MOODYS.COM

9 FEBRUARY 2015

NEWS & ANALYSIS Corporates 2 » SS&C Technologies' Planned Acquisition of Advent Software Is

Credit Negative » Pfizer's Cash Purchase of Hospira Is Credit Positive, but

Increases the Risk of a Company Split-up » Grace's Planned Split Will Diminish Its Scale and Limit Its

Earnings Diversity » Harris' Planned Acquisition of Exelis Is Credit Negative » Russia's Steelmakers Would Be Hurt by Introduction of

Export Duties » Japan Tobacco's Exit from Unprofitable Beverage Business Is

Credit Positive » CNOOC Limited's Capital Spending Plan Will Moderate Effect

of Crude Price Drop, a Credit Positive

Infrastructure 11 » New England Electric Capacity Market Reforms Bolster

Generator Profits, a Credit Positive » Brazil's Reservoirs Hit 15-Year Low, a Credit Negative for Light

Energia and Other Hydro-Electric Generators

Banks 15 » CFTC Action Against US Bank Is Credit Negative » Low Interest Rates Pressure German Building Societies » Reserve Bank of India's Cut to Statutory Liquidity Ratio Is

Credit Positive for Banks » Korean's Stimulus Plan Is Credit Negative for Korea

Development Bank » Taiwan's Capital Strengthening Plan Benefits State-

Controlled Banks

Insurers 24 » American Financial Group Review of Long-Term Care Block

Shows Margin Deterioration » United Arab Emirate's New Insurance Regulations Are

Credit Positive

Asset Managers 28 » State Street ETF Fee Reductions Are Credit Negative, Pointing

to a More Competitive Market

Sovereigns 31 » Mozambique Floods Pressure the Sovereign's Finances

Sub-sovereigns 32 » Russian Regions Will See Credit-Positive Increase in Central

Government Loans

Covered Bonds 34 » Swedish Covered Bond Proposal Loosening Eligibility Criteria

for Bank Counterparties Is Credit Positive

RATINGS & RESEARCH Rating Changes 35

Last week, we upgraded Anadarko Petroleum, Dell, ServiceMaster, Capital Hospitals, Bank of New York Mellon (Luxembourg) Italian branch, Protective Life and six classes of J.P. Morgan Chase Commercial Mortgage Securities Series 2005-LDP2. We downgraded 3M, Arch Coal, AT&T, Siemens Aktiengesellschaft, Lancer Finance, Schahin II Finance, SBM Baleia Azul, SII, QGOG Atlantic/Alaskian Rigs, Odebrecht Drilling Norbe VIII/IX, Odebrecht Offshore Drilling Finance, Towergate Holdings II and Towergate Finance, among other rating actions.

Research Highlights 41

Last week, we published reports on global pharmaceuticals, UK non-food retailers, Tesco, US telecom and cable, Chinese ports, Hong Kong and Singapore, Oglethorpe Power, Long Island Power Authority, EMEA and US toll roads, UK banks, Dubai World and UAE banks, German insurers, UK life insurers, Mexican insurers, Japan, Ireland, Latin America, World Bank, English housing associations, US municipal variable rate demand bonds, US local governments, UK RMBS, Indian securitizations and Chinese CLOs, among other reports.

RECENTLY IN CREDIT OUTLOOK

» Articles in Last Thursday’s Credit Outlook 47 » Go to Last Thursday’s Credit Outlook

NEWS & ANALYSIS Credit implications of current events

2 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Corporates

SS&C Technologies’ Planned Acquisition of Advent Software Is Credit Negative Last Monday, SS&C Technologies Inc. (Ba2 review for downgrade) said it had agreed to acquire Advent Software Inc. (unrated) for about $2.7 billion in cash, including the assumption of debt. The mostly debt-financed transaction is credit negative because it will lead to a sharp increase in leverage. Following the announcement, we placed SS&C’s ratings on review for downgrade.

SS&C expects to complete the acquisition in the second quarter of this year. The company plans to fund the deal – and refinance about $600 million of existing debt – with $3 billion in new debt, cash on hand and $400 million in proceeds from an equity offering. Excluding SS&C’s expectations for $45 million in annual cost synergies, we estimate that total debt/EBITDA as adjusted by us will rise to about 6.8x upon closing of the acquisition, from 2.2x for the 12 months that ended 30 September 2014.

SS&C has a solid track record of deleveraging and successfully integrating numerous acquisitions. But the increase in financial risk is substantial and it will take several quarters for the company to realize anticipated revenue and cost synergies. The planned Advent acquisition also demonstrates increasing tolerance for financial risk. SS&C’s pro forma leverage of 6.8x will exceed the company’s 5.2x leverage (as adjusted by us) following the close of its GlobeOp and PORTIA acquisitions in the second quarter of 2012. Management expects to reduce net leverage by approximately 0.8x annually, but meeting this deleveraging target will require flawless execution and revenue growth rates in the high single digits as SS&C integrates the two companies.

Although SS&C's financial risk will be elevated at least over the next 12-24 months, the Advent acquisition will enhance the company’s operating scale, while the addition of Advent's product portfolio will strengthen its competitive position in the funds administration services industry. Both SS&C and Advent focus on the investment management industry and SS&C's strong middle-office and back-office capabilities, coupled with Advent's products, will create significant cross-selling opportunities.

SS&C is the fourth largest operator in industry with about 9% market share based on assets under administration (AUA). The industry is dominated by State Street Corp. (A1 stable), Citco (unrated), Bank of New York Mellon (Aa2 stable) and SS&C, which collectively account for about half of the market share based on AUA. Increased regulatory and compliance reporting requirements and the need to automate business processes will support demand for investment management products and services.

Pro forma for the Advent acquisition, SS&C will generate more than 90% of its revenue from software maintenance or subscription contracts, which enjoy customer retention rates of over 95%. But because we expect the company’s financial profile to deteriorate upon closing the Advent acquisition, we anticipate downgrading SS&C’s ratings by more than one notch.

Raj Joshi Assistant Vice President - Analyst +1.212.553.2883 raj.joshi@moodys.com

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.

NEWS & ANALYSIS Credit implications of current events

3 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Pfizer’s Cash Purchase of Hospira Is Credit Positive, but Increases Risk of a Company Split-up Last Thursday, Pfizer Inc. (A1 stable) announced plans to buy Hospira, Inc. (Ba1 review for upgrade), a leader in injectable pharmaceuticals, for about $17 billion including net debt. The deal is credit positive because it redeploys cash into EBITDA-generating assets. But the acquisition raises event risk for Pfizer bondholders because it increases the likelihood of the company splitting-up, with each entity having weaker credit quality than the whole because of smaller scale and less diversification. Pfizer will decide about a split-up within the next 24 months. Following the acquisition’s announcement, we affirmed Pfizer’s rating and outlook and put Hospira’s ratings on review for upgrade.

Pfizer’s cash and investments exceeded $50 billion at 28 September 2014, significantly more than the amount needed to operate its business, so we view a redeployment into EBITDA-generating assets as credit positive. Pfizer will borrow about $5 billion to fund the deal and assume Hospira’s net debt of $1 billion. But considering Hospira’s EBITDA and synergies, Pfizer’s debt/EBITDA will remain at about 2.0x. The deal brings synergies, hospital products, a biosimilars presence in Europe and a solid biosimilars pipeline to Pfizer.

Hospira enhances Pfizer’s Global Established Products (GEP) business, the unit we presume would be separated if Pfizer splits-up. GEP’s long-term growth potential without Hospira depends on growth in emerging markets and Pfizer’s biosimilars capabilities. With Hospira, GEP has greater potential to deliver revenue and earnings growth, which makes GEP more viable as a standalone company, or potentially more valuable to a strategic buyer. Pfizer recently released full-year financial results for each of its three business units as it contemplates a possible split in 2017. A split is unlikely to occur until after three years of results are available owing to securities registration requirements.

Although the acquisition is richly priced at a 40% premium to Hospira’s recent share price, it is strategically sound. Hospira is a leading player in sterile injectables, which will deepen the portfolio of products that Pfizer markets to hospital customers and diversify its revenues away from traditional oral pharmaceutical products. But as a generics-focused company, Hospira faces greater pricing pressure and has lower margins than Pfizer.

Combined with merger-related synergies, the Hospira acquisition will improve Pfizer’s GEP business performance, which has been on a downward trend. Hospira will increase the GEP business’ annual revenues to about $29 billion from $25 billion, by far the largest of Pfizer’s three units. Although Hospira faces near-term revenue and earnings declines because of the recent launch of generic versions of Precedex, a branded intravenous sedative, once this product is out of the revenue base, Hospira has stronger growth potential than Pfizer’s GEP business largely owing to Hospira’s strong pipeline of biosimilar drugs.

Revenues at GEP, primarily from off-patent products such as Lipitor and Norvasc, declined 7% in 2014 (after adjusting for foreign exchange) and its earnings before taxes decreased 8% (see exhibit). Sales of these products have already significantly declined in the US, and what remaining US revenue is left will also decline. The decline is slower in Europe and other developed markets, but drags down Pfizer’s growth. These products will typically only grow in emerging markets.

Michael Levesque, CFA Senior Vice President +1.212.553.4093 michael.levesque@moodys.com

NEWS & ANALYSIS Credit implications of current events

4 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Pfizer's Organic Revenue Growth by Segment

Sources: Pfizer for 2014 data and Moody’s Investors Service estimates for 2015

GEP’s downward trend will persist, at least over the next three years (excluding Hospira), as European sales continue to decline and as US sales of Celebrex rapidly contract following generic entrants in December 2014.

Sales in Pfizer’s Global Innovative Products division declined 2% in 2014 (after adjusting for foreign exchange) to $13.9 billion and its earnings before taxes declined 9%. We estimate mid-single-digit growth for the next several years. Revenues in Vaccines, Oncology and Consumer Products (VOC) grew 9% to $10.1 billion in 2014 and earnings before taxes rose 11%. The smallest of the three units, VOC has the strongest growth prospects (we project double-digit growth) following the US Food and Drug Administration’s recent approval of breast cancer drug Ibrance.

We will continue to monitor 2015 operating performance in each of the three units to assess the likelihood of a split. For example, high growth in VOC, coupled with greater contraction in GEP, increases the likelihood of a split because management may conclude that GEP’s lack of growth is dragging down the inherent value of Pfizer’s innovative businesses.

-12%-10%-8%-6%-4%-2%0%2%4%6%8%

10%12%14%16%18%

Global Established Products Global Innovative Products Vaccines, Oncology and Consumer

2014 Growth Moody's Projected 2015 Growth

NEWS & ANALYSIS Credit implications of current events

5 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Grace’s Planned Split Will Diminish Its Scale and Limit Its Earnings Diversity W.R. Grace & Co. (unrated) on Thursday said it would separate into two independent, publicly traded companies in about a year: New Grace, a catalysts technologies and materials technologies segment; and New GCP, consisting of Grace’s construction products segment and its Darex packaging business.

The split into two companies is credit negative for Grace because it reduces its size and its earnings diversity. The company said that it will modestly reduce net balance sheet debt in the transaction, but was not specific about its significant debt-like liabilities (pensions and operating leases). Grace today issues debt through its main operating subsidiary, W.R. Grace & Co.-Conn. (Ba2 stable). Although we view this separation as credit negative, there is no effect on Grace’s current ratings or stable outlook.

Grace’s fiscal year-end revenues in December 2014 totaled about $3.2 billion, and its EBITDA about $763 million. Had New Grace been a standalone company, it would have had about $1.8 billion in revenues in 2014, with EBITDA around $500 million, giving it an EBITDA margin of about 28%. New GCP by itself would have had about $1.5 billion in revenues and EBITDA of about $260 million, translating roughly to a 17% EBITDA margin.

Grace’s current financial leverage is adequate for W.R. Grace & Co.-Conn.’s Ba2 rating. We expect the company’s leverage will be around 3.5x debt/EBITDA (on a preliminary, Moody's-adjusted basis) for 2014. Grace has said that it expects New Grace to maintain leverage at this level or lower. However, the company has also said that New Grace will seek strategic acquisitions. If debt-funded, these acquisitions would threaten New Grace’s leverage target.

Grace’s elevated leverage and lack of significant earnings diversity constrain its credit profile today. Dividing the company will worsen this characteristic, although New Grace could see improved margins and leverage metrics, depending on the final capital structures of the two companies.

Grace’s catalyst business generates over two-thirds of its total EBITDA, and the concentration will increase for New Grace. Any deterioration in the catalyst segment will significantly weaken New Grace’s profitability and cash flow.

We expect steady global demand through early 2016 for refined products such as transportation fuels, which drive the demand for catalysts, especially amid current low oil prices. But in the near term, Grace faces a number of challenges in the unit slated to become New Grace, including a weak trading environment for chemicals in Europe this year; a US shift toward lighter refinery feedstocks, which require fewer catalysts; and a strengthening US dollar.

Meanwhile, global demand for refining catalysts will require New Grace to invest in plants and global expansion projects, or risk losing its competitive position and adequate levels of supply for its customers. These investments may force New Grace to spend more on growth capital or to make additional acquisitions — both of which would threaten Grace’s leverage and free cash flow generation.

With the right capital structure, financial philosophy and strategic growth plans, New Grace may still be positioned to offset these disadvantages and maintain its current rating. Currently, there is not enough information to make this determination apart from the expected initial unadjusted ratio of net debt to EBITDA at 2.0x-2.5x. Since emerging from bankruptcy in February 2014, Grace has been clear about its financial and operational objectives, and has delivered on them.

Anthony Hill Vice President - Senior Credit Officer +1.212.553.7730 anthony.hill@moodys.com

NEWS & ANALYSIS Credit implications of current events

6 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Harris’ Planned Acquisition of Exelis Is Credit Negative Last Friday, Harris Corporation (Baa1 review for downgrade) said it had an agreement to acquire Exelis Inc. (Ba1 stable) for $4.8 billion in cash and stock. Complementary technologies and services between the two companies could produce revenue and profit growth, but the planned transaction is credit negative because the acquisition debt will weaken Harris’ leverage and interest coverage metrics. Following the announcement of the deal, we placed Harris’ ratings on review for downgrade.

Harris’ acquisition to offset the decline in its core tactical radio business did not surprise us, but we did not anticipate a transaction of the magnitude announced Friday. Harris expects to complete the acquisition in June 2015, after which its shareholders will own about 85% of the combined entity, with Exelis’ shareholders holding the remaining 15%.

The newly merged company will have pro forma annual revenue of about $8.2 billion, compared to about $5 billion for Harris in the 12 months ended 2 January 2015. But the combined company’s credit metrics would be considerably weaker than Harris’ historical norms. Pro forma for the merger, debt/EBITDA will likely exceed 4x, while EBITDA/interest will likely fall below 6x, compared to 1.7x and 10.4x, respectively, for the 12 months that ended 26 September 2014. Given the increase in leverage and debt load, as well as the time required to restore credit metrics, a multi-notch rating downgrade is possible.

The rate of deleveraging of the new company will be slowed by Exelis’ underfunded pension liability of about $1.9 billion. Planned cost synergies are relatively modest. Yet integration risk is meaningful given the roughly equal size of both companies, each company’s range of products and Exelis’ relatively brief history as a standalone company following its 2011 spin-off from ITT Corp.

Bruce Herskovics Vice President - Senior Analyst +1.212.553.0192 bruce.herskovics@moodys.com

NEWS & ANALYSIS Credit implications of current events

7 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Russia’s Steelmakers Would Be Hurt by Introduction of Export Duties Last Wednesday, Russia’s Minister of Industry and Trade Denis Manturov said that the government could introduce steel export duties if over the coming weeks steelmakers are unable to reach a compromise with domestic end-users on price increases. The introduction of such export duties would be credit negative for Russian steelmakers.

The government’s focus on prices makes it more challenging for steelmakers to substantially increase domestic prices after increasing them in the aftermath of the ruble’s December devaluation, as shown in the exhibit. The government focus is also likely to sustain the current domestic price discount to export prices throughout this year, which will moderate the positive effects of the ruble devaluation on steelmakers’ profit margins because the majority of their expenses are ruble-denominated.

Russian Steelmakers Hiked Domestic Prices Following December’s Ruble Devaluation

Source: Metal Bulletin

The government’s position suggests its concern for domestic end-user customers, which consume about two thirds of all domestically produced steel. Machinery sector representatives, namely wagon makers, have been particularly critical of the price hikes, which they estimate were as much as 35% for certain grades of steel in December-January. The rising cost of debt, with banks demanding interest rates of up to 25%-30% following the key rate increase by the Central Bank of Russia to 17% (adjusted down to 15% on 30 January), complicates things further for end-user customers, making it more difficult for some to continue operating. We estimate that Russian GDP will fall by 5.5% in 2015 from around 0.5% growth in 2014, according to the Ministry of Economic Development’s preliminary 2014 GDP estimate. Such price hikes seem counterintuitive for steel end-user customers at a time when Russia’s economy is diving into recession.

Setting up export duties would show that the government will not tolerate sharp price increases for domestic steel customers, who have limited headroom to pass these price hikes on to final customers. Furthermore, higher steel prices contribute to inflationary pressures in the economy. The consumer price index increased 15.0% year-over-year in January on food price inflation and imports becoming more expensive.

Higher steel prices would exacerbate the deterioration in steel demand we anticipate this year among major end-user sectors (i.e., construction, pipes and auto), which comes on the back of sanctions, falling oil prices, Russian oil and gas majors curtailing their capex, Russian corporates being unable to access capital markets, the lack of affordable credit and real incomes contracting. In the aftermath of the 2009 30%-40% decline in steel consumption, demand took two years to recover in Russia, and the outlook for 2015 could be similar if price hikes exacerbate current weakness among end-users.

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Denis Perevezentsev Vice President - Senior Analyst +7.495.228.6064 denis.perevezentsev@moodys.com

NEWS & ANALYSIS Credit implications of current events

8 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Even without the introduction of export duties, Russian steelmakers will be more cautious with export deliveries this year to avoid creating a deficit in the domestic market (triggering price inflation on its own). Such self-rationing of exports will not allow Russian steelmakers to fully capitalise on the positive effect of falling cash costs from the ruble devaluation and cost-cutting initiatives, which have made them very competitive in the international markets. We estimate that the cash cost for slab steel will fall to about $200-$250/tonne in 2015, down from about $300/tonne in 2014.

NEWS & ANALYSIS Credit implications of current events

9 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Japan Tobacco’s Exit from Unprofitable Beverage Business Is Credit Positive Last Thursday, Japan Tobacco Inc. (JT, Aa3 stable) said that its previously announced facility closures in Japan will lead to ¥26 billion of annual cost savings upon their completion, and announced the day before that it will exit its unprofitable beverage business, which will boost its operating margin nearly one percentage point to 27.9% from the 27.1%1 for 2014, narrowing the gap between JT’s margins and those of peers.

The cost savings of the facility closures combined with the elimination of the beverage manufacturing business will gradually add about 2% to JT’s operating margin, once the initial outlay of the facility closures (¥59 billion of non-recurring costs) is behind the company and the affected employees retire.

The company's non-tobacco businesses (i.e., beverage manufacturing, which the company plans to exit, vending machine operations, processed foods, and pharmaceuticals) continue to lose money as a whole and adversely affect margins. If it were not for these non-tobacco businesses, JT's consolidated operating margin would be about 34%, seven percentage points higher than its 27% margin in 2014, and not far behind British American Tobacco plc’s (A3 stable) 36% operating margin for the 12 months to 30 June 2014.

Unlike JT’s core tobacco business that claims about a 60% share of the domestic market, according to the Tobacco Institute of Japan, JT’s domestic market share in beverages has been small, at 1.2% in 2013, ranking 10th according to Euromonitor. With two primary brands in the coffee and peach-flavored beverage categories, the business reported operating losses of ¥4.6 billion in 2014, as shown below.

Japan Tobacco’s Operating Margin Will Improve After It Exits the Beverage Manufacturing Business Calendar 2014 ¥ Billions

Actual Revenues ¥2,433.5

Revenue from the Exiting Business* ¥53.6

Pro forma Revenues ¥2,379.9

Operating Profit ** ¥660.1

Operating Loss from the Exiting Business* (¥4.6)

Pro Forma Operating Profit ¥664.7

Actual Operating Profit Margin 27.1%

Pro forma Operating Profit Margin 27.9%

* JT’s consolidated statements are on IFRS. The revenues and operating profit for the exiting beverage business use Japanese GAAP.

** JT adjusts for acquired intangibles, impairment losses on goodwill, restructuring costs, and other items.

Source: The company

The company will maintain the rest of its non-tobacco businesses, including the modestly profitable vending machine operator business, the processed food segment, which had an operating profit of ¥1.4 billion for 2014, and the pharmaceutical segment, which had an operating loss of ¥7.3 billion in 2014.

JT is the fourth largest tobacco manufacturer globally with a 9.4% cigarettes market share, following China National Tobacco Corp (unrated) at 43.2%, Philip Morris International Inc. (A2 stable) at 14.3% and British American Tobacco Plc at 11.6% according to Euromonitor in 2013.

1 All data in this article is as reported.

Mariko Semetko Vice President - Senior Analyst +81.3.5408.4209 mariko.semetko@moodys.com

Mirai Kaneuchi Associate Analyst +81.3.5408.4026 mirai.kaneuchi@moodys.com

NEWS & ANALYSIS Credit implications of current events

10 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

CNOOC Limited’s Capital Spending Plan Will Moderate Effect of Crude Price Drop, a Credit Positive On 3 February, CNOOC Limited (Aa3 stable) said it plans to slash its capital spending 26%-35% to RMB70-80 billion this year from around RMB108 billion in 2014, and increase production 10%-15% to 475-495 million barrels of oil equivalent (mmboe) from 432 mmboe in 2014. These targets reflect management’s willingness to preserve the company’s financial profile in a very challenging environment.

The credit-positive combination of lower spending and higher production mitigates the negative effect of falling crude oil prices on the company’s EBITDA and debt metrics. The plan is also credit positive for CNOOC Limited’s parent, China National Offshore Oil Corporation (CNOOC Group, Aa3 stable), because CNOOC Limited accounts for the majority of CNOOC Group’s profits.

We expect that CNOOC Limited’s 2015 cash flow from operations will decrease to around RMB80 billion, a 25%-30% decline from 2014 as a result of the fall in crude prices. Nevertheless, the company will be able to cover this year’s capital spending with cash flow from operations if the average Brent price is around $55 per barrel. This means there is no need for CNOOC Limited to incur additional debt or deplete its cash on hand, absent new acquisitions or a further decline in the Brent price. CNOOC Limited’s cash flow from operations would not have been sufficient to cover this year’s capital expenses if the company had maintained its 2014 spending level.

CNOOC Limited’s adjusted retained cash flow (RCF)/debt will be around 50%-60% and its adjusted debt/average daily production will be around $17,000-$18,000/ barrels of oil (boe) equivalent in 2015 and 2016. Our guidance calls for the company to keep its adjusted RCF/debt above 70%-75% and adjusted debt/average daily production below $15,000-$17,000/boe.

We expect CNOOC Group’s RCF/net debt to improve to 45%-48% in 2015 and 2016 versus our previous projection of 36%-39% without such a big decrease in capex and increase in production. This is still lower than 50%, our guidance for its a3 baseline credit assessment. CNOOC Group’s RCF/net debt was around 91% at the end of 2013.

Nevertheless, CNOOC Limited’s and CNOOC Group’s overall credit profiles, as reflected in their Aa3 ratings, will remain intact because of their very high strategic importance to, and expected strong support from, the Chinese government (Aa3 stable).

Kai Hu Vice President - Senior Credit Officer +86.21-6101.0553 kai.hu@moodys.com

Cindy Yang Associate Analyst +86.10-6319.6570 liu.yang@moodys.com

NEWS & ANALYSIS Credit implications of current events

11 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Infrastructure

New England Electric Capacity Market Reforms Bolster Generator Profits, a Credit Positive Last Wednesday, New England’s electricity grid operator, New England Independent System Operator (NE-ISO) released the results of its annual capacity auction held the prior Monday. The auction, which establishes clearing prices for June 2018-May 2019 delivery, set prices that are 36% higher than in 2014, which in turn was 122% higher than 2013.

The steady rise in capacity prices is credit positive for companies that own electric generation capacities in the region, including Exelon Corporation (Baa2 stable), Dynegy Inc. (B2 stable), NRG Energy, Inc. (Ba3 stable), Entergy Corporation (Baa3 stable), PSEG Power LLC (Baa1 stable), Dominion Resources Inc. (Baa2 stable), Calpine Corporation (B1 positive) and NextEra Energy Inc. (Baa1 stable). Exhibit 1 shows the rising clearing prices for NE-ISO capacity auctions, and Exhibit 2 shows our capacity revenue estimates for each company and compares the increases to their EBITDA since 2013.

EXHIBIT 1

New England Electric Capacity Auction Prices

Source: New England Independent System Operator

EXHIBIT 2

Capacity Revenue of New England Electricity Generators

Company Name

Estimated Capacity Revenue $ Millions

2013 EBITDA $ Millions

Increase as Percent of EBITDA Since 2013

2013 Auction

2014 Auction

2015 Auction

Dynegy Inc. $19 $42 $57 $227 17%

NRG Energy, Inc. $89 $211 $307 $1,593 14%

Exelon Generation Company, LLC $19 $219 $308 $4,591 6.3%

Calpine Corp $95 $107 $161 $1,370 4.8%

Dominion Resources Inc. $71 $199 $272 $4,971 4.0%

NextEra Energy, Inc. $48 $158 $219 $6,163 2.8%

PSEG Power LLC $90 $90 $122 $1,644 2.0%

Entergy Corporation * $40 $42 $57 $822 2.0%

* EBITDA of Entergy Wholesale Commodities.

Source: Moody’s Investors Service estimates

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Toby Shea Vice President - Senior Analyst +1.212.553.1779 toby.shea@moodys.com

NEWS & ANALYSIS Credit implications of current events

12 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Capacity auctions are organized by the grid operator. NE-ISO makes monthly capacity payments to generators based on auction results to ensure enough spare capacity in the system to avoid a blackout in case there are unexpected demand spikes, power plant outages or downed transmission lines. Generators collect capacity payments in addition to wholesale power market revenues earned from the actual sale of electricity to the grid. Capacity payments, which are comparable to insurance payments for avoiding blackouts, comprise the majority of revenue for peaking facilities that would only run when unexpected shortages occur.

The increase in capacity prices in New England owes partly to the shutdown of nuclear and coal plants for economic and environmental reasons, but prices are also increasing because of reforms to auction rules that resulted in higher penalties for non-performance. During the extreme cold last winter, many power plants that were collecting capacity payments failed to deliver electricity when called upon. Many of gas-fired power plants were not able to perform because they did not have firm natural gas transportation in place. These gas-fired power plants could not procure the necessary gas to run when it was really cold because all the transportation capacity was being used by heating customers who had secured firm transportation.

Even though the New England market has been a recent boon to generators, the real prize lies with the Mid-Atlantic market, Pennsylvania, New Jersey and Maryland (PJM), which has expanded and now covers surrounding states including Ohio and parts of Illinois. The Mid-Atlantic market is almost five times larger than the New England market: 167 gigawatts (GW) of generating capacity versus 35 GW. PJM is proposing similar reforms as NE-ISO but with harsher penalties and the price increase, as a result, could be more substantial. Should substantially higher capacity auction prices come to pass in the Mid-Atlantic region, it will affect our entire rated portfolio of US unregulated power companies because all but one have considerable exposure to this region. Generators will certainly welcome higher capacity prices after many years of weak wholesale power prices and numerous industry consolidations and bankruptcies.

NEWS & ANALYSIS Credit implications of current events

13 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Brazil’s Reservoirs Hit 15-Year Low, a Credit Negative for Light Energia and Other Hydro-Electric Generators Last Tuesday, Brazil’s Operador Nacional do Sistema (ONS), the country’s national electricity grid operator, published data showing that hydro-power water reservoir levels in Brazil’s southeast and midwest regions fell to a 15-year low.

The decline, which is the result of the country’s worst drought in 80 years, is credit negative for Light Energia S.A. (Ba2 negative) and other hydro-electric generation companies in Brazil. According to our estimates for a stress case scenario, the company´s EBITDA in 2015 could decline as much as 40% because of the need to purchase a larger share of its energy in the spot market.

Brazil’s southeast and midwestern regions hold around 70% of all Brazilian hydro-power water reservoirs. The ONS reported that levels in the southeast and Midwest regions were 16.8% of total capacity in January versus 40% a year earlier (see Exhibit 1) – well below historical levels in the middle of Brazil’s rainy season, which started in December 2014 and runs through April 2015.

EXHIBIT 1

Hydro-Power Water Reservoir in Brazil’s Southeast and Midwest Regions as a Percent of Total Capacity

Source: Brazil’s Operador Nacional do Sistema

Hydro power contributes 70% of Brazil’s electricity matrix. Low reservoir levels require generators to purchase electricity in the spot market to fulfill their energy supply obligations on sales agreements previously contracted as well as under their concession contracts. This occurs whenever the national generating scaling factor (GSF), an ONS-calculated indicator of hydro-generators’ exposure to the spot market, is lower than 100%. The further the GSF is below 100%, the more energy hydro generators must purchase in the spot market. Consequently, their costs are higher, negatively affecting their companies’ EBITDA and margins, especially because we expect that electricity spot prices will remain at the BRL388 per megawatt-hour, the price ceiling set by Brazil’s electricity regulatory agency ANEEL.

The system´s GSF has been on a downward trend for the past three years, reaching 79% in January, down from 89% in 2014 and 99% in 2013. In light of the continuing drought, we estimate that in a stress scenario, the average GSF will be closer to 84% in 2015, down from our previous estimate of 93% in December 2014. This would require the hydro-power generators to purchase 16% of energy in the spot market because regardless of sales mix, every generator must acquire energy at the spot market if the national system GSF is lower than 100%. In our stress-case scenario, we estimate that a GSF of 84% could cost the equivalent of as much as 30%-40% of their total revenues, further pressuring these companies’

40%35% 36% 39% 37% 36% 34%

30%25%

19% 16%19%17%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2012 2013 2014 2015

Aneliza Crnugelj Associate Analyst +55.11.3043.6063 aneliza.crnugelj@moodys.com

Alexandre G. de Almeida Leite Vice President - Senior Credit Officer +55.11.3043.7353 alexandre.leite@moodys.com

NEWS & ANALYSIS Credit implications of current events

14 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

margins and possibly triggering electricity rationing, or government intervention to compensate for the higher costs to hydro generators from increasing purchases in the spot market.

A GSF of 84% would result in a 40.1% decline in Light Energia’s 2015 EBITDA to approximately BRL274 million from our previous estimate of BRL461 million, including our standard adjustments (see Exhibit 2). In a scenario where the GSF is 84%, we still estimate the company’s average level of contracted energy will be 86% of its total available energy. Light Energia could sell the remaining 14% in the free market to help mitigate the higher costs incurred because of a lower GSF: Light Energia has one of the highest levels of available uncontracted energy among Brazil’s electricity generators and thus would be one of the least affected under this stress scenario.

EXHIBIT 2

Light Energia’s 2015 EBITDA Sensitivity to Generating Scaling Factors

Source: Moody’s Investors Service estimates

461

399

336

274

0

100

200

300

400

500

93% 90% 87% 84%

BRL

Mill

ions

Average Generating Scale Factor

NEWS & ANALYSIS Credit implications of current events

15 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Banks

CFTC Action Against US Bank Is Credit Negative Last Wednesday, the US Commodity Futures Trading Commission (CFTC) announced a federal district court consent order against U.S. Bancorp’s (A1 stable) lead bank, U.S. Bank National Association (Aa3 stable, B/aa3 stable2), related to the July 2012 failure of Peregrine Financial Group, a futures brokerage and U.S. Bank customer. U.S. Bank was also ordered to pay $18 million to Peregrine’s trustee, which will be returned to Peregrine customers. The regulatory action is credit negative because it harms U.S. Bancorp’s reputation.

The CFTC case evolved from revelations in 2012 that Peregrine and its former CEO, Russell Wasendorf, Sr., had defrauded thousands of its customers. The CFTC, which regulates futures brokerages, instituted a civil action against Peregrine and the brokerage filed Chapter 7 liquidation. Wasendorf, meanwhile, was ultimately sentenced to 50 years in prison and ordered to pay $215 million in restitution.

The CFTC targeted U.S. Bank because from June 2008 through July 2012 approximately $36 million held in a Peregrine customer segregated funds account at U.S. Bank was withdrawn and transferred to persons and entities that were not Peregrine customers. According to the consent order, during this time, U.S. Bank did not have policies, procedures or training specifically applicable to customer segregated funds of futures commission brokerages.

Although U.S. Bank has since implemented specific policies and procedures to address the identified shortcomings, their nonexistence as recently as 2012 is an unexpected control deficiency at a bank that we otherwise hold in very high regard with respect to its controls and risk management.

On the other hand, U.S. Bancorp recently took an additional step to prevent such control deficiencies from occurring. Specifically, the firm on 31 December 2014 announced that it had given the compensation and human resources committee of its board of directors the power to cancel previously granted unvested equity awards to an executive if that executive demonstrated an inadequate sensitivity to the inherent risks of his or her business line that resulted in, or could result in, financial or reputational damage.

In our view, this policy expands the links between executive compensation and risk in a credit-positive fashion. Had this policy been in place earlier, the incentive to create procedures or training specific to the bank’s handling of brokerages’ customer segregated accounts would have been greater.

2 The bank ratings shown in this report are the bank’s deposit rating, its standalone bank financial strength rating/baseline credit

assessment and the corresponding rating outlooks.

Allen Tischler Senior Vice President +1.212.553.4541 allen.tischler@moodys.com

NEWS & ANALYSIS Credit implications of current events

16 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Low Interest Rates Pressure German Building Societies Last Monday, Germany’s Central Bank, the Bundesbank, published select 2014 aggregate sector metrics for the 21 domestic building societies. The numbers confirm the sector’s slow progress in reducing average funding costs, which is outpaced by the decline in asset yields, a credit-negative structural and economic challenge for all building societies.

While our rated Bausparkassen or building societies, Bausparkasse Mainz AG (Baa1 negative, C-/baa1 stable3) and Debeka Bausparkasse AG (Baa1 negative, C-/baa1 stable) have sound asset quality and sufficient capitalisation to withstand such pressures for several years, they nonetheless face the same profitability challenge.4 We expect German building societies to report further declines in net interest margins for 2014 and 2015, resulting in weaker profits. In 2014, the structural imbalance between Bauspar-deposits and Bauspar-loans grew at an increased pace, as shown in Exhibit 1.

EXHIBIT 1

Increased Bauspar Deposits Exacerbate the Imbalance versus Declining Bauspar Loans

Source: Deutsche Bundesbank

Germany’s Bausparkassen offer long-term, fixed forward interest rates for both the deposit phase and the (optional) loan phase of the Bauspar contract. The building society uses deposited funds from new clients to provide mortgages to clients who have already saved up their equity cushion. In a low interest rate environment, the natural nexus between savers and creditors falls apart. An increasing number of Bauspar clients have chosen to extend savings periods because of fixed interest rate guarantees under their Bauspar contracts instead of exerting their option to take out Bauspar loans at presently unattractive fixed rates. As a consequence, Bausparkassen strive to fill the asset gap with regular mortgage loans sourced in a competitive market environment, or they are required to increasingly invest in low-yielding financial assets.

3 The building society ratings shown in this report are the societies’ deposit ratings, their standalone bank financial strength

ratings/baseline credit assessments and the corresponding rating outlooks. 4 Please see Debeka Bausparkasse & Bausparkasse Mainz: Low Interest Rates Threaten Earnings At German Building Societies, 23

January 2015.

-€0.7

-€3.1 -€3.0-€2.3

€2.2

€4.1 €4.2€4.7

€5.8€5.2

€7.1€7.8

-€4

-€2

€0

€2

€4

€6

€8

€10

2011 2012 2013 2014

€Bi

llion

s

Bauspar Loans Bridge Loans Bauspar Deposits

Bernhard Held, CFA Assistant Vice President - Analyst +49.69.70730.793 bernhard.held@moodys.com

Christina Gerner Associate Analyst +49.69.70730.721 christina.gerner@moodys.com

NEWS & ANALYSIS Credit implications of current events

17 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

EXHIBIT 2

Declines in Asset Yields on Mortgage Loans Have Outpaced Funding Cost Reduction

Note: Average mortgage loan rates are weighted across different maturities. Source: Deutsche Bundesbank

In 2014, the sector made 1.7% of interest payments on Bauspar deposits, 10 basis points less than in 2013. Bauspar deposits are the sector’s dominant funding tool and back 74% of the sector’s total assets of €212 billion as of year-end 2014. At the same time, average rates for new mortgage loan origination declined at a much faster pace, compressing the net interest margin on the sector’s new business underwriting. The rising gap between new mortgage rates and the average interest rate on Germany’s in-force mortgage book shows the pressure on net interest margins will not abate during the course of the next two to three years, as higher-yield maturities and lower-rate new business generation will consistently reduce the average rate on the existing mortgage book in the foreseeable future.

2.8% 2.9%2.6%

2.1% 1.8% 1.8%

1.7%

5.8%5.3% 5.1%

4.8%4.5%

4.0%3.7%

5.0%

4.3%5.2%

4.1%3.5%

2.8%

2.2%

0%

1%

2%

3%

4%

5%

6%

7%

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Average Deposit Interest Rate Average Mortgage Loan Rate for Existing BusinessAverage Mortgage Loan Rate for New Business

NEWS & ANALYSIS Credit implications of current events

18 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Reserve Bank of India’s Cut to Statutory Liquidity Ratio Is Credit Positive for Banks Last Tuesday, the Reserve Bank of India reduced its statutory liquidity ratio (SLR) for Indian banks to 21.5% from 22.0%. The reduction in the SLR, a minimum amount of government securities that banks must hold as a percent of their deposits, is credit positive for Indian banks because it will provide them with greater flexibility to manage liquidity and improve profitability. The reduction also makes it easier for banks to comply with the RBI’s liquidity coverage ratio (LCR) norms.

The RBI’s move is the latest in a series of SLR reductions that have totaled 350 basis points since 2010 (see Exhibit 1). The RBI has indicated more SLR reductions may be forthcoming.

EXHIBIT 1

Reserve Bank of India’s Changes to Its Statutory Liquidity Ratio Since 2010 Date of Change Reduction of SLR in Basis Points SLR Post Reduction

December 2010 100 24.0%

August 2012 100 23.0%

June 2014 50 22.5%

August 2014 50 22.0%

February 2015 50 21.5%

Source: Reserve Bank of India:

Banks in India historically have had high SLR requirements (for example, the SLR in 2009 was 25%) because it allowed the government to fund its borrowing requirements by forcing banks to allocate a large part of their deposits to buying government securities. However, the RBI’s SLR policy has had negative implications for banks. Although banks typically hold government securities as part of their liquidity management, the required amount that Indian banks must hold under the SLR guideline often exceeds what they would have held if they were managing their liquidity without these norms.

Moreover, SLR holdings, despite consisting of liquid instruments, have not helped support banks’ liquidity management because the banks have had to maintain these levels of holdings under most circumstances. Hence, they cannot sell these securities to raise liquidity if by doing so their SLR holdings would fall below minimum norms. Also, holding such a large amount of relatively low-yielding government securities lowers profitability.

The reduction in required SLR holdings should make it easier for banks to comply with LCR norms. Indian banks face difficulties in complying with LCR norms because for the purposes of calculating high-quality liquid assets, only those holdings of government securities that exceed the minimum SLR requirement are eligible. With this reduction in the SLR, the amount of eligible securities for LCR computations will increase. Rated Indian banks’ holdings of government securities typically exceed minimum SLR requirements by a few percentage points (see Exhibit 2). We expect all rated banks to benefit from this development.

Srikanth Vadlamani Vice President - Senior Credit Officer +65.6398.8336 srikanth.vadlamani@moodys.com

NEWS & ANALYSIS Credit implications of current events

19 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

EXHIBIT 2

Rated Indian Banks’ Holdings of Government Securities as a Percent of Deposits, March 2014

Notes: AXIS = Axis Bank Ltd.; HDFC = HDFC Bank Ltd.; ICICI = ICICI Bank Ltd.; BOB = Bank of Baroda; BOI = Bank of India; CAN = Canara Bank; IOB = Indian Overseas Bank; CBI = Central Bank of India; OBC = Oriental Bank of Commerce; PNB = Punjab National Bank; SBI = State Bank of India; SYN = Syndicate Bank; UBI = Union Bank of India. We are using these ratios as a proxy for the SLR ratio. Year-end numbers may not be representative of the average SLR ratio over the year. Sources: Moody’s Banking Financial Metrics and the banks

28.9% 28.3%26.9%

25.8% 25.6% 24.9% 24.8% 23.9% 23.4% 22.7% 22.4%21.0%

17.0%

0%

5%

10%

15%

20%

25%

30%

ICICI CBI IOB HDFC CAN PNB AXIS OBC UBI SYN SBI BOI BOB

NEWS & ANALYSIS Credit implications of current events

20 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Korean’s Stimulus Plan Is Credit Negative for Korea Development Bank Last Monday, Korea’s Financial Service Commission (FSC), the Ministry of Finance & Strategy and other related ministries announced a Corporate Investment Stimulus Program. Under this program, the government would provide KRW15 trillion ($13.8 billion) of financing through Korea Development Bank (KDB, Aa3 stable, D/ba2 stable 5) to stimulate investment in industries it considers strategically and economically important. Corporations that receive financing will need to match it with their own expenditure, so the program will potentially lead to KRW30 trillion ($27.6 billion) of capital expenditure for the country, or 2.1% of government-estimated 2014 GDP. The government also announced that it would inject KRW2 trillion ($1.8 billion) of capital into KDB.

Although the government’s plan is credit positive for Korean banks, it is credit negative for KDB. Most banks will benefit from the stimulus plan because it will provide a boost to Korea’s KRW1.4 trillion ($1.3 trillion) economy, as part of the government’s effort to achieve trend real GDP growth of 4%. For KDB, however, the government’s KRW2 trillion capital injection into the bank does not compensate it for the risk it incurs from the KRW15 trillion disbursement into target industries.

In particular, KDB is likely to invest in the target industries in the form of equity participations, which will require it to apply maximum 400% risk weights, in accordance with Korean regulations. The 400% risk weighting, by our estimate shown in the exhibit below, will reduce its Tier 1 capital ratio substantially by about 240 basis points (bp) to around 9% from its Tier 1 capital ratio of 11.46% as of September 2014 even if we take into account the government’s KRW2 trillion capital injection. KDB’s Tier 1 capital ratio is reduced even if it makes loans for half the target amount.

Korea Development Bank Pro-forma Capital Ratio Under Different Investment Assumptions

Sources: Financial Statistics Information System of Financial Supervisory Service and Moody’s Investors Service

The lower Tier 1 capital will exacerbate KDB’s already deteriorating capitalization, because the bank reported a substantial decline in its Tier 1 capital ratio in 2013 because of net losses of KRW1.65 trillion ($1.58 billion) from large provision expenses.

While KDB, as a policy bank, is tasked with a policy mandate to support particular industries, the stimulus plan highlights an added peril on its risk profile from its growing tendency to make equity or equity-like investments (such as convertible notes or preferred convertible shares) in projects it finances. This contrasts

5 The ratings shown are the bank’s deposit rating, its standalone bank financial strength rating/baseline credit assessment and the

corresponding rating outlooks.

11.46%8.97%

10.18%

1.99%

1.38%1.57%

13.46%

10.35%

11.75%

0%

2%

4%

6%

8%

10%

12%

14%

16%

31 September 2014 100% Equity Investment 50% Equity Investment and 50% Loans

Tier 1 Capital Ratio Tier 2 Capital Ratio Capital Adequacy Ratio

Hyun Hee Park Assistant Vice President, Analyst +852.3758.1514 hyunhee.park@moodys.com

NEWS & ANALYSIS Credit implications of current events

21 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

with the bank’s traditional use of credit disbursement as its main financing method, and reflects the government’s view that KDB’s equity participation will better encourage Korean corporations to increase business investments.

NEWS & ANALYSIS Credit implications of current events

22 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Taiwan’s Capital Strengthening Plan Benefits State-Controlled Banks On 2 February, Taiwan’s Ministry of Finance said the government is exploring ways to improve capitalization in state-controlled banks, especially wholly government-owned Bank of Taiwan (Aa3 stable, C-/baa2 stable6) and Land Bank of Taiwan (Aa3 stable, D/ba2 stable), a credit positive. All state-controlled banks would benefit from increased core capital, and as the largest shareholder in the banks, the Government of Taiwan’s (Aa3 stable) advance planning to account for Basel III’s higher capital requirements in determining the banks’ long-term capital adequacy is credit positive.

Although these banks’ current capitalization is adequate, they will face pressure meeting higher capital requirements in coming years under Basel III (see Exhibit 1). Options the government is considering include fresh capital injection, cash dividend payout reduction, as well as a return of the cash dividend the government received from Bank of Taiwan and Land Bank of Taiwan in 2014.

EXHIBIT 1

Taiwan’s Minimum Bank Capital Adequacy Requirement Complies with Basel III Recommendations

2013 2014 2015 2016 2017 2018 2019

Total Capital Adequacy Ratio

8.0% 8.0% 8.0% 8.625% 9.25% 9.875% 10.5%

Tier 1 Capital Ratio 4.5% 5.5% 6.0% 6.625% 7.25% 7.875% 8.5%

Common Equity Tier 1 Capital Ratio

3.5% 4.0% 4.5% 5.125% 5.75% 6.375% 7.0%

Source: Taiwan’s Financial Supervisory Commission

As shown in Exhibit 2, the six rated state-controlled banks currently report Tier 1 capital ratios between 6.8% and 9.5%, which already meet the 6% threshold for 2015. However, we estimate that, based on the growth trend in risk-weighted assets and tangible common equity seen between 2012 and first-half 2014, the Bank of Taiwan and Chang Hwa Commercial Bank (A3 stable, D+/ba1 stable) could both see their capital ratios fall below the prevailing regulatory threshold in 2017 and 2018. For both banks, the growth rate of their tangible common equity is less than that of risk weighted assets, as shown in the bottom two rows of the exhibit.

The improvement in capital is particularly important to Bank of Taiwan and Land Bank of Taiwan. Both banks have weak internal capital generation owing to their low profitability and generous cash dividend payouts as a result of the greater policy roles they play. The two banks’ earnings can contribute only 10-30 basis points (bp) annually to their risk-weighted capital ratios (see Exhibit 2). We estimate that if the government were to return the cash dividends it received from these two banks in 2014, the maximum returnable amounts would be TWD3.6 billion for Bank of Taiwan and TWD3.8 billion for Land Bank of Taiwan, which would improve their capital ratios by 18 bp and 25 bp, respectively.

6 The ratings shown are the banks deposit rating, its standalone bank financial strength rating/baseline credit assessment and the

corresponding rating outlooks.

Ginger Kao Analyst +852.3758.1317 ginger.kao@moodys.com

NEWS & ANALYSIS Credit implications of current events

23 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

EXHIBIT 2

Capital Ratios of Rated State-Controlled Banks, as of June 2014

Bank of Taiwan

Land Bank of Taiwan

Mega International Commercial

Bank

First Commercial

Bank

Hua Nan Commercial

Bank

Chang Hwa Commercial

Bank

Bank Financial Strength Rating/Baseline Credit Assessment

C-/baa2 stable

D/ba2 stable

C-/baa2 stable

D+/ba1 stable

D+/ba1 stable

D+/ba1 stable

Deposit Rating Aa3 stable Aa3 stable A1 stable A3 stable A3 stable A3 stable

Total Capital Ratio 11.14% 11.06% 12.05% 11.20% 12.31% 11.29%

Tier 1 Capital Ratio 8.68% 6.84% 9.53% 8.75% 8.90% 8.44%

Common Equity Tier 1 Capital Ratio

8.68% 6.84% 9.53% 8.75% 8.88% 8.18%

Bank's Aggregate Loan Growth 2011-2014

7.0% 4.3% 19.0% 10.8% 13.1% 12.0%

Industry's Aggregate Loan Growth 2011-2014

15.9%

Average Net income / Average Risk Weighted Assets (Annualized, 2011-9 Months 2014) (a)

0.4% 0.6% 1.1% 0.8% 0.8% 0.9%

Average Cash Dividend Payout (2011-2014) (b)

73% 50% 59% 19% 27% 25%

Internal Capital Retention (a) * (1 - (b))

0.1% 0.3% 0.4% 0.7% 0.6% 0.7%

Annualize Growth Rate of Tangible Common Equity (2012-1H2014)

1.3% 7.6% 10.0% 8.5% 4.9% 5.6%

Annualized Growth Rate of Risk Weighted Assets (2012-1H2014)

8.2% 4.0% 10.0% 6.1% 7.0% 8.2%

Sources: Moody’s Banking Financial Metrics and bank reports

The capital enhancement would also help Land Bank of Taiwan and Bank of Taiwan pursue their expansion strategy. While their domestic peers saw cumulative two-year loan growth of 16% between 2011 and 2014, Land Bank of Taiwan’s loan book grew by just 4% and Bank of Taiwan’s grew by 7% over the same period.

NEWS & ANALYSIS Credit implications of current events

24 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Insurers

American Financial Group Review of Long-Term Care Block Shows Margin Deterioration Last Tuesday, American Financial Group, Inc. (Baa1 negative) announced the results of a review of the adequacy of reserves backing its runoff long-term care (LTC) block residing in two of its life insurance subsidiaries. The review found that AFG had sufficient GAAP margin on its LTC block to avoid taking a charge. Although the outcome on the surface appears to be credit positive, the margin on the business declined, and the deterioration on the LTC business is largely offset by the assumption that regulators will approve the company’s premium rate increases. This increased need for future rate increases is credit negative.

AFG’s review of the major actuarial assumptions for its run-off LTC business concluded with the GAAP margin decreasing by $53 million to just $11 million in 2014. Insurers estimate margins, or the redundancy of reserves, using their best estimate assumptions for GAAP active life LTC reserves. Only after the margin becomes negative does a company take a reserve charge. As shown in the exhibit below, the decrease in margin was primarily driven by higher-than-expected claim costs and the drop in interest rates in 2014, offset by an assumption of future premium rate increases, including actual rate increases approved in 2014.

American Financial Group Attributions of Changes in Long-Term Care Net Loss Recognition Margin in 2014

$ Millions

Net Loss Recognition Margin at 31 December 2013 $64

Changes in margin attributed to each updated assumption:

Claim Costs ($50)

Rate Increases $40

Reinvestment rates ($34)

Expenses ($11)

Other $2

Net Loss Recognition Margin at 31 December 2014 $11

Source: American Financial Group, Inc.

Although premium rate increases and benefit reductions (as an alternative with policyholder acceptance) are contractually permitted on a block of business if they are actuarially justified, they still require the approval of an insurance regulator. In general, premiums cannot be increased because of low interest rates, but are permitted to offset poor morbidity.

Despite AFG’s past success in gaining approval for rate increases, the reliance on regulators to continue to approve rate increases to offset adverse experience is one important reason why LTC is a less creditworthy product. Companies try their best to project the level of rate increases that will be approved by regulators. Based on past experience in receiving rate increases, companies often “haircut” their actuarially justified rate increase expectations, depending on the state. However, the receptiveness of insurance regulators to rate increases may change over time, potentially forcing companies to absorb more losses than they had expected because of LTC mispricing.

Scott Robinson Senior Vice President +1.212.553.3746 scott.robinson@moodys.com

Vincent Del Gatto Associate Analyst +1.212.553.7749 vincent.delgatto@moodys.com

NEWS & ANALYSIS Credit implications of current events

25 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Although AFG’s margin declined, it did not take a charge on the LTC block in the fourth quarter. Despite suffering a $10 million net loss in 2014 on its run-off LTC and life segment, AFG as a whole reported net earnings of $452 million. Hence, we fully expect that AFG will be able to support its LTC block.

LTC is a difficult product to price, and historically has been challenging for those life insurance companies offering it. AFG was not the only company whose LTC came under pressure during the fourth quarter. On 4 February, UNUM Group (Baa2 stable), which has no GAAP margins on its LTC business, took a $698 million pre-tax reserve charge related to its reserves on its legacy LTC block. This charge would have been higher without the assumption of future rate increases.

As more companies report the results of their LTC margin reviews, along with their fourth-quarter earnings, we expect that future premium rate increase assumptions will lessen the negative effect of adverse morbidity or other actuarial assumptions. When Genworth Financial (unrated), the holding company for Genworth Holdings, Inc. (Baa3 review for downgrade), reports earnings 11 February, we expect the company to report the results of an active life LTC margin review. As is the case with the other insurers conducting LTC margin reviews, understanding rate increase assumptions will be an important part of our analysis.

NEWS & ANALYSIS Credit implications of current events

26 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

United Arab Emirate’s New Insurance Regulations Are Credit Positive Last Monday, the Insurance Authority of the United Arab Emirates (UAE) issued new regulations for the financial, technical, investment and accounting operations of traditional and Islamic takaful insurers operating in the UAE. These new regulations are credit positive for all UAE insurers because they will strengthen several credit characteristics of insurers, including capital, asset quality (by reducing risk-taking) and reserve adequacy.

The regulations comprise sections pertaining to financial, technical, investment and accounting aspects of insurers, with each section allowing insurers grace periods of one to three years for compliance. Insurers that will benefit from these new regulations include Al-Ain Ahlia Insurance Co. (financial strength A3 stable) and Al Fujairah National Insurance Company P.S.C. (Baa2 stable) and larger insurers such as Oman Insurance Company P.S.C. (unrated) and Abu Dhabi National Insurance Company P.S.C. (unrated).

The new financial regulations aim to ensure the stability and sustainability of the insurance industry by improving the solvency of the 60 insurance companies (26 of which are foreign insurers) operating in the UAE. The market’s direct premiums grew at a compound annual growth rate of 16% between 2006 and 2013, reaching more than AED29 billion ($8 billion) in 2013, although that rate has slowed recently (see Exhibit 1).

EXHIBIT 1

UAE Insurers’ Premium Growth Rate

Source: Swiss Re Sigma reports 2006-13

Minimum capital requirements remain AED100 million for insurers and AED250 million for reinsurers. However, the financial regulations also now require insurers to meet minimum guarantee fund and solvency capital requirements that are company-specific calculations incorporating a more economic view of the risks borne by insurers, including underwriting, market, liquidity, credit and operational risk.

The financial regulations also set out specific requirements on investments, including maximum limits on individual asset classes and single-name counterparty limits (see Exhibit 2). These changes will improve insurers’ asset quality, with new limits on risky asset classes and concentration risk. However, we note that UAE insurers would still be able to invest up to 80% of their investments in real estate and equities, limiting the potential improvements in asset quality. We consider asset quality to be the key credit weakness for many UAE insurers’ and these steps are a positive development.

24.8%

14.8%

9.4% 9.5% 9.9%

0%

5%

10%

15%

20%

25%

30%

$0

$1

$2

$3

$4

$5

$6

$7

$8

$9

2006 2007 2008 2009 2010 2011 2012 2013

$ Bi

llion

s

Isurance Premiums - left axis Three Year CAGR - right axis

Mohammed Ali Londe Analyst +971.4.237.9503 mohammed.londe@moodys.com

NEWS & ANALYSIS Credit implications of current events

27 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

EXHIBIT 2

UAE Insurers’ Distribution and Allocation of Invested Assets

Asset Type Maximum Aggregate

Exposure Limit Sub-limit for Exposure to a

Single Counterparty

Real Estate 30% None

Equity Instruments in UAE Listed and Unlisted Companies 30% 10%

Equity Instruments in non-UAE Listed and Unlisted Companies 20% 10%

Government Securities and Instruments Issued by the UAE or One of the Emirates in the UAE

100% 25%

Government Securities and Instruments from A-rated Countries 80% 25%

Cash and Deposits with Banks in the UAE 5% minimum 50%

Insurer-Issued Loans Secured by Life Policies (Excluding Unit-Linked Funds-Related Policies)

30% None

Financial Derivatives or Complex Financial Instruments Solely Used for Hedging Purposes

1% None

Secured Loans, Deposits with Non-banks, Bonds and Other Debt with Strong or Very Strong Ratings from Independent Rating Agencies

30% 20%

Other Invested Assets 10% None

Source: UAE Insurance Authority

We also expect that a requirement for actuarial-led reserve setting, monitoring and reporting will enhance reserve adequacy and improve underwriting profitability by encouraging insurers to set premiums in line with underwriting risks and become increasingly selective about the risks they underwrite. These enhanced regulations and implied additional costs of monitoring, managing and reporting may also encourage consolidation among some smaller market players, potentially reducing competitive pressures and aiding market stability.

NEWS & ANALYSIS Credit implications of current events

28 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Asset Managers

State Street ETF Fee Reductions Are Credit Negative, Pointing to a More Competitive Market Last Tuesday State Street Global Advisors (SSGA), the asset management business of State Street Corporation (A1 stable), announced that it lowered management fees on 41 of its 146 exchange-traded funds (ETFs). The fee reductions are credit negative for SSGA and other ETF providers, especially BlackRock, Inc. (A1stable), The Charles Schwab Corporation (A2 stable), and Vanguard (unrated), because they point to increasing commoditization of ETFs.

The median decline of the 41 ETFs’ fee rates was 15 basis points (bp), to 35 bp from 50 bp. Exhibit 1 shows the decline in expense ratios by fund categories, which shows retrenchment averaging 23% on an asset-weighted basis. Four fixed-income ETFs will charge only 10 bp under the new pricing schedule.

EXHIBIT 1

State Street Global Advisors February 2015 ETF Fee Reductions Competitive categories declined the most

Weighted Average Gross Expense Ratio

Fund Category

ETF Assets $ Millions Previous New

Percentage Fee Decline

Number of Funds

US Equity $2,301 0.23% 0.15% -34% 11

Sector Equity $584 0.50% 0.37% -25% 11

International Equity $2,122 0.58% 0.46% -21% 10

Fixed Income $6,938 0.16% 0.13% -19% 9

Total or Average $11,944 0.27% 0.21% -23% 41

Note: Valuations and weighted averages calculated as of 5 February 2015.

Sources: etf.com and Moody’s Investors Service

The estimated $7 million reduction in gross fee revenue stemming from the decline in expense ratios is not in and of itself material to SSGA, but we note that the greatest percentage decline in pricing occurred in the fund category most sensitive to competition: US equities. This sector includes broad market and style-oriented funds. The fee cuts here signal that SSGA will defend its “SPDR”-branded ETF franchise from other low-cost competitors.

As shown in Exhibit 2, three large ETF competitors dominate the $2.8 trillion global market, and SSGA holds the second-largest market share, with 17%. The big three have gained scale by offering passively managed funds that provide broad exposure to entire securities markets. The largest fund sold by the big three is SSGA’s SPDR S&P 500 ETF, which holds $188 billion, and charges 9 bp. It is followed by BlackRock’s iShares Core S&P 500 ETF ($69 billion, charging 7 bp), and Vanguard’s Total Stock Market ETF ($52 billion, charging 5 bp).

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

NEWS & ANALYSIS Credit implications of current events

29 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

EXHIBIT 2

Large Competitors Dominate the $2.8 Trillion Global ETF Market

Source: BlackRock, data as of 31 December 2014

Competition at this scale and cost is driving the commoditization of index ETF products. Many investors assert that the price advantage of cheap, passively managed ETFs outweighs any performance advantage that traditional, actively managed funds can achieve. As investors have become accustomed to low pricing, the ETF business is experiencing higher elasticity of demand than other areas of the fund business. Increasingly, within a given fund category, pricing, rather than relative performance, drives sales.

In Exhibit 3 we present the weighted average expense ratios of the big three ETF providers across generic fund categories, and Schwab’s ETFs. Schwab, with just $27 billion, has undertaken to enter the ETF market with very low-priced funds, undercutting Vanguard. BlackRock’s iShares and SSGA’s SPDR families’ richer pricing is partially a function of their more extensive product offerings. Niche-targeted funds often carry higher prices, but the two largest providers are under pressure to match their low-cost competitors – and notably, SSGA’s newly priced fixed-income funds match Vanguard’s 10-bp rate.

EXHIBIT 3

Comparison of Expense Ratios Among Low-Cost ETF Providers

iShares SPDR Vanguard Schwab

US Equity 0.18% 0.12% 0.08% 0.07%

Sector Equity 0.47% 0.18% 0.14%

International Equity 0.47% 0.40% 0.13% 0.13%

Fixed Income 0.23% 0.33% 0.10% 0.07%

Assets Included in the Analysis ($ Billions) $739 $388 $391 $27

Note: The weighted average expense-ratio calculations include each ETF providers’ funds in the respective management categories, based on US market information.

Sources: etf.com and Moody’s Investors Service

Competition in the ETF market is also driving product diversification. Since smaller competitors cannot profitably enter the big three providers’ market-index business, differentiated “factor oriented” indices have been commercialized. ETFs designed to track these new indices provide exposure to subsets of the securities markets that capture common behavior, such as high momentum or low volatility equities or long or short duration bonds. These products are priced more like sector ETFs, receiving fees of 30 bp-60 bp.

iShares37.2%

State Street17.3%

Vanguard16.0%

Invesco PowerShares3.6%

Deutsche Asset & Wealth Mgmt2.1%

Lyxor / Soc Gen1.7%

Nomura Group1.6%

WisdomTree Investments1.4%

First Trust Portfolios1.2%

Guggenheim1.0%

204 Others16.7%

NEWS & ANALYSIS Credit implications of current events

30 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

SSGA also markets a number of these factor-oriented ETFs, such as SPDR Russell 2000 Low Volatility ETF, and the SPDR S&P 1500 Momentum Tilt ETF. These funds were among those whose fees were cut, to just 12 bp, and they are now the price leaders in their respective categories. These fee cuts provide evidence that even the most innovative area of the ETF market is also experiencing increased price competition and commoditization.

NEWS & ANALYSIS Credit implications of current events

31 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Sovereigns

Mozambique Floods Pressure the Sovereign’s Finances Last Monday, the Government of Mozambique (B1 stable) National Institute of Disaster Management confirmed that floods in the northern and central parts of the country have killed 159 people and affected nearly 160,000 in the past month. Beyond the humanitarian crisis, lost agricultural output and severe damage to infrastructure in the hardest-hit province of Zambézia will negatively affect GDP in 2015. We expect flood-related damages and rebuilding to shave 0.2%-0.5% from our 2015 forecast GDP of 7.5%, which will further pressure the government’s fiscal position, exacerbating its upward debt trajectory in recent years.

Continued rainfall has caused severe damage to the Zambezi and Licungo river basin regions’ infrastructure, especially in the Zambézia province to the north where almost 20% of the country’s population resides. Damage to roads and bridges has cut access by land to almost 70% of Zambézia province. Downed power lines and electricity towers have left several parts of northern Mozambique without power. Water and sanitation facilities, regional telecommunication systems as well as thousands of houses are damaged.

Because insurance penetration is relatively underdeveloped in this part of the world, we expect a sizable portion of the damage bill for public infrastructure to fall on the government. Damage to uninsured private property will directly reduce wealth levels in a country where per capita income -- at $1,046 in Purchasing Power Parity terms -- is already among the lowest of Moody’s-rated sovereigns.

With further storms forecast for coming days and flood waters unlikely to subside until the end of the rainy season in March, GDP growth in 2015 will be reduced by diminished agricultural output, diminished household wealth, and as a result, diminished household consumption. Mozambique’s agriculture sector alone accounts for roughly 30% of GDP and employs nearly 80% of the labour force. However, the slowdown is unlikely to be as severe as in 2000, when severe floods slowed real GDP growth to 1.5% from an average growth rate above 10% for the three years prior.

Investment in extractive industry in this region will also likely be delayed, compounding the effect of falling commodity prices on capital expenditure. Meanwhile, the floods will delay further development in the recently established Special Economic Zone in Mocuba district, Zambézia, which would have boosted investment in the region and will likely dampen 2016 GDP.

Slower growth and, to a lesser extent, reconstruction pressures on government expenditures mean the government’s deficit will likely exceed the 7.5% of GDP we originally forecast for this year. The government’s debt levels will continue rising: since 2011, general government debt has risen by more than a third and will now likely exceed our forecast of 58.3% of GDP this year as a result of the higher budget deficit and lower GDP growth figure. At this level, Mozambique’s general government indebtedness is high relative to many regional and rating peers.

The Mozambican National Disaster Management Institute estimates that the cost of flood relief operations alone is $126,000 a day, and could easily balloon beyond initial estimates of $9-$11 million in total for crisis response alone. Given the country’s relatively high reliance on aid (nearly a third of the government budget is derived from international donor assistance), we expect the Mozambican government to ask donor countries for additional assistance in the near future. However, even with access to additional funds, Mozambique’s relatively low institutional strength means that efforts to rebuild flood-damaged areas will be slow, and that a positive boost to GDP from reconstruction will be limited.

Lucie Villa Assistant Vice President +1.212.553.1990 lucie.villa@moodys.com

David Kamran Associate Analyst +1.212.553.2109 david.kamran@moodys.com

NEWS & ANALYSIS Credit implications of current events

32 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Sub-sovereigns

Russian Regions Will See Credit-Positive Increase in Central Government Loans Last Monday, the Government of Russia (Baa3 review for downgrade) approved the increase of soft loans to Russian regions under its Anti-Crisis plan. The 35% increase versus 2014 loan amounts is credit positive for the regions because the loans’ very low 0.1% interest rates will enhance the regions’ ability to face widening deficits. Federal loans will increase to RUB310 billion in 2015 from RUB150 billion as originally planned. The increase will enable the regions to mitigate the negative effect of the steep rise, to above 15%, in the cost of market borrowings since 2014, which is shown in Exhibit 1.

EXHIBIT 1

Russian Regional and Local Government Bonds’ Yield-to-Maturity Index

Source: Financial Cbonds Information

As shown in Exhibit 2, the regions with higher refinancing needs in 2015 and/or lower fiscal performance will have the greater need for cheaper soft loans. These regions include Republic of Mordovia (B1 review for downgrade), Republic of Chuvashia (Ba3 review for downgrade), Republic of Komi (Ba3 review for downgrade), Oblast of Belgorod (Ba3 review for downgrade), Oblast of Vologda (B1 review for downgrade) and Krai of Krasnoyarsk (Ba3 review for downgrade). Their higher refinancing needs will lead them to use expensive market borrowings to cover their deficits and refinancing needs.

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

Vladlen Kuznetsov Vice President - Senior Analyst +7.495.228.6060 vladlen.kuznetsov@moodys.com

NEWS & ANALYSIS Credit implications of current events

33 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

EXHIBIT 2

Rated Russian Regions’ Financial and Debt Repayment Position

Notes: All ratings in the exhibit are on review for downgrade. *Preliminary data. **Own source revenues: total revenues minus federal transfers, preliminary data. Sources: Company data and Moody’s Investors Service

Almost half of the soft loans (RUB150 billion) will be used in the repayment of budget loans scheduled for 2015. Taking this together with the increasing combined deficit of Russian regions, which we estimate at more than RUB600 billion in 2015, we expect that the new amount of soft loans will not be sufficient to fully cover deficits or/and refinancing of market borrowings in 2015. State-owned banks, particularly Sberbank (Ba1 review for downgrade, D+/ba1 review for downgrade7), will remain important in mitigating the regions’ refinancing pressure this year, but the new funding will be made available at the market rates. This will force the regions to use expensive market borrowings to cover their deficits and refinancing needs leading to higher interest service costs.

7 The bank ratings shown in this report are Sberbank’s deposit rating, its standalone bank financial strength rating/baseline credit

assessment and the corresponding rating outlooks.

0%5%

10%15%20%25%30%35%

Deficit to Total Revenues (2014)* Direct Debt Repayments (2015)/Own Source Revenues (2014)**

NEWS & ANALYSIS Credit implications of current events

34 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Covered Bonds Swedish Covered Bond Proposal Loosening Eligibility Criteria for Bank Counterparties Is Credit Positive Last Monday, Sweden’s Finansinspektionen, the country’s financial supervisory authority, proposed allowing covered bond programmes with limited exposures to counterparties rated single-A and higher to receive preferential treatment, even though the standard rule under the Capital Requirements Regulation (CRR) requires all covered bond programme counterparties to have a rating of at least double-A. The practical effect of the proposal is that banks that invest in covered bonds with exposure to single-A counterparties can continue to receive preferential treatment in their capital and liquidity requirements with respect to those covered bonds.

This regulatory proposal, if implemented, would be credit positive for Swedish covered bonds that benefit from structural enhancements from single-A-rated counterparties because it would allow these transactions to maintain their current protection against market risks. Without the proposal, these covered bond programmes would face two choices: maintain their preferential treatment by cancelling exposures to single-A-rated entities, but lose the structural enhancements that the removed counterparties provided, or maintain the structural enhancements provided by the no-longer-eligible parties, but lose their preferential treatment under the CRR. The latter scenario increases refinancing risk because demand from bank investors would likely drop sharply.

Allowing single-A-rated counterparties would be credit positive for Swedish covered bonds because a higher number of available swap counterparties would better hedge against market risk than limiting counterparties to double-A and above. When limited to double-A and better, as per standard CRR regulation, only Nordea Bank AB (Aa3 negative, C/a3 stable8) and Svenska Handelsbanken AB (Aa3 negative, C/a3 stable) would be eligible swap counterparties with sizable Swedish krona currency swap offerings among Nordic banks.

Having more eligible counterparties benefits covered bond programmes that rely on a large euro-denominated investor base and hedge resulting currency mismatches to their krona-denominated assets with swap counterparties. Swedish programmes that would benefit include Lansforsakringar Hypothek Covered Bonds (Aaa), SEB AB – Covered Bonds (Aaa), Swedbank Mortgage AB Covered Bond Programme (Aaa) and The Swedish Covered Bond Corporation (Aaa).

Most Swedish covered bond programmes use swap arrangements with swap counterparties rated single-A. To maintain preferential treatment, transactions would have potentially lost the benefit of structural enhancements that single-A-rated counterparties provide. Expensive restructurings would provide little economic benefit to the covered bond programme. Also, limiting eligible swap counterparties to counterparties rated double-A and higher would mean that in the event of a swap counterparty default it would be more difficult to find a suitable replacement counterparty, exposing the programme to large market risks.

If covered bonds lose their preferential treatment, the programmes would face higher refinancing risk and the bonds’ liquidity would decrease. Bank investors hold around 40% of publicly placed covered bonds and losing preferential treatment in the liquidity coverage and capital adequacy calculation would result in higher capital costs for bank investors holding such bonds. This, in turn, would increase the risk that in the event of an issuer insolvency, the realizable value of the cover pool would be less than what was required to repay investors. 8 The bank ratings shown in this report are the bank’s deposit rating, its standalone bank financial strength rating/baseline credit

assessment and the corresponding rating outlooks.

Martin Rast Vice President - Senior Credit Officer +44.20.7772.8676 martin.rast@moodys.com

Alexander Zeidler Vice President - Senior Analyst +44.20.7772.8713 alexander.zeidler@moodys.com

RATING CHANGES Significant rating actions taken the week ending 6 February 2015

35 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Corporates

3M Company Downgrade 18 Aug ‘14 3 Feb ‘15

Senior Unsecured Rating Aa2 Aa3

Short-Term Issuer Rating P-1 P-1

Outlook Negative Negative

The downgrade reflects the fact that the company intends to materially increase the amount of debt in its capital structure, which will lower its cost of capital but progressively elevate financial risk for creditors. In 2015, it anticipates adding $3.0 billion-$5.0 billion of debt, which is a 40% or higher increase from year-end 2014 levels of roughly $6.8 billion.

Anadarko Petroleum Corporation Upgrade 4 Apr ‘14 2 Feb ‘15

Senior Unsecured Rating Baa3 Baa2

Short-Term Issuer Rating P-2

Outlook Positive Stable

The upgrade reflects the completion of the Tronox litigation settlement, which had been a substantial restraint on Anadarko's ratings, and continued strong operating momentum. Anadarko's low cost structure and capital flexibility will enable it to weather this low oil price environment in a way consistent with its Baa2 exploration and production company peers. In our action, we also assigned a Prime - 2 rating to Anadarko’s new commercial paper program.

Arch Coal, Inc. Downgrade 12 Dec ‘13 2 Feb ‘15

Corporate Family Rating B3 Caa1

Outlook Negative Negative

The downgrade reflects deteriorating debt protection metrics and high leverage (23x as measured by the debt/EBITDA ratio for the 12 months ended 30 September 2014), which we expect to continue given weak metallurgical coal market conditions. Metallurgical coal prices are unlikely to recover within the next 18 months to a level that would contribute to a meaningful turnaround in performance.

RATING CHANGES Significant rating actions taken the week ending 6 February 2015

36 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

AT&T Inc. Downgrade 19 May ‘14 2 Feb ‘15

Senior Unsecured Rating A3 Baa1

Short-Term Issuer Rating P-2 P-2

Outlook Review for Downgrade Negative

The downgrade reflects AT&T's higher leverage following its $18.2 billion purchase of AWS-3 wireless spectrum licenses. It also reflects margin pressure and top-line weakness facing the company’s core US wireless business.

Dell Inc. Upgrade 11 Sep ‘13 4 Feb ‘15

Corporate Family Rating Ba3 Ba2

Outlook Stable Stable

The upgrade reflects our expectation that Dell will remain committed to sizable debt reduction, with gross reported debt falling to below $13.5 billion by the end of fiscal year ending January 2016 from nearly $18.0 billion as of the closing date of its leveraged buyout in late October 2013.

ServiceMaster Company, LLC Upgrade 26 Jun ‘14 2 Feb ‘15

Corporate Family Rating B3 B2

Outlook Stable Positive

The upgrade reflects our expectation for at least 5% revenue growth and expanding EBITA margins above 20% that will enable reductions in leverage. We expect that debt to EBITDA will decline below 5x by the end of 2015.

Siemens Aktiengesellschaft Downgrade 14 May ‘13 3 Feb ‘15

Long-Term Issuer Rating Aa3 A1

Short-Term Issuer Rating P-1 P-1

Outlook Negative Stable

The downgrade reflects the increasing level of competition throughout all of Siemens' business segments that will continue to challenge the group's operating performance, despite the benefits of planned restructuring actions and portfolio reshuffling measures. The downgrade also reflects Siemens' exposure to currently weak European markets and major cyclical headwinds in its core power generation segment.

RATING CHANGES Significant rating actions taken the week ending 6 February 2015

37 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Thermo Fisher Scientific Inc. Outlook Change 4 Feb ‘14 6 Feb ‘15

Senior Unsecured Rating Baa3 Baa3

Short-Term Issuer Rating P-3 P-3

Outlook Stable Positive

The outlook change reflects reduced credit risk following (1) the successful integration of Life Technologies, which Thermo Fisher Scientific Inc. acquired in February 2014; and (2) debt repayment that has reduced financial leverage. We expect that, following the repayment of upcoming debt maturities in the first half of 2015, adjusted debt to EBITDA will decline to just under 3.5x, down substantially from 4.8x at the time of the acquisition.

RATING CHANGES Significant rating actions taken the week ending 6 February 2015

38 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Infrastructure

Bristol Water plc. Outlook Change 23 March ‘11 6 Feb ‘15

Secured Guaranteed RPI-Linked Bonds Baa1 Baa1

Outlook Stable Negative

The outlook change reflects risk that Bristol Water's financial profile will weaken significantly following the very challenging final price determination for the next five-year regulatory period, which was published in December 2014.

Capital Hospitals plc. Upgrade 30 Jan ‘14 4 Feb ‘15

Index-linked Guaranteed Secured Bonds Baa2 Baa1

Index-linked Guaranteed Secured Loans Baa2 Baa1

Outlook Positive Positive

The upgrade reflects the significant progress and de-risking of Capital Hospitals’ construction works, which are now approximately 98% complete by contract value and include the successful delivery of Phases 1 and 2 of Barts and the Royal London.

Lancer Finance Company (SPV) Limited, Schahin II Finance Company (SPV) Limited, SBM Baleia Azul, SII/S.a.r.l., QGOG Atlantic/Alaskan Rigs Limited, Odebrecht Drilling Norbe VIII/IX Ltd. and Odebrecht Offshore Drilling Finance Limited Downgraded

Downgrade 4 Feb ‘15

We downgraded the ratings on the senior secured notes of the above-mentioned entities to Ba1 from Baa3 on the global scale, maintaining them under review for downgrade. The downgrade reflects the increased liquidity risk associated with the deteriorating credit profile of Petroleo Brasileiro S.A., the sole contractual off-taker and revenue source to service the outstanding debt issued by these entities.

RATING CHANGES Significant rating actions taken the week ending 6 February 2015

39 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Financial Institutions

Bank of New York Mellon (Luxembourg) SA, Italian Branch Upgrade 31 Jan ‘14 3 Feb ‘15

Long-Term Domestic and Foreign Currency Bank Deposit Ratings A2 Aa2

Long-Term Domestic and Foreign Issuer Ratings A2 Aa2

Outlook Stable Stable

The upgrade follows the recent increase in our Italian country ceiling for local and foreign currency deposits and bonds, to Aa2 from A2.

GFI Group Inc. Review for Downgrade 18 Jan ‘13 4 Feb ‘15

Long-Term Issuer Rating B1 B1

Senior Unsecured B1 B1

Outlook Stable Review for Downgrade

The review follows the termination of the Chicago Mercantile Exchange's (Aa3 stable) agreement to buy the company. It also reflects the increased uncertainty about GFI's strategic direction. A prolonged lack of strategic clarity could lead to an erosion of franchise value resulting from potential customer and employee defections.

Protective Life Corporation Upgrade 4 Jun ‘14 2 Feb ‘15

Senior Unsecured Baa2 Baa1

Outlook Review for Upgrade Stable

The upgrade follows the closing of Dai-ichi Life Insurance Company's acquisition of all the outstanding stock of Protective for $5.7 billion of cash on 1 February 2015. It also reflects the fact that Dai-ichi is a much higher rated company and our expectation that it would likely provide some level of support to Protective's creditors to protect its investment.

Towergate Holdings II Limited and Towergate Finance Plc Downgraded Downgrade 3 Feb ‘15

We downgraded Towergate Holdings II Limited’s corporate family rating to Ca from Caa3 and the senior unsecured notes issued by Towergate Finance plc to C from Ca. The rating actions follow Towergate's announcement that it has entered into a binding agreement with its senior secured bondholders to implement a financial restructuring and recapitalization of the group. Specifically, the downgrade of the corporate family rating reflects our view of the corporate family-level expected loss during the exchange process, while the downgrade of the senior unsecured debt reflects our expectation that, as part of the announced exchange, senior unsecured bondholders are unlikely to make a meaningful recovery on their principal investment.

RATING CHANGES Significant rating actions taken the week ending 6 February 2015

40 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Sovereigns

Greece Review for Downgrade 1 Aug ‘14 6 Feb ‘15

Gov Bond Rating Caa1 Caa1

Outlook Stable Review for Downgrade

The Greek government's ongoing negotiations with its official creditors over the terms of the country's support program could have negative implications for Greece's ability to meet its funding and liquidity needs. It could also increase the probability of the government's default on its marketable securities. Our review for downgrade will assess the Greek government's ability to secure its medium-term financing capability through an extension or amendment to its current support program with the European Commission, which would likely also allow Greek banks to maintain access to the European Central Bank's financing facilities

US Public Finance

AvalonBay Communities, Inc. Outlook Change 20 Mar ‘08 4 Feb ‘15

Revenue Bonds Baa1 Baa1

Outlook Stable Positive

The outlook change reflects the improvement in AvalonBay Communities, Inc.’s leverage metrics and fixed charge coverage. We expect that the REIT will continue to conservatively manage its strong balance sheet and maintain good liquidity while reducing its secured debt levels and development exposure.

Structured Finance

Rating Upgrades Made on JPMCC 2005-LDP2 On 5 February, we upgraded the ratings of six classes and affirmed the ratings of eight classes of J.P. Morgan Chase Commercial Mortgage Securities Corporation, Series 2005-LDP2. The actions, which affect approximately $1.46 billion of structured securities, reflect an increase in credit support since our last review resulting from pay-downs and amortization.

RESEARCH HIGHLIGHTS Notable research published the week ending 6 February 2015

41 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Corporates

Global Pharmaceuticals: Pipeline Quality Improves But Patent Exposures Edge Higher Pipeline quality has somewhat improved since our last snapshot, published in May 2013. Four companies (Eli Lilly, Amgen, Merck and AstraZeneca) have stronger pipelines, with AstraZeneca showing the largest improvement. Biogen Idec and Gilead have weaker pipelines, primarily because both companies have already launched the high-profile drugs detailed in our last report. However, five companies (Novo Nordisk, Amgen, Merck, Pfizer and Eli Lilly) now have higher exposures to upcoming patent expirations. In most of these cases, the erosion relates to biotech products that are now closer to the possibility of biosimilar competition.

UK Non-Food Retailers Avoid Grocer-Style Turmoil As Market Dynamics Are Different We expect that the performance of non-food retailers will remain more stable than that of food retailers because we do not expect the same price war as we are currently seeing in the grocery market. The impact of a newcomer on any one retailer or group of non-food retailers is less dramatic because non-food retailers focus on different market segments with different value propositions.

Tesco plc Investor Roundtable Q&A Highlights The stable outlook on Tesco plc reflects the company’s commitments and plans, as well as its steps toward some deleveraging. Tesco's announcement of comprehensive restructuring measures is a positive step and could well provide a starting point for its recovery, but this recovery will take time. The company also has a strong liquidity profile and monetizable assets, which will provide financial flexibility as Tesco works to restructure its business.

US Telecommunications and Cable Industry: FCC Chairman’s Title II Proposal Opens Pandora’s Box for Broadband Providers FCC Chairman Tom Wheeler recommends regulating broadband under Title II, which would subject internet service to more substantial government oversight. The wireless broadband business model continues to evolve, so assessing the impact on wireless providers is difficult. However, a greater regulatory burden could affect certain pricing plans, and will certainly not help as wireless revenue growth slows and operators look for ways to increase it.

Chinese Ports: Lingering Pressure from Overcapacity But Major Coastal Ports Are Resilient Chinese ports have witnessed slowing throughput growth since 2011, on the back of China's economic rebalancing and weak global economic conditions. At the same time, the government’s stimulus program has led to vigorous infrastructure investment, including in ports. The slowly recovering global economy and China's moderating economy, along with new capacity additions, will lead to lingering overcapacity in China’s port sector in the next two to three years.

2015 Asia Outlook: The View from Hong Kong and Singapore Despite the recent oil price collapse, rising geopolitical risk across the globe and the prospect of interest rate normalization in the US, China’s growth outlook continues to dominate market concerns. The country’s slowdown is still the largest threat to Asia's regional economy. In addition, prolonged weakness in the Chinese property market is the most likely trigger of a downside growth shock on Mainland China.

RESEARCH HIGHLIGHTS Notable research published the week ending 6 February 2015

42 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Infrastructure

Oglethorpe Power Nuclear Project Delay Is Credit Negative; No Change to Rating or Outlook The latest delays and cost increases associated with the new Vogtle nuclear construction project are credit negative, but do not change Oglethorpe Power Corporation’s Baa1 senior secured rating or stable rating outlook. Even with the higher costs, the scale and scope of the project remains manageable for an electric generation-only cooperative the size of Oglethorpe, which is among the largest of the electric G&T cooperatives in the US. In addition, Oglethorpe’s partnering with investment-grade in-state local utility partners, which have a combined 70% ownership interest in the Vogtle project, diversifies risk and limits Oglethorpe’s financial exposure to a significant degree.

Long Island Power Authority: Three Year Rate Plan Proposal Is Credit Positive On 30 January, the Long Island Power Authority and its operator PSEG Long Island submitted a three-year 2016-18 rate plan for review by the Long Island office of the New York State Department of Public Service. The plan’s objectives of continued improvement in reliability and overall customer satisfaction are supportive of credit quality; we believe that with clear visibility into the benefits of system investments, rate payers and regulators are more likely to accept the need for rate increases to pay for them.

EMEA and US Toll Roads – Low Oil Prices are Credit Positive, But Effect Is Muted by Weak Economy A 58% fall in the Brent crude oil price since June 2014 will have only a limited positive impact on European toll road operators, as its traffic-boosting effect will be dampened by the region’s lackluster economic prospects. The decline in world oil prices has also been partly offset in Europe by high fuel taxes and a drop in the euro's value against the US dollar, which have kept pump prices in the region comparatively high. We expect that the low oil price will spur relatively more traffic to toll roads in the US, where fuel taxes are lower and economic prospects are brighter.

RESEARCH HIGHLIGHTS Notable research published the week ending 6 February 2015

43 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Financial Institutions

PRA Consultation on Additional Capital Is Credit Positive for UK Banks In January, the UK’s Prudential Regulation Authority published its long awaited consultation paper on modifications to how it assesses additional capital under Pillar 2 (Pillar 2A and 2B) of the European Union's Capital Requirements Directive IV. We view the changes, which include additional capital buffers, to the original framework as positive for UK banks and building societies as it improves the resilience of the sector. While the overall scope and purpose of Pillar 2 is largely unchanged, focusing on risk not captured or not fully captured under Pillar 1, the consultation paper includes a number of important modifications to the Pillar 2 framework.

Dubai World's Second Debt Restructuring is Credit Positive for the UAE Banking System and Emirates NBD On 12 January, state-owned conglomerate Dubai World Group (DWG, unrated) reached an agreement with a majority of its creditors on a second restructuring of $14.6 billion in outstanding debt. The new terms of the restructuring are credit positive for the exposed banks, as they considerably reduce the risks that remained following the first distressed restructuring in 2011. While these risks led us to consider the related loans as impaired, we now view the loans as viable and, as a result, will reclassify the DWG debt as 'performing' for the purposes of our problem loan metrics.

German Insurance: Life Outlook Remains Negative as Low Interest Rates Weaken the Sector; P&C Is Stable This year will be a pivotal and challenging year for Germany's life insurance industry as insurers have to grapple with lower profitability on the back of record-low interest rates and quantitative easing, as well as additional headwinds from regulatory changes. Therefore, we maintain our negative outlook for the life sector. For the property and casualty sector, we expect a slowdown in price increases but stable combined ratios at good levels, maintaining a stable outlook.

UK Life Insurance Industry Scorecard The UK life insurance industry remains financially strong, with the majority of our rated cohort being assigned an insurance financial strength rating of A1 or above. However, we have a negative outlook on the UK life industry, reflecting our expectation of medium- to long-term pressures on cash generation as a result of (1) significant regulatory and political headwinds, and (2) heightened competitive pressure from incumbent insurers and from the wider investment management industry.

Mexican Insurance Industry Outlook Is Stable Mexico’s insurance industry will benefit from a good operating environment and strong economic fundamentals. Industry growth is likely to outpace GDP growth, as it has for several years now, with the life segment benefiting from the expanding middle class and rising disposable incomes, and the property and casualty segment benefiting from new mandatory liability insurance on federal highways and new infrastructure projects.

RESEARCH HIGHLIGHTS Notable research published the week ending 6 February 2015

44 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Sovereigns

Inside Japan (Newsletter) - February 2015 In this edition of Inside Japan, our feature article covers the recent sovereign downgrade of Japan and provides a useful wrap-up of the broad impacts across our corporate, financial institution, structured and sub-sovereign sectors. Also in this edition, we highlight our corporate and financial institution outlook and trends for 2015 as well as focus in on the Japanese shipping sector.

Ireland Analysis Ireland’s credit strengths include a flexible, open and wealthy economy, which has finally started to recover strongly. We expect that strong growth performance will continue in the coming years, driven by exports and investment, although the weak banking sector and the still high leverage of the private sector remain constraining factors.

Latin America: Vulnerability to China Growth Slowdown Vary by Sector Latin American sovereigns, banking systems and corporate sectors are to varying degrees vulnerable to the expected growth slowdown in China, both under our central scenario of 7% growth in China in 2015-16 and under a stress scenario of 5.5% growth, which we currently consider unlikely. However, the region’s overall exposure to lower growth in China under either scenario is limited given that Latin American exports to China amounted to only 2% of the region’s GDP in 2013.

International Bank for Reconstruction and Development (World Bank) Analysis Despite a slight deterioration in capitalization metrics in recent years, the IBRD’s financial position remains one of its primary strengths supporting its Aaa rating. The bank’s fundamentals reflect its robust risk management practices and reasonably conservative financial policies. These policies minimize asset/liability mismatch risks and result in strong and stable credit metrics in terms of capital adequacy and liquidity.

RESEARCH HIGHLIGHTS Notable research published the week ending 6 February 2015

45 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Sub-sovereigns

English Housing Associations Proposed New Regulatory Framework Keeps Pace with Sector Risks, a Credit Positive On 30 January, the Homes and Communities Agency, the regulator for the English Housing Associations (HA) sector, outlined its revised regulatory framework due to take effect from 1 April 2015 . The new rules are credit positive as they give more clarity to the standards that HAs must observe, and update the sector's regulatory architecture to take account of emerging risks – a key factor in our ratings analysis. As HAs expand their activities beyond traditional social housing lettings, and as their structure becomes more complex, a robust regulatory framework capable of reducing associated risks is an important credit factor.

US Public Finance

Top Providers of Credit/Liquidity Facilities Scale Back Participation in VRDB market Banks committed nearly $18 billion of credit and liquidity support for our rated municipal variable rate demand bonds and commercial paper transactions in the fourth quarter of 2014, down 35% from the third quarter. Among the top three provider sin the previous quarter, support dropped by a combined 42%.

Construction Ahead: US Local Governments to Increase Capital Spending by 2016-17 By 2016-17, US cities, counties and school districts will increase investment in infrastructure after years of deferred maintenance. Capital spending controls have helped local governments maintain financial balance during the recession and subsequent recovery, but the condition of capital assets has suffered from a lack of investment. This trend will shift, however, because local governments are poised to put capital investment back on the front burner.

RESEARCH HIGHLIGHTS Notable research published the week ending 6 February 2015

46 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

Structured Finance

UK RMBS Master Trusts: Asset Performance Will Remain Strong in 2015 The performance of UK RMBS master trusts will remain strong in 2015 given favorable economic conditions such as higher GDP growth and lower unemployment levels. Low interest rates will also help ease pressure on more vulnerable households such as first-time buyers and homeowners on lower or single incomes. House price increases will further support strong performance, as it will result in lower severities and enhance borrowers' ability to refinance.

Securitizations Provide Long-Term Funding Option for India Securitization volumes in India increased by 29% year-on-year to INR490 billion in the fiscal year ended 31 March 2014 (FY 2014). However, issuance levels have been volatile in recent years, owing to regulatory and taxation considerations, which have shaped the extent to which originators and investors have been motivated to tap into the securitization market.

Chinese CLOs Similar in Name Only to US CLOs US and Chinese collateralized loan obligations differ substantially in terms of transaction purpose, assets and structure. Although Chinese issuance has grown rapidly since the Chinese securitization market re-opened in 2012, to reach the level of the US leveraged loan market, investors will require a greater understanding of these differences and increased transparency for Chinese collateralized loan obligations.

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

47 MOODY’S CREDIT OUTLOOK 9 FEBRUARY 2015

NEWS & ANALYSIS Corporates 2 » CommScope's Acquisition of TE Connectivity's Network Is

Credit Negative

» American Media's Sale of Women's Lifestyle Magazines Is Credit Positive

» Sky Partners with Telefonica UK to Enter the Mobile Market, a Credit Positive

» Lafarge and Holcim Agree to Sell Assets to CRH, a Credit Positive for Both

» Atlas Copco's SEK7 Billion Share Redemption Is Credit Negative

» Voith's Sale of Industrial Services Division Would Be Credit Positive

» Lenta's Results Show Russian Customers’ Shift to Cheaper Retailers

» Lend Lease Wins AUD2.6 Billion NorthConnex Motorway Project, a Credit Positive

» AVIC International Subsidiary's Equity Placement Is Credit Positive for Parent

Infrastructure 12 » Mexico's Budget Cuts Are Credit Negative for

Infrastructure Companies

Banks 14 » Costa Rica's Monetary Policies Are Credit Positive for Banks

» Bolivia's Annual Lending Quotas Are Credit Negative for Banks

» Banks in Commonwealth of Independent States Feel Pinch as Russian Workers' Remittances Decline

Asset Managers 20 » Canadian Pension Plan Investment Board's Investment in

Northleaf Capital Is Credit Negative

Sub-sovereigns 22 » Chinese Regional and Local Government Revenue Growth

Slows Sharply

MOODYS.COM

Report: 179044

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EDITORS PRODUCTION ASSOCIATE News & Analysis: Elisa Herr and Jay Sherman Sol Vivero Ratings & Research: Robert Cox