Weak Operating Environment Continues to Pressure Sri Lankan Banks’ Ratings: Fitch

Heightened risks from the challenging operating environment stemming from the Sri Lanka sovereign’s (CCC) weak credit profile and the ongoing Covid-19 pandemic continue to pressure the ratings of large Sri Lankan banks, says Fitch Ratings in a new report.

Large banks’ financial performance since the pandemic’s onset has been better than we expected, supported by relief and forbearance, although there are significant risks to the banks’ standalone credit profiles. We expect a recovery in real GDP in 2021 and 2022 relative to the contraction in 2020, which underpins our forecasts for better near-term performance of these banks. However, this is subject to a high degree of uncertainty, as it depends on the trajectory of the pandemic. Sri Lanka has experienced a surge in Covid-19 infections since April 2021 and the disruption to domestic economic activity may hinder the recovery in real GDP recorded in 1Q21.

The sovereign is the overarching constraint on the large banks’ ratings due to the banks’ high sovereign exposure and Sri Lanka-centric operations. This has led to rating compression, with the national ratings of most large banks placed at ‘AA-(lka)’. The deteriorating operating environment has impacted, in particular, the large banks’ risk and financial profiles, although their franchises remain intact despite the pandemic. We see negative rating action as most likely to stem from a deterioration in the sovereign credit profile and the operating environment, with upside for the large banks’ ratings being limited.