Fitch Affirms Bank of N.T. Butterfield & Son Ltd's Rating; Outlook Negative

NEW YORK--()--Fitch Ratings has affirmed Bank of N.T. Butterfield & Son Limited's (BNTB) long-term Issuer Default Rating (IDR) at 'A-' and Viability Rating (VR) at 'bbb-'. The Rating Outlook is Negative. The Outlook reflects Fitch's evolving views of sovereign support. Fitch envisions the resolution of the Rating Outlook could extend beyond the typical 18 to 24-month Outlook horizon given the evolving nature of sovereign support dynamics.

BNTB's ratings are unaffected by the recent downgrade of Bermuda's foreign currency long-term IDR to 'A+' from 'AA-' (for additional details, see 'Fitch Downgrades Bermuda's IDR to 'A+'; Outlook Stable' dated May 30, 2014). Fitch noted in the RAC dated June 11, 2013, 'Fitch Affirms Bank of N.T. Butterfield & Sons Ltd IDR at 'A-'; Upgrades Viability Rating to 'bbb-', that a one-notch downgrade would not translate into a downgrade of the IDR, which is currently at the support floor rating of 'A-'.

RATING DRIVERS - VRs and SUBORDINATED DEBT

BNTB's VR reflects its strong market position, liquid balance sheet, and good capital levels, offset by modest earnings measures, significant product concentration in residential lending, geographic concentration in Bermuda and large exposures in its commercial loan portfolio. Although BNTB's credit performance has improved, nonperforming loans remain higher than similarly rated peers and when compared to Fitch rated U.S. community banks.

Historically, BNTB has operated with above-average liquidity in the balance sheet evidenced by its low loan-to-deposit ratio averaging 53.7% over the last five years. Further, the company has strong capital ratios which support its risk profile. BNTB's Fitch Core Capital/RWA ratio averaged 11.4% for the last five years.

Although BNTB continues to face asset quality pressures, specifically in its residential loan portfolio, Fitch expects net losses to remain manageable. Despite BNTB's non-performing assets (NPAs; inclusive of accruing troubled debt restructurings and foreclosed real estate) remaining high at 3.5% as of Dec. 31, 2013, average net chargeoffs (NCOs) remain extremely low at 44 basis points (bps).

More recently, BNTB's earnings improved with return on assets (ROA) and net interest margins (NIM) reflecting a positive trend. Most of the improvement was supported by increased net interest income due to investment revenue yields rising and a rise in fee revenues, while expenses have been relatively flat. Nonetheless, Fitch notes that earnings measure remain in line with similarly VR 'bbb-' rated peers. Also, when compared to U.S. Community banks, performance is below peer averages.

RATING SENSITIVITIES - VRs and SUBORDINATED DEBT

BNTB's VR could see positive momentum should the company demonstrate sustainable core profitability improvement while materially reducing its non-performing loans. Although capital measures are very high and may come down, Fitch would expect BNTB to continue to operate with above-average capital position.

Conversely, a downgrade of the VR could occur in the event of significant deterioration of financial performance, a rise in NCOs due to asset quality pressures, and an increase to the risk level of the balance sheet mix.

KEY RATING DRIVERS - IDR, SUPPORT RATING (SR) AND SUPPORT RATING FLOOR (SRF)

The affirmations of BNTB's IDR, SR and SRF reflect its systemic importance to the local economy, as well as demonstrated support from the Bermudian government in the past, namely the 2009 guarantee on the principal and interest payments of BNTB's preferred stock. The preferred stock rating would be unaffected by any changes to BNTB's SR or SRF as it is based off of sovereign support.

However, the revision of the Rating Outlook to Negative reflects Fitch's evolving view of support from Bermuda. Fitch considers Bermuda to be a Path 2 country, defined as one in which there is a weakening of sovereign support of the banking sector.

The Bermuda Monetary Authority's (BMA) proposal regarding a statutory framework for a special resolution regime for banks licensed in Bermuda embeds many of the provisions of the UK Banking Act of 2009, according to the BMA. It proposes to provide the authorities with the necessary stabilization powers to transfer part or all of a failing bank's business to a private-sector purchaser, assume control of part or all of a failing bank's business through a bridge bank, and acquire temporary public ownership of a bank where required. The proposed framework suggests a weakening of support for the financial sector over time, in Fitch's view.

RATING SENSITIVITIES - IDR, SUPPORT RATING AND SUPPORT RATING FLOOR

BTNB's IDR is sensitive to changes in the SRF as the IDR is at its SRF. Fitch adopts a 'higher of' approach in assigning Long-Term IDRs to financial institutions, taking the higher of the SRF and the standalone financial strength (as reflected in the VR of 'bbb-' for BTNB). In this case, BTNB's IDR relies on the SRF of 'A-'. If the SRF is downgraded, BTNB's IDR would be vulnerable to a downgrade to as low as its VR of 'bbb-'.

As a Path 2 country, SRF revisions for systemically important banks are likely initially to be up to one rating category (e.g. a SRF in the 'A' range could fall into the 'BBB' range), while SRF revisions for mid-sized or small banks could be greater, potentially as far as 'No Floor'. Fitch considers BNTB to be a systemically important institution to Bermuda, as it represents approximately 40% of banking assets.

Fitch will also assess the government's ability to support BNTB and potentially revise the SRF if the sovereign's rating were downgraded by more than one notch. The ability has clearly come into question given the weakening fiscal position of the sovereign.

KEY RATING DRIVERS - PREFERRED STOCK

Preferred stock issued by BNTB is equalized with Bermuda's foreign currency long-term IDR, reflecting the guarantee from the Bermuda government. The Ministry of Finance agreed to guarantee the principal and dividends on BNTB's preferred stock when it was issued in 2009.

RATING SENSITIVITIES - PREFERRED STOCK

BNTB's preferred stock rating is highly sensitive to any changes in the ability of the Bermuda government to fulfill its obligation. A downgrade in the sovereign rating of Bermuda would trigger a commensurate downgrade of the preferred stock.

RATING DRIVERS & SENSITIVITIES - SUBORDINATED DEBT RATING

Subordinated debt issued by BNTB is notched down from the VR, and the rating of specific issues is typically sensitive to any change in the bank's VR.

Fitch has taken the following rating actions:

Bank of N.T. Butterfield & Son

--Long-term IDR affirmed at 'A-'; Outlook Negative;

--Short-term IDR affirmed at 'F1';

--Viability Rating affirmed at 'bbb-' ;

--Preferred stock affirmed at 'A+';

--Subordinated debt affirmed at 'BB+';

--Support rating affirmed at '1';

--Support Floor affirmed at 'A-'.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria and Related Research:

--'Global Financial Institutions Rating Criteria' (January 31, 2014);

--Sovereign Support for Banks' (March 27, 2014);

--'Assessing and Rating Bank Subordinated and Hybrid Securities' (Dec. 5, 2012);

-- Fitch Downgrades Bermuda's Ratings to 'A+'; Outlook Stable (May 30, 2014)

--'Bank of NT Butterfield & Son Limited' (April 5, 2013).

Applicable Criteria and Related Research:

Global Financial Institutions Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=732397

Sovereign Support For Banks: Rating Path Expectations

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=741975

Assessing and Rating Bank Subordinated and Hybrid Securities Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=732137

Bank of N.T. Butterfield & Son Limited

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=705041

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=833637

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Contacts

Fitch Ratings, Inc.
Primary Analyst
Doriana Gamboa, +1-212-908-0865
Director
Fitch Ratings, Inc.
33 Whitehall St.
New York, NY 10004
or
Secondary Analyst
Julie Solar, +1-312-368-5472
Senior Director
or
Justin Fuller
Senior Director, +1-312-368-2057
or
Media Relations
Brian Bertsch, +1-212-908-0549
brian.bertsch@fitchratings.com

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Contacts

Fitch Ratings, Inc.
Primary Analyst
Doriana Gamboa, +1-212-908-0865
Director
Fitch Ratings, Inc.
33 Whitehall St.
New York, NY 10004
or
Secondary Analyst
Julie Solar, +1-312-368-5472
Senior Director
or
Justin Fuller
Senior Director, +1-312-368-2057
or
Media Relations
Brian Bertsch, +1-212-908-0549
brian.bertsch@fitchratings.com