuer or the UAE as a jurisdiction.

Dana Gas issued the sukuk using the Al Mudaraba structure, a common structure used in Islamic finance. Other companies in the UAE using a Mudaraba structure include Dubai Islamic Bank PJSC (Baa1 positive, ba33), Abu Dhabi Islamic Bank (A2 stable, ba1), Al Hilal Bank (A1 negative, ba2) and others. Although the price of the Dana Gas sukuk tumbled following the company’s initial announcement on 13 June, the prices of other issuers were little changed.

As shown in the exhibit below, there are currently nearly $411 billion in outstanding sukuk. In terms of geographic distribution, Malaysia dominates the market with $215 billion (52%) of sukuk issued, followed by the Gulf Cooperation Council with $110 billion (27%).

3 The bank ratings shown in this report are the banks’ domestic issuer ratings and their baseline credit assessments.

Ashraf Madani Vice President - Senior Analyst +971.4237.9542 ashraf.madani@moodys.com

NEWS & ANALYSIS Credit implications of current events

18 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

Distribution of Outstanding Sukuk by Location of Issuer

Source: Bloomberg

Malaysia52%

GCC27%

Indonesia10%

Supranationals4%

Turkey3%

Other Countries4%

NEWS & ANALYSIS Credit implications of current events

19 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

Egypt’s Banks Will Benefit from Country’s Increased Tourism Last Wednesday, Egypt’s Ministry of Tourism announced that tourist arrivals in the first three months of 2017 had jumped 51% from a year earlier, marking the sector’s revival from its sharp contraction since 2011. Tourism in Egypt has great potential and has traditionally been a major economic force in Egypt, accounting for 19.5% of GDP at its peak in 2007.

The increase in tourism is positive for Egyptian banks because it enhances the repayment capacity of borrowers directly and indirectly linked to tourism. Additionally, the increase in foreign-currency flow from tourism will boost banks’ limited access to foreign currencies, improving their capacity to meet clients’ foreign-currency needs.

Revenues from tourism increased 9% on a sequential quarterly basis to $826 million in the fourth quarter of 2016, from $758 in the third quarter and $510 million in the second quarter of 2016. According to the World Travel and Tourism Council, tourism directly accounted for 3.2% of Egypt’s GDP and 2.9% of employment in 2016. However, its total contribution including indirect effects on the economy was higher at 7.2% of GDP. Indirect effects include the purchase of food and cleaning services for hotels, government spending related to advertising and promoting tourism and tourism spending outside the food and entertainment sectors. The tourism industry’s revival will positively affect the cash flows of borrowers in hospitality and related sectors such as transport, construction and food, and lead to job creation.

Among Moody’s-rated banks, Commercial International Bank (B3 stable, b34) will benefit the most from an increase in tourism because it has the largest exposure to the sector, with around 8% of its total loans exposed to tourism, which is higher than the 3% system average, according to our estimates. The bank’s ratio of nonperforming loans (NPL) to gross loans increased to 5.28% as of September 2016 from 3.97% in December 2015, reflecting the low economic growth following the sustained decline in tourism and the bank’s conservative approach of NPL classification. The March 2017 NPL ratio of 7.0% was further exacerbated by the floatation of the Egyptian pound, which resulted in higher inflation and higher interest rates. The improvement in the tourism industry’s prospects and the bank’s relatively strict underwriting standards (e.g., lending to hotels with low leverage that can service their loans even with occupancy rates below 50%) will help contain further asset quality deterioration.

Increased foreign-currency revenues from tourism will improve Egyptian banks’ capacity to meet their clients’ foreign-currency needs and fuel economic expansion. Egypt has had a shortage in foreign currencies. The central bank’s decision to liberalise the exchange rate last November increased the availability of US dollars to Egyptian banks, however the shortage has not been fully addressed and a number of companies are still unable to fully cover their dollar needs.

The increased availability of dollars from tourism will also allow banks to continue to gradually decrease their net foreign liability position (see exhibit). Dollar liquidity shortages pushed Egyptian banks to increase their foreign funding and repatriate foreign assets in order to meet clients’ needs. However, the gap declined to EGP56.7 billion in February 2017 from its peak of EGP116.2 billion in December 2016.

4 The bank ratings shown in this report are the bank’s local-currency deposit rating and baseline credit assessment.

Marina Hadjitsangari Associate Analyst +357.2569.3034 marina.hadjitsangari@moodys.com

Melina Skouridou, CFA Assistant Vice President - Analyst +357.2569.3021 melina.skouridou@moodys.com

NEWS & ANALYSIS Credit implications of current events

20 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

Egyptian Banks Foreign Assets and Liabilities

Source: Central Bank of Egypt

0

25

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75

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125

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Jun-12 Jun-13 Jun-14 Jun-15 Jun-16 Dec-17 Jan-17 Feb-17

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ons

Foreign Assets Foreign Liabilities

NEWS & ANALYSIS Credit implications of current events

21 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

Korean Banks Will Benefit from Mortgage Measures On Monday, Korea’s Financial Services Commission, acting jointly with the Ministry of Strategy and Finance and the Ministry of Land, Infrastructure and Transport, announced measures to stabilize home prices. The measures will strengthen the asset quality of mortgage loans, a credit positive for banks.

Although the apartment price nationwide index rose at a compound annual growth rate of just 3.2% from March 2012 to March 2017, there are pockets of regions with signs of overheating. The actions include lowering the maximum allowable loan-to-value (LTV) ratio by 10 percentage points to 60% and the debt-to-income (DTI) ratio by 10 percentage points to 50% for 40 selected regions. The measure reverses an August 2014 relaxation of LTV and DTI ratios for bank mortgages (see Exhibit 1). Before August 2014, bank mortgage LTVs were 50%-70%, and non-bank mortgage LTVs were 60%-85%, based on the price and location of the property.

EXHIBIT 1

Historical Changes to Korea’s Mortgage Maximum Loan-to-Value and Debt-to-Income Ratios

Before August 2014 Current After July 2017 for 40 Select Regions

LTV Banks and Insurers 50%-70% 70% 60%

Non-banks 60%-85%

DTI Banks and Insurers 50%-60% 60% 50%

Non-banks 50%-65%

Source: Korea’s Financial Services Commission

Although banks’ nonperforming mortgage loan ratios remained low at 0.22% as of March 2017, relaxed prudential measures together with declining interest rates since 2014 spurred double-digit mortgage loan growth for banks and non-bank deposit-taking institutions (see Exhibit 2), leading to regulatory concerns over rising household debt and an overheating housing market in certain regions.

EXHIBIT 2

Korean Banks’ Mortgage Nonperforming Loan Ratio and Deposit-Taking Institutions’ Year-on-Year Mortgage Loan Growth

Sources: The Bank of Korea and Financial Supervisory Service

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11

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11

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12

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12

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-12

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Jun-

13

Sep-

13

Dec

-13

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-14

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14

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14

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-14

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-15

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16

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16

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-16

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-17

Mortgage Loan Growth for Deposit-Taking Institutions - left axis Mortgage NPL Ratio for Banks - right axis

Sophia Lee, CFA Vice President - Senior Credit Officer +852.3758.1357 sophia.lee@moodys.com

NEWS & ANALYSIS Credit implications of current events

22 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

The tighter measures apply to 40 selected areas whose housing markets, based on recent property transaction volume and price trends, risk overheating. The measures include group loans for development units and mortgage loans from non-banks. They exempt first-time buyers and low-income households.

We see the enhanced measures as most positive for Standard Chartered Bank Korea Limited (A2 stable, baa25), whose mortgage loans accounted for 60% of its local currency loans as of year-end 2016, followed by Kookmin Bank (A1/A1 stable, baa1) and Woori Bank (A2/A2 stable, baa3), for which mortgage loans accounted for 43% of each bank’s local currency loans.

5 The bank ratings shown in the report are the bank’s deposit rating, senior unsecured debt rating (where available) and baseline

credit assessment.

NEWS & ANALYSIS Credit implications of current events

23 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

Asset Managers

Active Asset Managers Would Benefit from New ETF Technology Last Thursday, Nationwide Investment Services Corporation, a subsidiary of Nationwide Mutual Insurance Company (A1 stable), and Precidian Investments, LLC, a minority investment of Legg Mason, Inc. (Baa1 negative), announced that Nationwide was in negotiations to license Precidian’s patented structure for offering actively managed exchange-traded funds (ETFs).

The wider use of actively managed ETFs would be credit positive for active asset managers and Legg Mason would benefit from its share of Precidian’s licensing fees, which we estimate could grow to tens of millions of dollars. Actively managed ETFs currently account for just 1% of the ETF industry’s $3 trillion of assets under management (AUM), suggesting that there is considerable opportunity for active managers to increase their share of the ETF market.

Precidian on 2 May filed a third amended application for exemptive relief with the US Securities and Exchange Commission (SEC) to be able to register its proprietary structure of active ETFs (ActiveShares), which would enable active managers to use the ETF vehicle without disclosing the holdings of their funds’ portfolios. In comparison, most passive and active ETFs today require daily portfolio disclosure, which exposes active managers’ investment ideas to other investors. For this reason, 78% of active ETFs are fixed-income vehicles, since it is more challenging to emulate a fixed-income portfolio. PIMCO manages 34% of this amount in five ETFs (see exhibit).

Distribution of US Actively Managed Exchange-Traded Funds by Asset Class

Sources: etf.com and Moody’s Investors Service

The Precidian approach to cloaking an ETF’s holdings is to interpose a blind trust, known as a “confidential account,” between the fund and its authorized participants (APs). Normally, authorized participants are the brokerage entities that are entitled to purchase and redeem large blocks of ETF shares from an ETF in exchange for “creation baskets,” designated amounts of securities and cash that are acceptable to the fund managers. (All other market participants trade ETF shares on a secondary basis.) As with an ordinary ETF, the current valuation of the underlying portfolio would be disseminated to the market, and arbitrageurs would be able to compare this indicative value, which is to be updated each second and verified by a second pricing vendor, to the quoted price of the ETF shares.

Fixed Income78%

Equity13%

Asset Allocation4%

Alternatives2%

Commodities2%

Currency1%

Neal M. Epstein, CFA Vice President - Senior Credit Officer +1.212.553.3799 neal.epstein@moodys.com

NEWS & ANALYSIS Credit implications of current events

24 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

With Activeshares, authorized participants would not be able to calculate their own indicative value, since the creation basket will only be disclosed to a representative (a custodial bank) that will manage the confidential account. To create ActiveShares for an authorized participant, the custodian would accept the required consideration and assemble a creation basket, which it would contribute to the fund for new ETF shares in the confidential account. It would then distribute the ETFs to the authorized participant.

Other fund managers that have filed applications with the SEC to launch ETFs with the Precidian technology are JPMorgan Chase & Co. (A3 stable) subsidiary JPMorgan Asset Management, Blackrock, Inc. (A1 stable), and Capital Research (unrated), as well as Legg Mason affiliates ClearBridge and Royce.

ETFs have been popular because they are efficiently traded, easily hedged and impose lower costs on investors. For the 12 months through April, net issuance of ETFs was $170 billion, versus $46 billion of net flows into mutual funds. Mutual funds, with assets of $10 trillion, hold most retail assets managed by active fund managers. They have higher expense ratios because in addition to the costs of active management, they absorb costs of distribution and investor advice, which are otherwise unbundled in the ETF structure. If active managers were to distribute their products in ETFs, their management fees would be under less pressure, allowing them to benefit from both increased volume and pricing.

CREDIT IN DEPTH Detailed analysis of an important topic

MOODYS.COM

What to Expect in the US Bank Capital Stress Test

SUMMARY The Federal Reserve’s systemic capital stress-testing is likely to be less stringent in 2017. Banks are likely to have more latitude to raise shareholder payouts. We expect regulators to allow dividend increases and sizable stock repurchases, with the result that banks’ capital ratios will remain steady or improve, at best, only modestly. The Fed has also fine-tuned its models more closely to each bank’s particular credit risks and past performance rather than taking a common approach to all banks, and these changes will be phased in over two cycles. The biggest change to this year’s stress test is the elimination of the qualitative assessment for 21 of the 34 participants determined to be noncomplex,6 removing an independent, comparative assessment that has been helpful to creditors and analysts. If the result of the elimination of the qualitative assessment or the fine-tuning of the Fed’s model to individual bank’s credit risks is a material decrease in the banks’ capital levels, it would be credit negative.

This year, 34 companies will undergo the test. CIT Group Inc. (Ba2 stable) is the only new participant. The Fed will release the results of the Dodd-Frank Act stress test (DFAST) on 22 June and the Comprehensive Capital Analysis and Review (CCAR) on 28 June. DFAST considers how well banks could withstand an adverse economic scenario. CCAR evaluates the banks’ capital plans, including dividends and stock repurchases, in light of their regulatory capital and evaluates the complex banks’ capital-planning process.

ELIMINATION OF QUALITATIVE ASSESSMENT FOR NONCOMPLEX PARTICIPANTS

In this year’s CCAR, 21 bank holding companies considered noncomplex will be exempt from the Fed’s qualitative assessment, which determines if a bank has material deficiencies in its capital-planning process. The Fed will only object to their capital plans for a quantitative failure to meet one of the minimum capital ratios under the stress scenarios.

We consider the CCAR qualitative assessment an incentive for bank managements to improve their capital and risk management processes, which also provides bondholders with a public and independent, comparative assessment. The loss of such transparency is credit negative. The banks will still be subject to a nonpublic horizontal regulatory review to begin in the third quarter, a credit positive that will help support maintenance of the enhanced risk governance practices that have resulted from the qualitative assessment.

In recent years, the Fed’s qualitative objections to bank capital plans were primarily for foreign participants or first-time participants (Exhibit 1, left column). Deutsche Bank Trust Corporation (Baa2 stable) and Santander Holdings USA, Inc. (Baa3 stable) have received objections for two and three successive years, respectively, reflecting ongoing risk-management weaknesses; however, neither will be subject to the qualitative assessment in 2017. Santander is excluded because it is noncomplex, and Deutsche Bank Trust Corporation is a subsidiary of a newly formed intermediate holding company, Deutsche Bank USA Corporation, and will go through a confidential review process.

6 Noncomplex companies are defined as having average total consolidated assets between $50 billion and $250 billion, average

total nonbank assets of less than $75 billion, and are not US global systemically important banks.

Rita Sahu Vice President - Senior Credit Officer +1.212.553.1648 rita.sahu@moodys.com

CREDIT IN DEPTH Detailed analysis of an important topic

26 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

The Fed also uses a conditional nonobjection, which is not an objection to a company’s capital plan and is used when the Fed finds less serious issues that require remediation that can be addressed in a resubmitted capital plan. In recent years, conditional nonobjections have been received only by complex firms that remain subject to the qualitative assessment. The Fed will continue to use conditional nonobjections and qualitative objections to prompt ongoing improvements in the complex banks’ capital-planning process, which will strengthen their credit quality.

EXHIBIT 1

US Bank CCAR Qualitative Failures and Conditional Nonobjections Qualitative failures have been primarily first-time and foreign participants.

Qualitative Failures Conditional Nonobjections

2016 Deutsche Bank Trust Corporation, Santander Holdings USA, Inc Morgan Stanley

2015 Deutsche Bank Trust Corporation,* Santander Holdings USA, Inc Bank of America Corporation

2014 Citigroup Inc., RBS Citizens Financial Group, Inc.,* HSBC North America Holdings Inc.,* Santander Holdings USA, Inc*

2013 BB&T Corporation The Goldman Sachs Group, Inc., JPMorgan Chase & Co.

Notes: *First time participant; RBS Citizens Financial Group, Inc. is now known as Citizens Financial Group, Inc. Source: Federal Reserve

SHAREHOLDER PAYOUTS WILL INCREASE, KEEPING CAPITAL RATIOS UNCHANGED

The Fed is likely to allow banks to increase capital distributions further over the next year, a signal that regulators are more comfortable with banks’ safety and soundness, given improvements from their dire financial position just after the financial crisis.

CCAR results include the effect of banks’ planned capital actions, while DFAST does not, the difference in minimum ratios between the two tests indicates the size of planned capital distributions, which have been increasing over the last two years (Exhibit 2), and is most pronounced among the largest banks at the left of the exhibit. We expect further increases with the 2017 results. As in prior years, the majority of shareholder returns will be made through share buybacks rather than common stock dividends. This approach is more creditor-friendly because there is flexibility to reduce share buybacks, while dividends are rarely cut. Nonetheless, we expect the total shareholder payouts approved by the Fed to be higher than in prior years, resulting in stable capital ratios.

CREDIT IN DEPTH Detailed analysis of an important topic

27 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

EXHIBIT 2

Difference in US Banks’ Projected Minimum Common Equity Tier 1 Ratios Under CCAR and DFAST Severely Adverse Scenario, 2015 and 2016

Notes: TD Group US Holding LLC and BancWest Corporation did not participate in 2015 CCAR and DFAST. AXP = American Express Company; Ally = Ally Financial Inc.; BAC = Bank of America Corporation; BancWest = BancWest Corporation; BBT = BB&T Corporation; BBVA Compass = BBVA Compass Bancshares, Inc.; BK = Bank of New York Mellon Corporation; BMO Financial = BMO Financial Corp., C = Citigroup, Inc.; CMA = Comerica Incorporated; COF = Capital One Financial Corporation; DB: Deutsche Bank Trust Corporation; DFS = Discover Financial Services; FITB = Fifth Third Bancorp; GS = Goldman Sachs Group, Inc.; HBAN = Huntington Bancshares Incorporated; HSBC N.A. = HSBC North America Inc.; JPM = JPMorgan Chase & Co.; KEY = Keycorp, MS = Morgan Stanley; MTB = M&T Bank Corporation; MUFG UB = UnionBanCal Corporation; NTRS = Northern Trust Corporation; PNC = PNC Financial Services Group; Inc.; CFG = Citizens Financial Group, Inc.; RF = Regions Financial Corporation; SHUSA = Santander Holdings USA, Inc.; STI = SunTrust Banks; Inc.; STT = State Street Corporation; TD US = TD Group US Holding LLC; USB = U.S. Bancorp; WFC = Wells Fargo & Company; ZION = Zions Bancorporation. Source: Federal Reserve

SOME FAVORABLE CHANGES FOR THE BANKS IN ASSUMPTIONS AND MODELING The 2017 stress tests incorporate enhancements that are less stringent and more fine-tuned to each bank’s credit risks, including changes to the stress test economic scenarios as well as the Fed’s model.

Economic Scenarios. The severely adverse scenario of 2016 incorporated negative short-term interest rates. The 2017 scenario has higher long-term rates and does not have negative short-term rates, which generally means higher net interest income. The 10-year Treasury yield increases to 1.5% by the first quarter of 2019 and to 1.75% by the first quarter of 2020. The intermediate increase in the 2016 scenario was only to 0.75%. Mortgage rates are also higher, reaching a peak of 4.6%, 50 basis points (bp) higher than last year’s scenario. Also, the 5.5% spread between yields on investment-grade corporate bonds and long-term Treasury securities is 25 bp less than last year, which suggests a more favorable corporate credit environment because of the narrower spread.

Not all economic assumptions are less severe. The severely adverse scenario has a slightly more severe economic downturn in the US. The peak-to-trough decrease in GDP and the increase in the unemployment rate are both 25 bp higher. Also, there is a 35% decline in commercial real estate prices, 5% more than last year.

Modeling. The Fed is enhancing its modeling, the details of which are purposely opaque. The Fed will also phase in its most material model enhancements over two stress test cycles, beginning in the 2017 cycle. This change should somewhat smooth the effect on post-stress capital ratios, limiting negative surprises, although the model changes in themselves are not necessarily favorable across the sector.

0.0%0.5%1.0%1.5%2.0%2.5%3.0%3.5%4.0%4.5%5.0%

2015 2016

CREDIT IN DEPTH Detailed analysis of an important topic

28 MOODY’S CREDIT OUTLOOK 22 JUNE 2017

The Fed will retire the mortgage repurchase model used during DFAST 2016 and use an enhanced operational risk model to capture losses from operational risk events and expenses related to mortgage repurchases, which will affect pre-provision net revenue (PPNR).

Based on the Fed’s analysis using 2016 data, these two changes would cause a small decrease in industry PPNR. The PPNR decrease would have been larger for banks with lower historical operational risk losses.

Updates to the Fed’s PPNR model will result in a firm’s projected PPNR components converging to that firm’s own post-crisis average rather than that of firms with similar asset compositions. The result will be PPNR projections that are more sensitive to each firm’s own post-crisis income and expense history. Based on analysis using 2016 data, the Fed says that this would result in lower PPNR for banks with weaker post-crisis earnings and higher PPNR for banks with higher post-crisis earnings relative to peers.

The Fed has also updated and streamlined its commercial real estate loss model. The Fed says that using the data and scenarios from DFAST 2016, the streamlined approach would have resulted in slightly higher aggregate loan losses under the severely adverse scenario, but the size of the increase would have varied depending on the individual firm’s portfolio composition.

RECENTLY IN CREDIT OUTLOOK Select any article below to go to last Monday’s Credit Outlook on moodys.com

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NEWS & ANALYSIS Corporates 2 » Boeing’s Recent Aircraft Orders Are Credit Positive » Amazon.com’s Planned Acquisition of Whole Foods Is

Credit Positive » FDA Asks Endo to Stop Selling an Opioid Painkiller, a

Credit Negative » Kirby’s Planned Acquisition of Stewart & Stevenson Is

Credit Positive » Mattel’s Dividend Cut Is Credit Positive, but Will Have Little

Effect on Deleveraging Efforts

Infrastructure 7 » Kyushu Electric Moves Closer to Restarting Two Nuclear

Reactors Following Favorable Court Ruling

Banks 8 » Chile’s Proposed Banking Law Is Credit Positive for Banks’

Depositors and Senior Bondholders » National Bank of Greece’s Sale of Its Bulgarian Operations Is

Credit Positive » Czech Banks Will Benefit from Increase in Countercyclical

Capital Buffer » Tanzanian Banks’ Increased Capital Requirements Are

Credit Positive » Reserve Bank of India’s Plan to Resolve Nonperforming

Assets Is Credit Positive » Japan Post Bank Moves Closer to Offering New Overdraft

Accounts, a Credit Positive » Cuts to Korean Credit Card Companies’ Merchant Fees Are

Credit Negative

Sovereigns 21 » US Revision of Cuba Policy Is Credit Negative for Island » Steep Decline in South Africa’s Business Confidence Is a

Setback to Growth Recovery » Zambia’s Suspension of 48 Opposition Members of

Parliament Is Credit Negative

US Public Finance 25 » Pennsylvania’s Benefit from Shifting Pension Risks to New

Hires Will Not Affect Accumulated Liabilities » Fannie Mae’s New Debt-to-Income Requirements for

Mortgage Loans Will Benefit State Housing Finance Agencies

MOODYS.COM

Report: 196266

© 2017 Moody’s Corporation, Moody’s Investors Service, Inc., Moody’s Analytics, Inc. and/or their licensors and affiliates (collectively, “MOODY’S”). All rights reserved.

CREDIT RATINGS ISSUED BY MOODY'S INVESTORS SERVICE, INC. AND ITS RATINGS AFFILIATES (“MIS”) ARE MOODY’S CURRENT OPINIONS OF THE RELATIVE FUTURE CREDIT RISK OF ENTITIES, CREDIT COMMITMENTS, OR DEBT OR DEBT-LIKE SECURITIES, AND MOODY’S PUBLICATIONS MAY INCLUDE MOODY’S CURRENT OPINIONS OF THE RELATIVE FUTURE CREDIT RISK OF ENTITIES, CREDIT COMMITMENTS, OR DEBT OR DEBT-LIKE SECURITIES. MOODY’S DEFINES CREDIT RISK AS THE RISK THAT AN ENTITY MAY NOT MEET ITS CONTRACTUAL, FINANCIAL OBLIGATIONS AS THEY COME DUE AND ANY ESTIMATED FINANCIAL LOSS IN THE EVENT OF DEFAULT. CREDIT RATINGS DO NOT ADDRESS ANY OTHER RISK, INCLUDING BUT NOT LIMITED TO: LIQUIDITY RISK, MARKET VALUE RISK, OR PRICE VOLATILITY. CREDIT RATINGS AND MOODY’S OPINIONS INCLUDED IN MOODY’S PUBLICATIONS ARE NOT STATEMENTS OF CURRENT OR HISTORICAL FACT. MOODY’S PUBLICATIONS MAY ALSO INCLUDE QUANTITATIVE MODEL-BASED ESTIMATES OF CREDIT RISK AND RELATED OPINIONS OR COMMENTARY PUBLISHED BY MOODY’S ANALYTICS, INC. CREDIT RATINGS AND MOODY’S PUBLICATIONS DO NOT CONSTITUTE OR PROVIDE INVESTMENT OR FINANCIAL ADVICE, AND CREDIT RATINGS AND MOODY’S PUBLICATIONS ARE NOT AND DO NOT PROVIDE RECOMMENDATIONS TO PURCHASE, SELL, OR HOLD PARTICULAR SECURITIES. NEITHER CREDIT RATINGS NOR MOODY’S PUBLICATIONS COMMENT ON THE SUITABILITY OF AN INVESTMENT FOR ANY PARTICULAR INVESTOR. MOODY’S ISSUES ITS CREDIT RATINGS AND PUBLISHES MOODY’S PUBLICATIONS WITH THE EXPECTATION AND UNDERSTANDING THAT EACH INVESTOR WILL, WITH DUE CARE, MAKE ITS OWN STUDY AND EVALUATION OF EACH SECURITY THAT IS UNDER CONSIDERATION FOR PURCHASE, HOLDING, OR SALE.

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To the extent permitted by law, MOODY’S and its directors, officers, employees, agents, representatives, licensors and suppliers disclaim liability to any person or entity for any indirect, special, consequential, or incidental losses or damages whatsoever arising from or in connection with the information contained herein or the use of or inability to use any such information, even if MOODY’S or any of its directors, officers, employees, agents, representatives, licensors or suppliers is advised in advance of the possibility of such losses or damages, including but not limited to: (a) any loss of present or prospective profits or (b) any loss or damage arising where the relevant financial instrument is not the subject of a particular credit rating assigned by MOODY’S.

To the extent permitted by law, MOODY’S and its directors, officers, employees, agents, representatives, licensors and suppliers disclaim liability for any direct or compensatory losses or damages caused to any person or entity, including but not limited to by any negligence (but excluding fraud, willful misconduct or any other type of liability that, for the avoidance of doubt, by law cannot be excluded) on the part of, or any contingency within or beyond the control of, MOODY’S or any of its directors, officers, employees, agents, representatives, licensors or suppliers, arising from or in connection with the information contained herein or the use of or inability to use any such information.

NO WARRANTY, EXPRESS OR IMPLIED, AS TO THE ACCURACY, TIMELINESS, COMPLETENESS, MERCHANTABILITY OR FITNESS FOR ANY PARTICULAR PURPOSE OF ANY SUCH RATING OR OTHER OPINION OR INFORMATION IS GIVEN OR MADE BY MOODY’S IN ANY FORM OR MANNER WHATSOEVER.

Moody’s Investors Service, Inc., a wholly-owned credit rating agency subsidiary of Moody’s Corporation (“MCO”), hereby discloses that most issuers of debt securities (including corporate and municipal bonds, debentures, notes and commercial paper) and preferred stock rated by Moody’s Investors Service, Inc. have, prior to assignment of any rating, agreed to pay to Moody’s Investors Service, Inc. for appraisal and rating services rendered by it fees ranging from $1,500 to approximately $2,500,000. MCO and MIS also maintain policies and procedures to address the independence of MIS’s ratings and rating processes. Information regarding certain affiliations that may exist between directors of MCO and rated entities, and between entities who hold ratings from MIS and have also publicly reported to the SEC an ownership interest in MCO of more than 5%, is posted annually at www.moodys.com under the heading “Investor Relations — Corporate Governance — Director and Shareholder Affiliation Policy.”

Additional terms for Australia only: Any publication into Australia of this document is pursuant to the Australian Financial Services License of MOODY’S affiliate, Moody’s Investors Service Pty Limited ABN 61 003 399 657AFSL 336969 and/or Moody’s Analytics Australia Pty Ltd ABN 94 105 136 972 AFSL 383569 (as applicable). This document is intended to be provided only to “wholesale clients” within the meaning of section 761G of the Corporations Act 2001. By continuing to access this document from within Australia, you represent to MOODY’S that you are, or are accessing the document as a representative of, a “wholesale client” and that neither you nor the entity you represent will directly or indirectly disseminate this document or its contents to “retail clients” within the meaning of section 761G of the Corporations Act 2001. MOODY’S credit rating is an opinion as to the creditworthiness of a debt obligation of the issuer, not on the equity securities of the issuer or any form of security that is available to retail investors. It would be reckless and inappropriate for retail investors to use MOODY’S credit ratings or publications when making an investment decision. If in doubt you should contact your financial or other professional adviser.

Additional terms for Japan only: Moody's Japan K.K. (“MJKK”) is a wholly-owned credit rating agency subsidiary of Moody's Group Japan G.K., which is wholly-owned by Moody’s Overseas Holdings Inc., a wholly-owned subsidiary of MCO. Moody’s SF Japan K.K. (“MSFJ”) is a wholly-owned credit rating agency subsidiary of MJKK. MSFJ is not a Nationally Recognized Statistical Rating Organization (“NRSRO”). Therefore, credit ratings assigned by MSFJ are Non-NRSRO Credit Ratings. Non-NRSRO Credit Ratings are assigned by an entity that is not a NRSRO and, consequently, the rated obligation will not qualify for certain types of treatment under U.S. laws. MJKK and MSFJ are credit rating agencies registered with the Japan Financial Services Agency and their registration numbers are FSA Commissioner (Ratings) No. 2 and 3 respectively.

MJKK or MSFJ (as applicable) hereby disclose that most issuers of debt securities (including corporate and municipal bonds, debentures, notes and commercial paper) and preferred stock rated by MJKK or MSFJ (as applicable) have, prior to assignment of any rating, agreed to pay to MJKK or MSFJ (as applicable) for appraisal and rating services rendered by it fees ranging from JPY200,000 to approximately JPY350,000,000.

MJKK and MSFJ also maintain policies and procedures to address Japanese regulatory requirements.

EDITORS SENIOR PRODUCTION ASSOCIATE Elisa Herr and Jay Sherman Amanda Kissoon