MOODYS.COM

11 JULY 2016

NEWS & ANALYSIS Corporates 2 » Newmont's Sale of Stake in Indonesian Mine Is Credit Positive » Packaging Corporation of America's Acquisition of TimBar Is

Credit Positive » Honeywell's Planned Acquisition of Intelligrated Is Credit Positive » WhiteWave Will Benefit from Its Acquisition by Danone » Danone's Acquisition of WhiteWave Is Credit Negative » Astaldi Resets Revolving Credit Facility Covenants, a Credit Positive » Voith's Sale of KUKA Stake Is Credit Positive » Hutchison 3G Italy-Wind Merger Is More Likely with Iliad's

Entry as Italy's Fourth Mobile Operator, a Credit Positive » Hammerson Secures Ownership of Irish Shopping Centre, a

Credit Positive » Anhui Conch Terminates Asset Acquisition Agreement with

West China Cement, a Credit Negative for West China Cement

Infrastructure 14 » NatRural Completes Cable and Telco Assets Sales Near

Carrying Value, a Credit Positive » Regulators Approve Public Service of New Hampshire's

Divestiture of Generation Assets, a Credit Positive » Strengthening Environmental Regulation Is Credit Negative for

KEPCO and Subsidiaries

Banks 19 » US Banks Welcome Jump in Mortgage-Applications » Canadian Regulator's Increased Scrutiny of Residential

Mortgage Lending Is Credit Positive » UK Lowers Banks' Capital Buffer, a Credit Negative » Dutch Banks Will Pay for Alleged Derivative Product Mis-

selling, a Credit Negative » Austrian Banks Will Benefit from Government Plan to Reduce

Bank Levy » Norwegian Banks Will Benefit from Growing Seafood Exports » Ukraine Central Bank Tightens Banks' Credit Risk Supervision, a

Credit Positive » Completion of MKB Bank's Resolution Is Credit Positive » National Bank of Abu Dhabi and First Gulf Bank Proposed

Merger Is Credit Positive

Insurers 35 » Coface's Unexpected Spike in Loss Ratio Is Credit Negative » China's Revised Rules for Insurers’ Infrastructure Investments

Are Credit Negative

Money Market Funds 40 » UK Property Funds Suspend Redemptions, a Credit Negative for

Asset Managers and Insurers

Sovereigns 41 » Angola Suspends Program Talks with the IMF, a Credit Negative » Sierra Leone Gains IMF Approval for $34 Million Disbursement,

a Credit Positive » Korea's Growth to Benefit from Strong Foreign Direct

Investment Commitments

Sub-sovereigns 47 » Carinthia Benefits from Austrian Legislation Paving Way for

Settlement with HETA Creditors

US Public Finance 48 » Kansas Tax Receipts Are Shy of Estimates Yet Again Amid

Modest National Revenue Growth » Mississippi Taps Rainy Day Fund Again, Narrowing Reserve

Position, a Credit Negative » Illinois Schools Benefit from Stopgap Budget; Pennsylvania

School Funding Remains Uncertain

RECENTLY IN CREDIT OUTLOOK

» Articles in Last Monday’s Credit Outlook 53 » Go to Last Monday’s Credit Outlook

NEWS & ANALYSIS Credit implications of current events

2 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Corporates

Newmont’s Sale of Stake in Indonesian Mine Is Credit Positive On 30 June, Newmont Mining Corporation (Baa2 stable) announced that it will sell its 48.5% stake in the company that operates the Batu Hijau copper and gold mine in Indonesia for $920 million, with contingent payments that could reach a further $403 million, a credit positive for Newmont.

Although we expect that leverage will rise initially, the sale of Batu Hijau eliminates substantive ongoing investment requirements. Furthermore, the sale is in line with Newmont’s plan to sell non-core assets, reduce debt and invest in strategic assets, including Long Canyon Phase 1 in the US and the expansion of its Tanami mine in Australia. These projects are scheduled to begin production in 2017, adding as much as 625,000 ounces a year in gold production. The sale also helps decrease political risk for Newmont and eliminates the need to renew its license to export copper concentrate from Indonesia every six months.

Batu Hijau incurred a $315 million pre-tax loss in 2014, during the mine’s Phase 6 stripping program. However, we expect that Newmont’s copper assets will produce better earnings this year and in 2017 than in prior years, given that the stripping program at Batu Hijau was complete, which allows the company access to better ore grades. Although the absence of such copper earnings is likely to hurt performance over the next several quarters, the improved financial position and elimination of further capital investment requirements at Batu Hijau will permanently benefit Newmont. Pro forma for the asset sale and assuming all the proceeds go toward debt reduction, we estimate pro forma leverage of around 2.7x, as measured by debt/EBITDA for the 12 months that ended 31 March, up from the 2.2x that Newmont reported. We estimate Batu Hijau produced around $900 million EBITDA for this same period.

For the 12 months that ended 31 March, Newmont generated approximately $7.8 billion of revenue. In recent years, the company has sought to sell higher-cost, shorter-lived mines and reinvest the proceeds in lower-cost, longer-lived assets. These include the acquisition of the Cripple Creek & Victor mines in Colorado from AngloGold Ashanti in August 2015 and beginning commercial operation in November at the Turf No. 3 Vent Shaft Project in Nevada, which the company expects will produce 100,000-150,000 ounces of gold annually. The company expects production at the Merian project in Suriname, of which Newmont owns 75%, to begin in late 2016, with gold production of as much as 500,000 ounces annually for the first five years.

Meanwhile, the company forecasts Phase 1 of the Long Canyon Project to reach commercial operation in the first half of 2017, adding roughly 100,000-150,000 ounces of gold annually. The Tanami expansion in Australia, which will add 425,000-475,000 ounces of gold over its first five years, remains on schedule for increased production in the second half of 2017.

Newmont increased its gold production approximately 4% over 2014 levels to 5 million ounces on an attributable basis in 2015, significantly increased its free cash flow generation to $705 million on an adjusted basis, reduced debt and continued to maintain solid liquidity. From 2014 through 31 March 2016, Newmont reduced balance-sheet debt by approximately $1 billion to $5.7 billion at 31 March 2016. We expect the company to continue its focus on debt reduction.

Carol Cowan Senior Vice President +1.212.553.4999 carol.cowan@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 11 JULY 2016

Packaging Corporation of America’s Acquisition of TimBar Is Credit Positive Last Wednesday, Packaging Corporation of America (PCA, Baa3 stable) said that it had signed a definitive agreement to acquire privately held TimBar Corporation (unrated), an independent producer of corrugated products, for about $386 million. The acquisition is credit positive for PCA because TimBar’s high quality converting facilities will generate immediate cost synergies. TimBar will also further increase PCA’s already industry-leading level of forward integration, which is the percentage of containerboard that PCA will convert into boxes.

PCA will gain immediate synergies by internally supplying approximately 200,000 tons of linerboard and corrugated medium that TimBar purchased from other containerboard producers. By sourcing the linerboard and corrugated medium internally, TimBar’s converting facilities (which include two corrugator plants that flute and glue the corrugated medium to the linerboard, and three sheet plants that convert the combined board into boxes) will increase PCA’s forward integration to an industry-leading 93% from 87%. This will lessen PCA’s exposure to third-party box convertors, including the company’s low-margin containerboard export sales. Additionally, the proximity of the acquired facilities (primarily located in the eastern and southeastern US) to PCA’s existing footprint will help PCA further optimize its mill system and realize freight and other cost synergies.

PCA plans to fund the purchase with a new $385 million term loan, which will maintain prepayment flexibility. Pro forma debt/EBITDA (including our standard adjustments for pensions and operating leases) will increase to 2.6x from 2.3x as of March 2016. But projected cash flow from the acquired assets will more than offset the cost of servicing the additional debt and we expect leverage to return to pre-acquisition levels within a year.

PCA’s liquidity is strong, with $162 million of cash as of March 2016, $326 million of availability under a $350 million committed revolver that matures in October 2018, the absence of significant near-term debt maturities and our estimate of about $350 million of free cash flow over the next year.

Pending customary closing conditions, including regulatory approvals, the companies expect to close the transaction during the third quarter of 2016. Lake Forest, Illinois-based PCA, is the fourth-largest manufacturer of containerboard and corrugated packaging materials and is the third-largest manufacturer of communication paper in the US.

Ed Sustar Senior Vice President +1.416.214.3628 ed.sustar@moodys.com

NEWS & ANALYSIS Credit implications of current events

4 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Honeywell’s Planned Acquisition of Intelligrated Is Credit Positive On 1 July, Honeywell International Inc. (A2 stable) said that it had agreed to acquire Intelligrated, Inc. (B2 stable) for $1.5 billion. The credit-positive acquisition, which Honeywell expects to close by the end of September, will broaden Honeywell’s capabilities serving the warehousing and logistics sector, including expanded software and service offerings.

The purchase price, which includes acquired debt of $321 million, is about an 18x multiple of trailing EBITDA, or about a 12x multiple of estimated 2016 earnings. Honeywell is funding the entire purchase with new debt, which will increase pro forma debt/EBITDA as of 31 March by one-tenth of a turn to 2.27x.

Intelligrated designs, manufactures, installs and services high-speed automated material handling equipment and related sub-systems in customer distribution centers, mostly to US-based retailers, including 30 of the 50 largest. Folding Intelligrated’s $900 million in annual revenue into Honeywell’s sensing and productivity solutions business will grow the business by about 40%. We expect Honeywell to extract synergies that will help it meet its return criteria for acquisitions of at least 10% by year five of ownership.

Honeywell’s Intelligrated acquisition announcement follows its 1 March announcement that it had acquired Mannheim, Germany-based Movilizer, a provider of cloud-based, work-flow applications for remote workers in service or maintenance, sales and distribution and warehousing. Leveraging the capabilities of these two acquisitions will likely further enhance the service offerings of Honeywell’s workflow solutions portfolio.

Honeywell’s A2 senior unsecured rating reflects the company’s stable revenues, earnings and free cash flow generation. The diversity of the company’s consumer and industrial end markets and geographies will help mitigate downward pressure on its operations and financial performance during cyclical troughs in the global economy. We expect Honeywell to meet its 2016 targets of 1%-2% core organic sales growth, a segment operating margin of about 19%, and free cash flow growth of at least 5%.

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

NEWS & ANALYSIS Credit implications of current events

5 MOODY’S CREDIT OUTLOOK 11 JULY 2016

WhiteWave Will Benefit from Its Acquisition by Danone Last Wednesday, US organic and plant-based foods producer WhiteWave Foods Co. (Ba2 review for upgrade) agreed to be acquired by French dairy giant Danone SA (Baa1 review for downgrade) for $56.25 per share in cash, or about $12.5 billion, including debt and certain other liabilities. The transaction is credit positive for WhiteWave because it will become part of a larger company with superior credit quality and vast resources that will further support WhiteWave’s growth.

Following the acquisition’s announcement, we placed WhiteWave’s ratings on review for upgrade, noting that we would withdraw WhiteWave’s ratings if its debt is fully repaid as part of the transaction, which the companies expect to close by the end of the year.

The purchase price is a 24% premium over WhiteWave’s 30-day average share price and a multiple of more than 21x consensus expectations for its 2016 EBITDA. Danone has stated that it expects to realize $300 million of EBIT synergies by 2020. Danone, the world’s leader in fresh dairy products, will also provide WhiteWave with more distribution and marketing muscle for its considerable stable of brands, which includes Silk, International Delight, Horizon Organic and Earthbound Farm, and improve its efficiencies and margins.

WhiteWave has a leading presence in several small but rapidly growing food and beverage categories in the US, including plant-based beverages, organic packaged salad, coffee creamers and beverages, and premium dairy. It is also the leading seller of plant-based foods and beverages in Europe. Its product line is well diversified and it has a strong record of product innovation.

Still, the company’s leverage is moderately high and its profitability is low for a packaged consumer business. Its ambitious acquisition strategy has raised its integration risk, while its significant growth in capital spending will result in thin or negative free cash flow. WhiteWave’s operating margins, although still in the high-single-digit range, have improved as it has gained scale, and we would expect that the synergies it will gain from combining with Danone will significantly improve these margins.

Based in Denver, Colorado, WhiteWave’s sales for the last-12-month period that ended in March 2015 totaled approximately $4.0 billion. It is a consumer packaged food and beverage company focused on high-growth product categories.

Linda Montag Senior Vice President +1.212.553.1336 linda.montag@moodys.com

NEWS & ANALYSIS Credit implications of current events

6 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Danone’s Acquisition of WhiteWave Is Credit Negative Last Thursday, Danone (Baa1 review for downgrade), the world’s leading dairy products manufacturer, announced the acquisition of WhiteWave Foods Co. (Ba2 review for upgrade), a US food and beverage player that focuses on organic foods and plant-based milks and related products. Danone will acquire WhiteWave for an enterprise value of $12.5 billion (€11.4 billion), financed with debt. The transaction is credit negative for Danone and following the announcement, we placed Danone’s ratings on review for downgrade, indicating that any downgrade is likely to be limited to one notch.

Although the acquisition is a good strategic fit for Danone, it doubles gross debt from around €11.1 billion as of December 2015, leaving pro forma credit metrics at closing at least temporarily inconsistent with the company’s investment grade status. Danone’s Moody’s-adjusted gross debt/EBITDA will increase to around 5.0x from 3.6x as of December 2015, whereas its retained cash flow to net debt will drop to around 10% from 24.5%. Furthermore, a significant part of the leverage reduction that the company expects over the 18-24 months after the transaction’s close relies on Danone delivering $300 million of synergies that it has identified but which have a certain degree of execution risk.

On the positive side, WhiteWave offers strong growth potential because organic foods and plant-based alternatives to milk and yogurt are among the fastest-growing categories in the industry. In addition, WhiteWave has a solid track record of growth in recent years. This, and the cross-selling opportunities to expand WhiteWave’s product offering across Europe, compensate for the volume decline that Danone has experienced over the past three years in its European fresh dairy business. The acquisition will also increase Danone’s North American revenue to 22% from 12% as of 2015. The US market is experiencing stronger growth than Europe. These factors somewhat offset the weaker financial profile that Danone will have post transaction.

The proposed acquisition, supported by both companies’ boards, includes debt ($2.1 billion outstanding as of March 2016) and certain other WhiteWave liabilities, and is a healthy 21.6x EBITDA multiple. Pending approvals from WhiteWave shareholders and regulators, the companies expect the transaction to close toward year-end.

This acquisition adds to medium to large deals in the packaged goods sector announced over the past couple of weeks, including Mondelez International, Inc.’s (Baa1 stable) nonbinding indication of interest in acquiring The Hershey Company (A1 stable) for approximately $25 billion and Henkel AG & Co. KGaA’s ((P)A2 stable) acquisition of Sun Products Corporation (B3 review for upgrade) for $3.6 billion (€3.2 billion) in cash. Low- to mid-single-digit revenue growth prospects for the industry and the current low interest rate environment might foster additional transactions.

Established in 1966, Paris-based Danone is a diversified food and beverage company and the world leader in fresh dairy products whose principal international brands include Danone (mainly fresh dairy products), Evian (bottled still water) and Nutricia (baby food and medical nutrition). It reported revenue of €22.4 billion in 2015.

Paolo Leschiutta Vice President - Senior Credit Officer +39.02.9148.1140 paolo.leschiutta@moodys.com

NEWS & ANALYSIS Credit implications of current events

7 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Astaldi Resets Revolving Credit Facility Covenants, a Credit Positive On 1 July, Italian engineering and construction company Astaldi S.p.A.(B2 negative) announced that it had successfully renegotiated the financial covenants of its €500 million revolving credit facility and aligned it with its 2016-20 strategy plan. This is credit positive for Astaldi because it will avoid a breach of the previous covenants as per 30 June 2016 and avert a deterioration of the company’s liquidity. The covenant reset also signalled its banks’ ongoing support, giving the company sufficient time to realize its asset disposal programme. The company expects to sign the agreements in the next few days.

Astaldi’s gross financial leverage is currently very high for its B2 rating, with Moody’s-adjusted debt/EBITDA as of 31 December 2015 of around 8.0x (see Exhibit 1). On 10 May, Astaldi announced the key elements of its new 2016-20 business plan, which focuses on sustainable growth and strengthening its financial structure. However, the company’s previously expected earnings improvements and de-leveraging are delayed, including its asset disposal plan, which the company now expects to realize by 2020.

EXHIBIT 1

Astaldi’s Moody’s-Adjusted Gross Leverage We expect adjusted gross leverage to gradually decline.

Sources: Company data and Moody’s Investors Service forecasts

The new covenant schedule has not been disclosed, but we understand that covenant levels in all semi-annual tests up until the maturity of the revolving credit facility in November 2019 have been increased and provide headroom to the company’s 2016-20 business plan, which was announced in May. Moreover, we understand that covenants within several bilateral uncommitted lines between Astaldi and some banks have been changed accordingly.

This reset of covenants avoids a breach of the previous covenants as of 30 June 2016, including 1.8x net financial indebtedness/equity and 3.4x net financial indebtedness/EBITDA. A covenant breach would have triggered a deterioration of the company’s liquidity, which we regard as weak, given the strong reliance of short-term uncommitted credit lines. The availability of the revolving credit facility is therefore a key supporting factor for Astaldi’s rating. In Exhibit 2, we show our expectation of the change in Astaldi’s liquidity from March to December. We also show the cash balance in a stress case, where none of Astadi’s short-term debt rolls.

0x

1x

2x

3x

4x

5x

6x

7x

8x

9x

Dec-11 Dec-12 Dec-13 Dec-14 Jun-15 Dec-15 Dec-16 Dec-17F

Quantitative guidance for B2 rating 5x-6x

Matthias Heck, CFA Vice President - Senior Analyst +49.69.70730.720 matthias.heck@moodys.com

NEWS & ANALYSIS Credit implications of current events

8 MOODY’S CREDIT OUTLOOK 11 JULY 2016

EXHIBIT 2

Astaldi’s Liquidity Analysis Astaldi’s liquidity is weak, given its strong reliance on short-term uncommitted lines.

Notes: * Short-term uncommitted credit lines are typically renewed. The stress case assumes, however, that they expire by year-end 2016. ** Asset disposals include €110 million for the sale of the A4 highway in Italy, announced in May. Sources: Company data and Moody’s Investors Service

The covenant resets also give the company more time to execute its €750 million asset disposal plan, €450 million of which the company aims to realize in 2016-18. If the revolving credit facility had become unavailable, this would have negatively pressured Astaldi to accelerate asset disposals and would have potentially weakened its bargaining position with bidders.

On 11 May, we downgraded Astaldi’s ratings to B2 from B1 because of its ongoing high financial leverage and deteriorating liquidity. The unchanged negative rating outlook takes into account that financial leverage will remain high for a B2 this year and next, risks in disposing assets and the company’s weak liquidity. We expect that a successful renegotiation of the covenants, and the signing of the agreement, will eliminate related execution risks.

€ 0

€ 100

€ 200

€ 300

€ 400

€ 500

€ 600

€ 700

€ 800

Cash BalanceMar 2016

AvailabilityUnder Revolver

Free Cash Flow Working Cash(3% of sales)

Debt Maturities(medium to long

term loans)

Cash BalanceDec 2016

Maturities ofShort-term

UncommittedCredit Lines *

Apr-Dec 2016Asset Disposals

**

Stress Case

€M

illio

ns

NEWS & ANALYSIS Credit implications of current events

9 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Voith’s Sale of KUKA Stake Is Credit Positive On 3 July, Voith GmbH (Ba1 stable) announced that it would tender its 25.1% stake in German robot maker KUKA AG (Ba2 positive) into Midea Group Co., Ltd.’s (A3 stable) takeover offer. Voith expects the sale of the stake to result in a cash inflow of around €1.2 billion that Voith plans to reinvest into automation and industrial software. Voith’s sale and reinvestment plan are credit positive because the proceeds would likely bring substantial additional EBITDA from other businesses and further diversify Voith into areas with strong underlying growth prospects.

The transaction is an important step in Voith’s efforts to diversify away from largely mature markets for hydro turbines and paper machines, where a structural decline in demand for graphic grade paper has prompted the company to reposition its portfolio. Additionally, mining and oil-and-gas-related businesses in its Turbo division are also facing a substantial decline in activity, which we do not expect to improve materially over the next 12-18 months.

Voith defined six areas of activity as part of its digital agenda: automation, IT security, software platforms, sensors/robotics, data analysis and industrial software development. Voith’s current exposure to these businesses is fairly limited. Voith said that it would create a new division, Voith Digital Solutions, where all digital-agenda-related activities from the existing businesses will be concentrated. The division will initially have around €250 million in revenue. Voith purchased the stake in KUKA in December 2014 for around €600 million. The stake is reported under long-term investments in Voith’s book.

Heidenheim, Germany-based Voith is a diversified engineering company operating primarily in the energy, oil and gas, paper, raw materials, and transport and automotive markets. Voith sold its Industrial Service division for undisclosed sum in May 2016. We expect that the company will use those proceeds largely for external growth. In the financial year that ended September 2015, Voith generated revenues from continuing operations (i.e., without the Industrial Services division) of €4.3 billion.

Martin Fujerik Assistant Vice President - Analyst +49.69.70730.909 martin.fujerik@moodys.com

NEWS & ANALYSIS Credit implications of current events

10 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Hutchison 3G Italy-Wind Merger Is More Likely with Iliad’s Entry as Italy’s Fourth Mobile Operator, a Credit Positive Last Tuesday, France’s Iliad Group (unrated) announced that it had reached an agreement with CK Hutchison Holdings Limited (A3 stable) and VimpelCom Ltd. (Ba3 stable) to acquire part of their mobile assets in Italy. The agreement is credit positive for the Italian subsidiaries of Hutchison, Hutchison 3G Italy (H3G, unrated) and VimpelCom, Wind Telecomunicazioni S.p.A. (B2 positive), because it increases the probability of regulatory approval of their proposed merger.

The agreement is the first step in securing the European Commission’s (EC) regulatory approval for the H3G and Wind merger, whose decision will be announced on 8 September. The agreement includes structural remedies such as spectrum frequency disposal, the sale of several thousand mobile cell sites, radio access network sharing for rural areas, and a national roaming agreement (including 2G, 3G and 4G). The offer of this remedy package also suggests that the EC is unlikely to approve future mobile mergers in Europe unless structural remedies are offered, such as the entry of a fourth mobile network operator – in this case, Iliad. We believe that milder remedies, such as the entry into the market of a mobile virtual network operator (MVNO), are no longer an option given the EC’s increasingly critical stance in recent months owing to its belief that allowing more MVNOs into the market has been ineffective.

If the EC approves the merger, it would be positive for H3G and Wind because of the combined entity’s greater scale, opportunities to achieve synergies and debt reduction plans. In addition, the sale of part of Hutchison and VimpelCom’s Italian mobile assets as spectrum (for €450 million) and network to Iliad would accelerate debt reduction at the merged entity, which will also benefit from additional wholesale revenues derived from a roaming agreement with Iliad.

However, the remedy package would allow Iliad to offer competitive mobile services, although not for two or three years. Iliad has deep pockets with which to invest and a track record of being very aggressive, as demonstrated by Iliad’s strategy in France, where it achieved a 10% market share in a short period of time with very simple tariffs and low prices. We believe Iliad is unlikely to use this strategy in Italy because it does not have a fixed-line business to leverage, and prices there are already low. If Iliad were to follow a similar strategy, it would be negative for existing players such as Telecom Italia S.p.A. (Ba1 negative), Vodafone Group Plc’s (Baa1 stable) subsidiary in Italy, Vodafone Italia S.p.A. (unrated), and Fastweb (unrated), wholly owned by Swisscom AG (A3 stable). In addition, as the exhibit below shows, Iliad’s weaker spectrum portfolio would limit its capacity to aggressively discount. This also means that 700-megahertz spectrum will be more strategic for Iliad, which will likely push spectrum prices higher.

Javier Gayol Associate Analyst +34.917.68.8.243 javier.gayol@moodys.com

Ivan Palacios Associate Managing Director +34.91.7.68.8.229 ivan.palacios@moodys.com

NEWS & ANALYSIS Credit implications of current events

11 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Mobile Operators’ Percent of Current and Post-Remedies Spectrum Portfolio Share in Italy Current spectrum distribution

800 Megahertz 900 Megahertz 1500 Megahertz 1800 Megahertz 2.1 Gigahertz 2.6 Gigahertz

Telecom Italia 10 10 10 40 35 30

Vodafone Italia 10 10 10 40 35 30

Wind 10 10 30 35 40

H3G 10 30 35 50

Post-remedies spectrum distribution

800 Megahertz 900 Megahertz 1500 Megahertz 1800 Megahertz 2.1 Gigahertz 2.6 Gigahertz

Telecom Italia 20 20 20 40 30 30

Vodafone Italia 20 20 20 40 30 30

Wind/H3G 20 20 40 40 70

Iliad 10 20 20 20

Sources: Company data and Moody’s Investors Service estimates

NEWS & ANALYSIS Credit implications of current events

12 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Hammerson Secures Ownership of Irish Shopping Centre, a Credit Positive On Friday, UK-based Hammerson Plc (Baa1 negative) announced that it had secured ownership of a 50% stake in a portfolio of Irish retail properties through a joint venture with a fund managed by Allianz SE (Aa3 stable). The transaction is credit positive for Hammerson because it has taken possession of the high-quality assets that secure a €1.85 billion Irish loan portfolio that it and Allianz had acquired last year.

Buying the properties eliminates the risks we highlighted in September 2015 following the acquisition. These risks included primarily the enforcement of security over loan collateral in a timely fashion and the successful execution of Hammerson’s accelerated asset disposal program to reduce the increase in leverage necessary to fund Hammerson’s investment in the joint venture.

The assets include Dundrum Town Centre in Dublin, a shopping and leisure centre located with 200,000 square meters of prime retail space leased to 320 tenants and annual footfall of nearly 50 million. The immediate acquisition also includes the Dublin Central development site and land adjoining the Pavilions shopping centre. Hammerson and Allianz will also take over direction of the Ilac Centre, Dublin and the Pavilions shopping centre pending a pre-emption process and regulatory approvals.

The pre-emption process on Ilac and the Pavilions gives the opportunity for existing co-owners to purchase the 50% stakes rather than Hammerson. However, this would result in Hammerson receiving cash for the value of the properties and Hammerson is confident that the portfolio returns will not be affected by the outcome of this process, particularly given that the focus of the transaction is Dundrum. According to Hammerson, the centres are performing strongly from an operational standpoint, with sales growth of 6% at Dundrum in the 12 months to 31 March 2016. Additionally, the average uplift in rents was 10% in the most recent round of rent reviews.

All properties are close to 100% leased, although Hammerson expects to enhance tenant rosters and bring leases closer to market rents after current leases expire. Rents at Dundrum are approximately 15% under market. In addition to the development site adjacent to the Dundrum centre, another six-acre parcel in the centre of Dublin, which had been granted previous planning permission for more than a million square feet of a retail-led scheme, gives Hammerson potential for growth through its well-established development expertise.

Following a deep recession precipitated by the global financial crisis, the Irish economy has been recovering and we expect it to demonstrate stable GDP growth, accompanied by a lower unemployment rate and increasing consumer confidence. The Dublin retail market is also recovering, with sustained occupier demand and limited supply.

Since September 2015, Hammerson has raised nearly £1.2 billion from two bond issues and a new five-year revolving credit facility to fund the acquisition of the Irish loan portfolio. Although these transactions raise Hammerson’s pro forma leverage to around 39%, based on year-end 2015 results, (including the 50% acquisition of Grand Central shopping centre in Birmingham, England), the company executed £240 million of asset sales in 2015 and £210 million in 2016 and expects to complete another £200 million of asset disposals before the end of this year.

On 29 June, we changed the outlook on Hammerson’s long-term Baa1 issuer rating to negative from stable following a 23 June referendum vote in favour of the UK leaving the European Union, and the recent change in the outlook of the UK’s Aa1 government bond rating to negative from stable.

Roberto Pozzi Vice President - Senior Credit Officer +44.20.7772.1030 roberto.pozzi@moodys.com

NEWS & ANALYSIS Credit implications of current events

13 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Anhui Conch Terminates Asset Acquisition Agreement with West China Cement, a Credit Negative for West China Cement On 30 June, West China Cement Limited (WCC, Ba3 negative) and Anhui Conch Cement Company Limited (Conch, A3 stable) jointly announced that WCC will not acquire certain Conch assets as announced 27 November 2015. The agreement was terminated because certain conditions were not satisfied or waived before the transaction’s stop date of 30 June 2016, including approval by Chinese commerce authorities.

The termination of the agreement leaves four cement facilities with Conch, a credit negative for WCC because it will prevent WCC from further consolidating the cement sector and from improving its competitiveness in China’s Shaanxi Province. The credit implication for Conch is limited given the small size of the four cement facilities relative to Conch’s large asset base.

Under the original agreement, WCC was to receive four of Conch’s cement-producing companies in Shaanxi Province in exchange for its issuance of new shares to Conch. As of 2015, WCC’s annual capacity of 29.2 million tons equaled about a 26% market share in the province. Adding Conch’s four cement facilities would have increased its market share to about 40%.

Conch’s failure to become WCC’s largest shareholder also means less-than-expected business integration between the two companies and potentially weaker-than-expected support by Conch to WCC. In particular, Conch’s financial support is important to strengthen WCC’s weak liquidity amid a challenging operating environment. WCC’s reported cash/short-term debt was low at 39% at year-end 2015.

Under the original agreement, Conch would have increased its equity stake in WCC to 51.6% from its current level of 21.2% and would control WCC’s business operations and financial policies. Slowing demand and increasing oversupply have reduced Chinese cement prices to historical lows and accelerated industry consolidation, as shown by Conch’s first-time subscription of a 16.67% equity stake in WCC in June 2015, followed by an increase to 21.2% in the second half of 2015.

Despite the setback in raising its WCC equity stake, Conch will continue to explore opportunities for business collaboration with WCC. Also, WCC will benefit from business synergies with Conch, a development that will likely include operating support to reduce costs, better supply management, reduced borrowing costs and improvements in access to banks and the capital markets. We believe that WCC has the opportunity to become one of the surviving producers amid sector consolidation because of Conch’s investment.

WCC’s adjusted debt/EBITDA should remain stable or decline slightly over the next 12-18 months from about 4.0x in 2015. The company has reduced its capital commitment and will likely generate free cash flow in 2016 for net debt reduction, which, coupled with the implied support from Conch, positions WCC at the weaker end of its Ba3 rating category.

WCC is one of the leading cement producers by capacity in the Shaanxi Province. At year-end 2015, the company’s annual production of cement was 29.2 million tons. Its revenues totaled RMB3.5 billion in 2015. Conch is China’s second-largest cement producer by production volume. The company had about 229 million tons per annum (mtpa) clinker capacity and 290 mtpa cement capacity in 2015, a year in which it recorded RMB51 billion in sales. The Anhui Provincial Government indirectly owned an 18.8% equity stake in the company at the end of 2015.

Danny Chan Associate Analyst +86.21.2057.4033 danny.chan@moodys.com

Jiming Zou Vice President - Senior Analyst +86.21.2057.4018 jiming.zou@moodys.com

NEWS & ANALYSIS Credit implications of current events

14 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Infrastructure

NatRural Completes Cable and Telco Assets Sales Near Carrying Value, a Credit Positive On 1 July, National Rural Utilities Cooperative Finance Corp. (NatRural, A2 stable) completed the sale of its telecommunications and cable television operations held by subsidiary Caribbean Asset Holdings LLC (CAH) to a subsidiary of ATN International, Inc. (ATNI, unrated) for net proceeds of approximately $106 million. The sale is credit positive for NatRural because it eliminates approximately $118 million of foreclosed assets previously held on its books, a longstanding credit overhang. The roughly $12 million loss on the sale, while modestly lowering 2016 financial results, will not affect compliance with financial covenants in NatRural’s debt indentures and credit facility agreements.

Completion of the transaction in a manner that maximizes loan-loss recoveries satisfies a key objective for NatRural since Innovative Communications Corp. defaulted on its loan in 2004. It also marks the end of an expensive and litigious debt restructuring, allowing NatRural to exit its foray into riskier telecom cooperative lending with its balance sheet and liquidity intact.

Although Rural Telephone Finance Cooperative (RTFC), a NatRural affiliate, provided a $60 million loan to the ATNI subsidiary to finance a portion of the transaction, ATNI, whose market capitalization approaches $1.3 billion, guarantees the $60 million loan with RTFC. Even with the loan to the telecom sector, NatRural’s primary focus continues to be lending to less risky rural electric cooperatives (RECs) and their affiliates, which equals approximately 98% of its total portfolio. Moreover, as depicted in the exhibit below, NatRural’s exposure to the more risky telecommunications industry has declined materially compared with a decade ago.

NatRural Total Loans and Guarantees Portfolio As of 31 May 2006 As of 29 February 2016

Sources: US Securities and Exchange Commission filings and Moody’s Investors Service

Although we expect that the loss on the sale will result in a weaker adjusted times interest earned ratio (TIER) for the fiscal year ended 31 May 2016, NatRural had solid financial performance during fiscal 2016, which will partially mitigate the negative effect on adjusted TIER, ensuring compliance with the company’s financial covenants. Adjusted TIER for the nine months that ended 29 February 2016 was 1.24x. Given this performance for the first nine months of fiscal 2016, plus our expectations for the fourth quarter and factoring in the $12 million loss from the sale, we expect that NatRural will easily satisfy financial targets and debt covenants.

Kevin Rose Vice President - Senior Analyst +1.212.553.0389 kevin.rose@moodys.com

NEWS & ANALYSIS Credit implications of current events

15 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Based in Dulles, Virginia, NatRural is a private, tax-exempt cooperative association primarily serving rural electric utilities. NatRural’s principal purpose is to provide its members with a source of financing to supplement the loan programs offered to electric cooperatives through the Rural Utilities Service of the US Department of Agriculture.

NEWS & ANALYSIS Credit implications of current events

16 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Regulators Approve Public Service of New Hampshire’s Divestiture of Generation Assets, a Credit Positive On 1 July, the Public Service Commission of New Hampshire (NHPUC) approved Public Service Company of New Hampshire’s (PSNH, Baa1 positive) 2015 Restructuring and Rate Stabilization Agreement or settlement agreement. The settlement agreement approval allows PSNH to recover its investments in pollution control equipment at the Merrimack power station and divest all of its power generation assets, a credit positive. Upon the sale of its power generation assets, PSNH will become a lower-risk transmission and distribution regulated utility.

Under the terms of the settlement agreement, PSNH will sell its generation assets, which the company expects to complete by mid-2017. Any stranded costs or book value attributed to the generation assets that are not covered by the sale proceeds will be recovered from customers’ monthly bills through the use of securitization financing and a rate-reduction bond charge. The use of securitization financing will provide PSNH with a timely recovery of investments, a credit positive, and lessens the effect on customers rates. The settlement agreement allows PSNH to recover $415 million of the cost to install scrubber pollution control equipment at the Merrimack power station. PSNH agreed to forgo recovery of $25 million of deferred equity related to the scrubber’s cost.

Upon the sale of its generation portfolio, PSNH will become a lower-risk regulated transmission and distribution utility delivering power purchased on the competitive market, which reduces PSNH’s business risk. The costs of the purchased power will be recovered as a pass-through on customer bills. We view power generation as the highest risk component of the electric utility business because generation plants are typically the most expensive part of a utility’s infrastructure and are subject to the greatest risks in both construction and operation, including the risk that incurred costs will either not be recovered in rates or recovered with material delays.

PSNH is the third-largest subsidiary of Eversource Energy (Baa1 stable), a regulated utility holding company in New England. For the 12 months that ended 31 March 2016, PSNH’s ratio of cash flow from operations pre-working capital (CFO pre-WC) to debt was 23.1%. Over the next two years, with PSNH’s planned sale of its generation portfolio, we expect cash flow generation and non-securitization-related debt to decline from current levels as a regulated vertically integrated utility. However, given the company’s continued prudent cost management, we expect PSNH’s financial metrics (excluding the effect of the securitization debt) to remain commensurate with A-rated lower-risk regulated transmission and distribution utilities, including a ratio of CFO pre-WC to debt above 19% on a sustained basis.

Richa Patel Associate Analyst +1.212.553.9475 richa.patel@moodys.com

Jeffrey Cassella Vice President - Senior Analyst +1.212.553.1665 jeffrey.cassella@moodys.com

NEWS & ANALYSIS Credit implications of current events

17 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Strengthening Environmental Regulation Is Credit Negative for KEPCO and Subsidiaries Last Tuesday, the Korean government raised the minimum amount of electricity that generation companies should produce from renewable sources to 5.0% of each generator’s annual output for 2018, 6.0% for 2019 and 7.0% for 2020, a 0.5-1.0 percentage-point increase from its previous targets under the Renewable Portfolio Standard (RPS). The government also said that it aims to boost generators’ direct sales of renewable-sourced electricity to residential and industrial consumers. These initiatives are credit negative for Korea Electric Power Corporation (KEPCO, Aa2 stable) and its six power generation subsidiaries (gencos) because they will likely raise the companies’ costs and dilute KEPCO’s market position over the next three to five years.

We believe these initiatives are part of the government’s ongoing efforts to meet its commitments to reduce global greenhouse gas emissions pursuant to the Paris Agreement signed on 22 April 2016, and its stated goal of reducing carbon emissions 37% by 2030 from the business-as-usual forecast level. As such, we expect that KEPCO and the gencos will be increasingly exposed to carbon transition risk, which we define as the credit effect of increased costs and business model adjustments associated with the goal of materially reducing global greenhouse gas emissions, including for carbon.

The six gencos are Korea Hydro and Nuclear Power Company Limited, Korea South-East Power Co. Ltd., Korea East-West Power Co. Ltd., Korea Midland Power Co. Ltd., Korea Western Power Co. Ltd. and Korea Southern Power Co. Ltd., all of which are rated Aa2 stable.

The government estimated that the 0.5-1.0 percentage-point increase from its previous targets (Exhibit 1) will require incremental capital expenditures of around KRW8.5 trillion to develop an additional three gigawatts of renewable-power generation on top of the 10 gigawatts already planned from 2015 to 2020.

EXHIBIT 1

Korea’s Renewable Power Generation Requirement as a Percent of Each Generator’s Annual Output

Source: Korean Ministry of Trade, Industry and Energy

We forecast that KEPCO’s funds from operations (FFO)/debt, on a consolidated basis, will decrease by two to three percentage points in 2018-20 from our initial projection of 30%-35%, assuming KEPCO and its gencos build the majority of the additional renewable energy generators. We expect KEPCO and the gencos to lead the government’s initiatives to expedite renewable development, given their role in implementing the government’s policies for the country’s power sector. However, the government likely will aim to boost the private sector’s investment in renewable development.

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

Sean Hwang Associate Analyst +852.3758.1587 sean.hwang@moodys.com

NEWS & ANALYSIS Credit implications of current events

18 MOODY’S CREDIT OUTLOOK 11 JULY 2016

The government seeks to increase the proportion of renewable energy to around 8% of Korea’s total power generation volume by 2020 and to around 12% by 2029 from around 4% in 2015 (Exhibit 2). This target means a significant rise in the gencos’ power generation volume from renewables, such as new wind and solar farms and byproduct gas plants.

EXHIBIT 2

Korean Government’s Plan for Renewable Power Generation in Gigawatt Hours

Source: Korean Ministry of Trade, Industry and Energy

We believe KEPCO and the gencos face execution risk associated with the development of renewable energy sources, particularly given the limited availability of land on which to develop these projects. Execution risk includes delays in the start-up of new projects and cost overruns.

We expect that the government’s plan to boost direct sales between power companies that generate renewable energy and consumers will somewhat dilute KEPCO’s market position in the electricity retail sector and its policy role of supplying power. This plan, on top of the previously announced reform to gradually open KEPCO’s retail electricity sales operations to private companies, could signal a shift toward a more market-based and competitive environment. But KEPCO’s core operations of transmission and distribution, and electricity generation through its six gencos will remain largely unchanged over the next 12-18 months.

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NEWS & ANALYSIS Credit implications of current events

19 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Banks

US Banks Welcome Jump in Mortgage Applications Last Wednesday, the Mortgage Bankers Association (MBA) released its mortgage applications survey for the week ended 1 July, and which showed that the average interest rate for conforming 30-year fixed-rate mortgages had decreased to near historical lows. This prompted a 14% increase in mortgage applications compared with the prior week as more homeowners refinanced their existing mortgages into a lower fixed rate. The jump in mortgage applications is credit positive for US banks and will help compensate for their net interest margins being continually squeezed by low interest rates.

Falling mortgage rates not only boost refinancing volume, but also make home ownership more affordable. Specifically, in the week ended 1 July, the MBA Refinance Index, which measures all mortgage applications to refinance an existing mortgage, increased 21% from the previous week, and its Purchase Index, which measures all mortgage applications for purchases of single-family homes, climbed 4%. These trends resulted in the highest refinance share of mortgage activity since February, at 62% of total mortgage applications, as shown on the left axis in the exhibit below.

Thirty-year Fixed-rate Mortgage and Refinance Portion of Total Mortgage Application Volume Falling mortgage rates boost refinance volumes.

Source: Mortgage Bankers Association Weekly Mortgage Applications Survey

The exhibit also shows the recent fall in mortgage rates on the right axis, with the latest drop following the broad decline in market interest rates since the UK’s 23 June Brexit vote. Specifically, the MBA’s survey noted that the average interest rate for conforming 30-year fixed-rate mortgages was 3.66% for the week ended 1 July. As recently as March, the rate exceeded 4.0%. Because loan origination volume, particularly refinancing volume, is highly sensitive to the level of long-term interest rates, we expect mortgage applications to remain elevated as long as rates stay near their historical lows.

For US banks, most of which originate mortgages, this will result in an unanticipated revenue boost, particularly since the industry widely expected long-term interest rates to climb in 2016. However, the benefit of higher mortgage origination volumes will be tempered by other factors, including the fact that the mortgage business is not a dominant business for most banks, ongoing net interest margin pressure from protracted low rates, and potentially lower mortgage-servicing income, depending on the effectiveness of banks’ hedging programs.

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Percentage Refinance Volume - left axis 30-Year Fixed Rate Mortgage Rate - right axis

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

NEWS & ANALYSIS Credit implications of current events

20 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Wells Fargo & Company (A2 stable), the nation’s largest mortgage originator, provides a good example. In the first quarter of 2016, mortgage banking revenue, which includes net gains on mortgage loan originations and sales, as well as net mortgage servicing income, generated 15% of Wells Fargo’s non-interest income and 7% of its total revenue. At that level, even a 50% increase in mortgage banking revenue would only increase Wells Fargo’s revenue by less than 4%, all else being equal.

One variable that could favorably influence this calculation is Wells Fargo’s production margin, or gain-on-sale margin, an important measure of origination profitability, which has been declining. Typically, banks such as Wells Fargo book the spread between the mortgage rate and agency mortgage-backed security yield as a gain when they sell the mortgages to Freddie Mac or Fannie Mae. This spread may widen because long-term market interest rates have declined by more than the drop in mortgage rates.

Nonetheless, although the positive effect from a jump in mortgage-origination revenue will show up in banks’ results relatively quickly, the detrimental effect on their revenue from an even longer period of protracted low interest rates is unwelcome. Therefore, any mortgage-related revenue boost, while beneficial, will do little to assuage banks’ long-term revenue challenges.

NEWS & ANALYSIS Credit implications of current events

21 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Canadian Regulator’s Increased Scrutiny of Residential Mortgage Lending Is Credit Positive Last Thursday, Canada’s Office of the Superintendent of Financial Institutions (OSFI) notified the country’s regulated mortgage lenders that it will intensify its supervisory oversight of their residential mortgage underwriting practices. The regulator vowed a heightened focus on income verification, mortgages with loan-to-value ratios of less than 65% (which OSFI indicated was a category in which underwriting practices are often less rigorous), stress assumptions related to debt-service ratios and the reliability of property appraisals. OSFI’s announcement is credit positive for Canadian banks because heightened regulatory scrutiny will force them to maintain or enhance existing residential mortgage underwriting controls and practices amid growing concerns about increasing household debt and elevated housing prices.

Canadian conventional mortgage debt, excluding home equity lines of credit (HELOCs), has grown at a compound annual rate of 7% over the past decade. Almost CAD1.6 trillion in mortgage debt, including HELOCs, was outstanding as of 31 March 2016, more than double the amount outstanding for the same period 10 years ago (see Exhibit 1).

EXHIBIT 1

Canadian Residential Mortgage Debt Outstanding, Including Home Equity Lines of Credit

Note: Data as of 31 March for each year. Home equity lines of credit data are only for banks and the Desjardins Group, and was unavailable before 2011. Sources: Statistics Canada, Canada’s Office of the Superintendent of Financial Institutions, the lenders and Moody’s Investors Service

Residential mortgage debt, including HELOCs, has doubled over the past decade. Canadian housing prices have risen faster than most other industrialized countries, resulting in house price levels increasing substantially over the past 10 years to be among the highest in major industrialized countries (see Exhibit 2), and raising the risk of a price correction.

675 746 842 912 974 1,047 1,111 1,168 1,224 1,291 1,372

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Jason Mercer, CFA Assistant Vice President - Analyst +1.416.214.3632 jason.mercer@moodys.com

David Beattie Senior Vice President +1.416.214.3867 david.beattie@moodys.com

NEWS & ANALYSIS Credit implications of current events

22 MOODY’S CREDIT OUTLOOK 11 JULY 2016

EXHIBIT 2

Real House Prices Indexed to 100 at 2005 for Select Countries

Sources: US Federal Reserve Bank of Dallas and Moody’s Investors Service

Over the past 25 years, house prices in Canada have steadily increased, primarily in urban centres such as Toronto, Ontario, and Vancouver, British Columbia. During that same period, Canadian consumer debt-to-income levels, which include mortgage debt, almost doubled and are at a record high. As a result, housing indebtedness has tracked closely to house price increases as borrowers take larger loans, while at the same time, incomes have not kept pace. These higher debt levels make Canadian consumers vulnerable to an employment or interest rate shock that would exacerbate their debt-servicing burden (see Exhibit 3).

EXHIBIT 3

Canadian Household Debt-to-Disposable Income Ratio and House Price Index

Sources: Statistics Canada and Moody’s Investors Service

Of note, OSFI specifically indicated its interest in debt service ratios because current underwriting requirements may not adequately capture the stress effect of refinancing a mortgage into one with a higher mortgage interest rate. This is important because of the unique characteristic of a Canadian mortgage. Unlike many countries captured in our Global RMBS Market Comparison Tool, which use a 25- or 30-year fully amortizing mortgage term, a Canadian mortgage is structured as a balloon loan whereby the term (typically five years) is shorter than its amortization (typically 25 years). This means borrowers must periodically refinance their mortgages (see Exhibit 4), exposing them to changes in interest rates over the life of the mortgage. This refinancing risk is greatest for recent borrowers with high loan-to-value mortgages in a rising interest rate environment. OSFI noted that a rapidly rising interest rate environment would place considerable stress on existing debt service ratios, particularly on investment properties with rental income.

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NEWS & ANALYSIS Credit implications of current events

23 MOODY’S CREDIT OUTLOOK 11 JULY 2016

EXHIBIT 4

Canadian Mortgage Payments in a Rising Interest Rate Scenario

Assumptions: CAD350,000 mortgage, 25-year amortization, five-year term, 2% per term mortgage rate increase, principal remaining at the end of the term is refinanced into a new mortgage. Source: Moody’s Investors Service

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NEWS & ANALYSIS Credit implications of current events

24 MOODY’S CREDIT OUTLOOK 11 JULY 2016

UK Lowers Banks’ Capital Buffer, a Credit Negative Last Tuesday, the Bank of England’s (BoE) Financial Policy Committee (FPC) reduced the countercyclical capital buffer (CCyB) applied to banks’ UK risk-weighted assets to 0.0% from 0.5% as a result of expected softening in the UK economy following the UK referendum to exit the EU (Brexit). The reduced CCyB gives banks greater flexibility in providing credit to households and businesses, but reduces banks’ requirements to hold loss-absorbing capital, which is credit negative.

The 0.5% reduction of the regulatory capital buffers for UK banks in aggregate equates to £5.7 billion of capital. Given the BoE’s estimate of bank sector aggregate leverage of 4%, this allows for an increase in banks’ lending capacity of £150 billion. Such measures reduce the likelihood of a credit crunch and allow the UK’s financial system to absorb shock rather than amplify the negative effects on growth and investment from the uncertainty following the Brexit Referendum.

In 2015, net lending to the UK banking sector increased by around £60 billion, a small proportion of the additional lending capacity created by this reduction in capital requirements. Increasing the UK banks’ lending capacity will likely support their profitability, which we expect to be pressured by the low-rate environment, likely fall in demand for credit and an increase in credit impairments from the uncertainty around the UK’s vote to leave the EU.

Although the PRA and the FPC deem that the banks will still hold sufficient idiosyncratic and systemic risk capital to withstand a severe but plausible stress, these reductions in capital buffers will, if used to support lending, increase banks’ vulnerability to unexpected idiosyncratic and macroeconomic shocks. The effect will vary across UK banks, with leverage-constrained institutions less affected than those that are relatively more capital constrained. At 30 March 2016, the aggregate common equity Tier 1 ratio of the UK’s seven largest banks stood at 12.3%.

In March 2016, the FPC raised the CCyB to 0.5% effective March 2017 from 0.0%, with a 1% target for later in 2017, for the UK’s six largest banks1 in response to domestic credit risks, mainly related to an overheating housing market. Concurrently, to ensure there was no duplication in capital requirements, the FPC recommended reducing Prudential Regulation Authority (PRA) supervisory buffers (Pillar 2B) by 0.5%, offsetting the initial introduction of the CCyB. Despite this reversal in the decision to raise the CCyB, the BoE recommended to retain and bring forward the reduction in banks’ PRA buffer, to the extent the level of individual bank buffers is driven by macroeconomic versus idiosyncratic risk factors, thereby increasing available capital to support lending to businesses and households.

The CCyB is a macro prudential tool whereby the FPC adjusts bank capital requirements on a systemwide basis with the aim of dampening procyclicality of bank lending to the UK economy. This is intended to reduce the negative effects of boom and bust economic cycles, which are costly for banks and the wider economy.

Although the CCyB may help avoid a credit crunch, amid a period of prolonged uncertainty around the UK’s future trade relationship with the EU, demand for credit is likely to be subdued, raising questions about the policy’s effectiveness on the real economy.

1 Barclays plc (Baa3 negative), HSBC Holdings plc (A1 negative), Lloyds Banking Group plc (Baa1 stable), Nationwide Building

Society (Aa3 negative, a3), The Royal Bank of Scotland Group plc (Ba1 positive), Santander UK Plc (A1 negative, a3) and Standard Chartered plc (A1 negative).

Michael C. Eberhardt, CFA Vice President - Senior Credit Officer +44.20.7772.8611 michael.eberhardt@moodys.com

Ross Hampson Associate Analyst +44.20.7772.1440 Ross.hampson@moodys.com

NEWS & ANALYSIS Credit implications of current events

25 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Dutch Banks Will Pay for Alleged Derivative Product Mis-selling, a Credit Negative Last Tuesday and Thursday, five Dutch banks announced their decision to implement an independent committee’s proposal to compensate Dutch banks’ small and midsize enterprise (SME) clients for alleged mis-selling of derivative products before April 2014. The compensation implies significant costs in 2016, which will weigh on banks’ profits, a credit negative.

The committee appointed in March 2016 by the Dutch Ministry of Finance published a proposal on 5 July that defines the parameters that banks should use to calculate the compensation they would pay for derivatives sold to a very large number of SME clients. On the same day, four Dutch banks, ABN AMRO Bank N.V. (A1/A1 stable, baa12), ING Bank N.V. (A1/A1 stable, baa1), SNS Bank N.V. (Baa1/Baa2 stable, baa3) and Van Lanschot Bankiers (unrated), announced their decision to implement the proposed framework, while two days later Rabobank (Aa2/Aa2 stable, a2) announced that it also will implement the framework.

The compensation framework is more costly than initially envisaged in 2015, partly because the scope has been enlarged to clients that had one or more interest rate derivatives in place between 1 April 2011 and 1 April 2014, instead of one derivative outstanding on 1 April 2014. In addition to being compensated for the losses they incurred, SMEs are eligible for an additional payment depending on the size and duration of the derivative, capped at €100,000 per client. In the exhibit below we show ABN AMRO’s, ING’s and Rabobank’s additional provisions: €360 million for ABN AMRO, €150 million for ING and €500 million for Rabobank, compared with their 2015 full-year pre-tax profits of €2.7 billion, €6.4 billion and €2.9 billion, respectively. Given Rabobank’s roughly 40% market share in the domestic SME sector, the effect of the scheme is much greater than for the other banks, and will significantly dent its 2016 profit.

ABN AMRO’s, ING’s and Rabobank’s Additional Provisions

Source: The banks

Banks claim that this scheme is overly generous and compensates many SMEs above the level of their actual losses. But despite the material costs Dutch banks will incur in 2016 as a result of the compensation framework, recurring profits can easily absorb the provisions announced so far. We also believe that accepting the new framework will allow the banks to put an end to a litigation that has tarnished their reputation and created considerable uncertainty.

Since 2014, Dutch banks have been widely criticised for allegedly failing to inform their customers about the risks involved with interest rate derivatives that were sold to SMEs on a large scale. The derivative products were typically interest rate swaps sold to SMEs in conjunction with a variable-rate loan so that they could fix their outgoings. At the time, this combination was cheaper than a plain vanilla fixed-rate loan. However, 2 The bank ratings shown in this report are the bank’s deposit rating, senior unsecured debt rating and baseline credit assessment.

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Yasuko Nakamura Vice-President - Senior Credit Officer +33.153.301.030 yasuko.nakamura@moodys.com

NEWS & ANALYSIS Credit implications of current events

26 MOODY’S CREDIT OUTLOOK 11 JULY 2016

banks began to receive criticism when SMEs that decided to prepay their loans incurred losses, since the unwinding of the associated derivatives resulted in costs because of their negative marked-to-market value amid declining interest rates. Banks assessed the litigation risk and started building provisions in June 2015, increasing them at year-end after the Dutch Authority for the Financial Markets (AFM) requested a review by external experts.

NEWS & ANALYSIS Credit implications of current events

27 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Austrian Banks Will Benefit from Government Plan to Reduce Bank Levy Last Tuesday, the Austrian government announced plans to substantially reduce the local bank levy. This development is credit positive for domestic banks because it improves their profitability, which is depressed by the low interest rate environment.

The plan, which was announced by Austrian Chancellor Christian Kern and Finance Minister Hans Jörg Schelling, laid out a reduction of the bank levy to less than €100 million in 2017 from €640 million in 2015. The proposal’s most significant change is that banks will be allowed to offset their bank levy contributions with other payments associated with the European Union’s deposit guarantee scheme and single resolution fund. The Austrian bank levy was introduced in 2011 and mandated that banks pay a fixed percentage of their total asset base. Banks currently pay approximately 0.10% of their unconsolidated balance sheet assets. Since 2011, banks have contributed around €2.9 billion to the Austrian state budget.

Additionally, the proposal amends the measurement basis to consider additional factors such as a cap on the contribution by the bank’s year-end profit and riskiness of the business model. However, the amendment would include a one-off compensation payment by the affected banks, cumulatively totalling €1 billion, or about 1.6x the current annual contribution, to be directed into a special investment fund.

Overall, we estimate that each individual bank’s contributions could be reduced by as much as 85%. Because the basis for the banks’ payments are unconsolidated assets, banks with a strong domestic focus are more affected by the proposal than those banks with a comparably larger foreign footprint, as shown in the exhibit below. Therefore, the banks’ relative contributions are inversely related to their payments in absolute terms.

Austrian Bank Levy/Total Assets and Bank Levy/Pre-Tax Profits in 2015 Austrian banks with a strong domestic focus are most affected on a relative basis.

Key: Erste = Erste Group Bank AG; UBA = UniCredit Bank Austria AG; RBI = Raiffeisen Bank International; RLB NOe = Raiffeisenlandesbank Niederoesterreich-Wien; RLB OOe = Raiffeisenlandesbank Oberoesterreich AG; and BAWAG = BAWAG P.S.K. Source: Company reports and Moody’s Investors Service estimates

The three largest Austrian banks by total assets, Erste Group Bank AG (Baa1/Baa1 stable, baa33), UniCredit Bank Austria AG (Baa2/Baa2 review for upgrade, ba2 review for upgrade), Raiffeisen Bank International AG (Baa2/Baa2 positive, ba2), contributed more than 50% to the €640 million domestic bank levy in 2015. However, because of a significant share of non-domestic assets (which are only partly subject to bank levies in other countries), the ratio of domestic bank levy to total assets was, on average, lower than for the more

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

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Alexander Hendricks, CFA Associate Managing Director +49.69.70730.779 alexander.hendricks@moodys.com

Torsten-Alexander Thebes Associate Analyst +49.69.70730.796 torsten.thebes@moodys.com

NEWS & ANALYSIS Credit implications of current events

28 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Austria-focused large banks, BAWAG P.S.K. (A3/A3 positive, baa2), Raiffeisenlandesbank Niederoesterreich-Wien (Baa2/Baa2 stable, ba2) and Raiffeisenlandesbank Oberoesterreich AG (Baa2/Baa2 stable, ba1).

Comparing the Austrian bank levy paid in 2015 with the pre-tax profit and applying the average target reduction of about 85%, we expect a positive effect on pre-tax profits from a reduced levy ranging from about 5% for Erste, UniCredit Bank Austria and BAWAG to as much as 20% for Raiffeisenlandesbank Niederoesterreich-Wien in two to three years, with a median for Austrian banks of closer to 10%, or five to eight basis points if measured by total assets.

The next step for the Austrian government is to review the plan in its weekly ministerial meeting on 12 July and finalise its specific details, particularly around the mandatory one-off compensation payment and formulating the government’s expectation of the domestic banking sector’s collaboration in economic stimulus programmes.

NEWS & ANALYSIS Credit implications of current events

29 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Norwegian Banks Will Benefit from Growing Seafood Exports Last Tuesday, the Norwegian Seafood Council reported that seafood exports in the first half of 2016 grew by 25% from a year ago. Such export growth is credit positive for Norwegian banks exposed to the sector, in particular Sparebank 1 SMN (A1/A1 stable, baa14), Sparebanken Sogn og Fjordane (A2 negative, baa1), Sparebanken More (A2 stable, baa1), Sparebank 1 Nord-Norge (A1/A1 stable, baa1) and Helgeland Sparebank (A3 stable, baa2). The seafood sector’s strong performance alleviates some of the asset quality pressures that the banks face as a result of a softening Norwegian economy, and will provide the banks with profitable business opportunities.

The value of Norwegian seafood exports has been growing since 2012. In the first half of this year, the amount surged by 25%, supported by the depreciation of the Norwegian krone, supply constraints and high demand. Exports of salmon, which accounted for 65% of total seafood exports, grew by 28% year on year, driven by higher volumes and higher prices. The average price for fresh whole Norwegian salmon in June 2016 was NOK65 ($7.70) per kilogram versus NOK41 ($5.00) in June 2015. The exhibit below presents the exposure of the five most affected banks as of March 2016.

Norwegian Banks’ Loan Exposure to Fisheries and Seafood as Percent of Gross Loans

Notes: Data for Sparebanken More include fishing boats and fish processing; for Sparebanken Sogn og Fjordane fishing and hunting, fish farming and hatcheries; for Sparebank 1 SMN fisheries and fish farming; for Sparebank 1 Nord-Norge fishing and marine aquaculture; and for Helgeland Sparebank fisheries and aquaculture. Gross loans for Sparebank 1 SMN and Sparebank 1 Nord-Norge include loans transferred to their covered bond issuers Sparebank 1 Boligkreditt and Sparebank 1 Naringskreditt. Source: The banks

The seafood sector’s strong performance contrasts with Norway’s overall economic activity, which has softened along with lower oil prices and falling oil sector investments. We expect Norway’s GDP growth to moderate to 1.4% in 2016 from 1.6% in 2015. Given the softening economic activity, Norwegian banks will likely face increasing credit risk in their loans to businesses, particularly in oil-related sectors, as well as in some of their retail business driven by our expectation of an increase in the unemployment rate to 4.9% this year from 3.5% in 2014. As a result, banks’ credit costs will likely increase modestly from very low levels of 0.2% of gross loans for rated banks as of December 2015.

More importantly, the fishing industry’s strong performance will present the banks with business growth opportunities in a low growth, low interest rate environment, supporting profitability. For the first three months of 2016, the earnings of these banks, except Helgeland Sparebank, declined from a year earlier owing to lower net interest margins and reduced other income. For Sparebanken 1 SMN, the decline was more pronounced because of significantly higher credit costs.

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

credit assessment.

7.1%

3.6%

8.0%

3.5% 3.5%

0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

Sparebanken More Sparebanken Sogn ogFjordane

Sparebank 1 SMN Sparebank 1 Nord-Norge Helgeland Sparebank

Melina Skouridou, CFA Assistant Vice President - Analyst +357.25.693.021 melina.skouridou@moodys.com

Malika Takhtayeva Associate Analyst +44.20.7772.8662 malika.takhtayeva@moodys.com

NEWS & ANALYSIS Credit implications of current events

30 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Ukraine Central Bank Tightens Banks’ Credit Risk Supervision, a Credit Positive On Tuesday, the National Bank of Ukraine (NBU) launched a regulatory initiative to bring local bank’s credit risk assessment closer to Basel III and IFRS 9 requirements. The initiative is credit positive for Ukrainian banks because it will enhance their regulatory supervision and encourage banks to improve their risk-management practices. Implementation of the new regulation is scheduled for 2016-17.

According to the NBU’s initiative, Ukrainian banks will have to build an internal rating-based approach that includes probability of default and loss-given default modeling for individual exposures and portfolios to determine credit risk. To assess local borrowers’ internal rating and their probability of default, banks will use a unified set of ratios and standardized industry-linked scoring matrix. This approach will replace prior credit risk assessment methodology that lacked modeling unification and was not fully in line with the “substance over form” principle.

Local banks will test the new approach this year and will have to fully implement it in early 2017. The NBU will use bank’s credit risk assessments to develop bank provisioning schedules or capital replenishment plans.

Among the most positive tangible takeaways of the initiative is that Ukrainian banks will have to assign a high-risk rating to borrowers that have insufficient foreign-currency revenues to service foreign-currency denominated loans. Local banks’ solvency metrics are poor because of a high share of nonperforming corporate loans. Overdue over one-day facilities accounted for 22% of banks’ gross corporate portfolio as of 1 June 2016, of which, nonperforming facilities denominated in foreign currency comprise 80%.

The exhibit below shows that as Ukrainian hryvnya depreciated 34% against US dollar in 2015 (on top of 42% drop in 2014), nonperforming foreign-currency-denominated loans increased more than four times. Although recent GDP and export revenue contraction contributed to this deterioration, Ukrainian banks’ pre-crisis high-risk appetite resulted in many foreign-currency-denominated loans to borrowers with no foreign currency revenues.

Ukrainian Hryvnya and Foreign-Currency Denominated Loans and Overdue One-Day Facilities, UAH Billions Sharp local-currency depreciation fueled nonperforming loan growth.

Source: National Bank of Ukraine

0

50

100

150

200

250

300

350

400

450

1-Jan-2014 1-June-2016

UAH

Bill

ions

Performing UAH Loans Performing FX Loans Overdue 1 Day+ UAH Loans Overdue 1 Day+ FX Loans

Elena Redko Assistant Vice President - Analyst +7.495.228.6074 elena.redko@moodys.com

NEWS & ANALYSIS Credit implications of current events

31 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Completion of MKB Bank’s Resolution Is Credit Positive Last Thursday, the Hungarian National Bank, the central bank, announced that it had closed MKB Bank Zrt.’s (Caa2 review for upgrade, caa25) resolution and restructuring. The closure follows the completion of MKB Bank’s privatisation and fulfilment of its resolution plan objectives.

The successful resolution and privatisation is positive for MKB Bank’s creditors. The applied tools to MKB Bank’s resolution included the sale and transfer of problem loans, provision of state aid, but not a bail-in of creditors. It allowed the bank to materially improve its asset quality and funding structure and paved the way for a successful privatisation.

We expect that the bank’s ongoing loan portfolio clean-up and the more benign operating environment in Hungary (Ba1 positive) versus the past six years will gradually benefit MKB Bank’s financial fundamentals, albeit at very weak levels. The bank’s new shareholders are Hungarian private-equity fund Metis, with a 45% stake, Blue Robin Investments SCA (Luxembourg), with a 45% stake, and Hungarian pension fund Pannonia, with a 10% stake. The new owners’ strategic interests, financial strength and commitment to MKB Bank will play a vital role in the bank’s recovery and ability to re-establish itself as a recognised player in Hungary.

MKB Bank was placed into resolution in December 2014, shortly after the completion of the bank’s acquisition by the Hungarian government from Bayerische Landesbank (A1/A2 stable, ba1) in September 2014. The resolution was performed under the Bank Recovery and Resolution Directive (BRRD) regime and was based on Hungary’s Act XXXVII. of 2014 (Act on Resolution). The restructuring plan aimed to reduce the bank’s exposure to high-risk asset classes (mainly commercial real estate) and to focus on retail and small and midsize enterprise lending, as well as private banking services. In 2015, the bank sold in the market and transferred (at a price above the market value, which constituted state aid) to Hungary’s Resolution Asset Management Vehicle more than half of its problem loans. As a result, MKB Bank’s nonperforming loans ratio declined to 22.7% in December 2015 from 32.2% in December 2014 (see exhibit).

MKB Bank’s Asset Quality Ratios

Source: MKB Bank

The bank’s funding profile and liquidity have also improved over the past two years as contraction of the loan portfolio resulted in repayment of part of market borrowings. Wholesale funding equalled less than one quarter of the bank’s total assets and unencumbered liquid assets equalled about 40% of its total assets in December 2015.

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

credit assessment.

0%

20%

40%

60%

80%

100%

120%

140%

160%

2008 2009 2010 2011 2012 2013 2014 2015

Problem Loans / Gross Loans Loan Loss Reserves / Problem LoansProblem Loans /(Tangible Common Equity + Loan Loss Reserves)

Armen Dallakyan Vice President - Senior Analyst +44.20.7772.1688 armen.dallakyan@moodys.com

NEWS & ANALYSIS Credit implications of current events

32 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Nevertheless, despite the positive measures during the resolution and restructuring processes, MKB Bank’s credit quality remains vulnerable to solvency challenges stemming from a still-high level of nonperforming loans and weak revenue. MKB Bank’s Tier 1 ratio declined to 11.3% in December 2015 from 14.1% in December 2014, owing to a loss driven by high loan-loss provisions and declining revenues.

NEWS & ANALYSIS Credit implications of current events

33 MOODY’S CREDIT OUTLOOK 11 JULY 2016

National Bank of Abu Dhabi and First Gulf Bank Merger Is Credit Positive On 3 July, the National Bank of Abu Dhabi (NBAD, Aa3/Aa3 negative, a36) and First Gulf Bank (FGB, A2/A2 positive, baa2) announced a merger involving a proposed exchange ratio between the two Abu Dhabi-based banks of 1.254 new NBAD shares for every FGB share. Upon completion of the transaction, which the banks expect by first-quarter 2017, the combined bank will be 52%-owned by FGB shareholders and 48%-owned by NBAD shareholders, and only the NBAD entity will remain, having acquired all of FGB’s liabilities and assets. The proposed merger is credit positive for both banks. NBAD’s pro forma credit profile will benefit from greater business diversification, stronger profitability and capital metrics, while FGB’s depositors and senior creditors will be transferred to NBAD, a larger and fundamentally stronger entity.

Upon execution, NBAD will become the largest bank in the Gulf Cooperation Council (GCC), with approximately $170 billion in assets, as shown in Exhibit 1. NBAD’s size will enhance the bank’s domestic franchise because the addition of FGB’s larger domestic and profitable retail business will complement both NBAD’s international business and its well-established domestic wholesale operations. We expect that this combination will broaden the bank’s franchise and spur organic growth. In addition, the merger will moderate NBAD’s very high borrower concentrations, given the enlarged capital base and FGB’s more granular portfolio.

EXHIBIT 1

Banks in Gulf Cooperation Council Countries by Asset Size NBAD will become the largest regional player by assets.

Sources: The banks’ interim first-quarter 2016financial statements.

We expect FGB’s stronger retail franchise to drive higher margins, which will improve NBAD’s profitability. We expect that the combined entity will have a pro forma net interest margin (NIM) of around 2.1%, up from around 1.8% for first quarter of 2016. Consequently, the merged entity’s net income to tangible assets will also improve more materially to around 1.6% from 1.2% as of the first quarter of 2016, putting it in line with the UAE average of around 1.7% and higher than the 0.80% median of global banks with an a3 baseline credit assessment. The bank’s profitability will also benefit over the next three years from revenue synergies through cross-selling opportunities, pricing optimisation, and cost efficiencies stemming from economies of scale and the consolidation of the branch networks of the two banks. Exhibit 2 shows how the combined entity’s market share will change.

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

$0

$20

$40

$60

$80

$100

$120

$140

$160

$180

NBAD(Consolidated)

QatarNational Bank

(Qatar)

NationalCommercial

Bank(KSA)

Emirates NBD(UAE)

NBAD National Bankof Kuwait(Kuwait)

FGB Ahli UnitedBank

(Bahrain)

Bank Muscat(Oman)

$ Bi

llion

s

Nitish Bhojnagarwala Assistant Vice President - Analyst +971.4.237.9563 nitish.bhojnagarwala@moodys.com

Jonathan Parrod Associate Analyst +971.4.237.9546 jonathan.parrod@moodys.com

NEWS & ANALYSIS Credit implications of current events

34 MOODY’S CREDIT OUTLOOK 11 JULY 2016

EXHIBIT 2

UAE Loan Market Shares for NBAD and FGB, and Pro Forma Share for Combination* FGB’s retail business adds diversification to NBAD’s wholesale-focussed loan book.

Note: * UAE loan market share data show aggregate figures for the 15 largest Moody’s-rated banks in the UAE, constituting around 90% of system assets as of December 2015. Sources: Banks’ 2015 annual reports and United Arab Emirates Central Bank

NBAD has solid capitalization metrics, with a tangible common equity/risk weighted asset ratio (TCE/RWA) of around 12.8% as of March 2016, a level that has remained broadly stable since 2013. Following the merger, we expect that the bank will benefit from FGB’s higher capitalization levels (TCE/RWA of 14.6% as of March 2016) and stronger internal capital generation ability. On a pro forma basis as of March 2016, the TCE/RWA of the combined entity will be around 14%, which will be broadly in line with both the UAE average and the global median for Moody’s-rated banks with a3 baseline credit assessments.

EXHIBIT 3

NBAD’s Pro Forma Tangible Common Equity/Risk-Weighted Assets Ratio NBAD’s TCE ratio will be in line with local peers.

Source: Banks’ financial statements, Moody's Banking Financial Metrics, Moody’s Investors Service estimates

We do not expect FGB’s fundamental operations or standalone credit profile to significantly change while the merger is in progress. However, upon completion, FGB’s depositors and senior creditors will benefit from NBAD’s stronger standalone profile and from the very high government support that the bank receives, given its systemic importance as the primary banker of the Abu Dhabi sovereign and its overall 25% pro forma share of the domestic banking system by assets.

23%

5%

29%

16%

11%

27%

9%

16%

26%

0%

5%

10%

15%

20%

25%

30%

NBAD FGB NBAD (Consolidated)

Public Sector Corporate Retail

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

NBAD(Consolidated)

NBAD FGB Emirates NBD Abu DhabiComm'l Bank

Dubai IslamicBank

Abu DhabiIslamic Bank

Mashreq Union NationalBank

2015 UAE Average Global Median - a3 BCA

NEWS & ANALYSIS Credit implications of current events

35 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Insurers

Coface’s Unexpected Spike in Loss Ratio Is Credit Negative Last Monday, Compagnie Francaise d’Assurance pour le Comm. (Coface, financial strength A2 stable), a leading global credit insurer, announced that it expects higher claims from Latin America and Asia to lead to a net loss ratio (loss on claims, net of reinsurance, divided by premiums earned) of 63%-66% for 2016, a meaningful increase over 52.5% in 2015. The unexpected increase in losses is credit negative because it will materially reduce current-year profitability, and calls into question Coface’s ability to secure profitable growth from its large emerging markets franchise.

Coface, which has the largest proportional exposure to emerging markets of the three leading credit insurers, took steps in 2015 to cut its exposure to Latin America and Asia, reducing exposure in Latin America and Asia-Pacific by 23% to €86 billion at the end of first-quarter 2016 from €112 billion at the start of 2015. However, despite the exposure reductions, claims have been higher than the company predicted. The key drivers of the higher claims are the longer payment terms on receivables in some emerging markets that delay the effect of exposure cuts, and a higher-than-expected average claim size.

As Exhibit 1 shows, loss ratios in Latin America and Asia-Pacific were volatile in 2015, driving a gradual increase in aggregate gross loss ratios through first-quarter 2016, ahead of the sharp rise to 67% that the company expects for second-quarter 2016. Based on loss ratio sensitivities disclosed by Coface, we expect the increased loss ratio forecast to result in a decrease of net income of €63-€81 million, or 50%-64% of Coface’s 2015 reported net income of €126 million.

EXHIBIT 1

Comparison of Coface’s Key Emerging Market Gross Loss Ratios with Group Aggregate

Sources: The company and Moody’s Investors Service

Although the loss ratio forecast for 2016 is meaningfully higher than the 50.7% average aggregate loss ratio for 2011-15, it remains significantly lower than the peak of 103% reached during the 2008-09 global financial crisis. Given that Coface’s exposure to Latin America and Asia-Pacific only amounted to 16.3% of revenue at its peak in fourth-quarter 2015, we do not expect elevated claims in these regions to drive the group’s aggregate loss ratios close to the 2009 level.

Similarly, although we expect this increase in loss ratio volatility to reduce Coface’s Solvency II coverage ratio, reported as 147% at year-end 2015, the effect will be largely offset by a lower solvency capital requirement (the denominator in the ratio) owing to a decline in exposures. However, given Coface’s higher exposure to Latin America and Asia-Pacific, at 19.1% of total potential exposure, versus at 10.2% at Euler

51.7% 51.5% 51.1%47.6%

49.8% 52.8% 50.2% 51.4% 54.0%

20%

40%

60%

80%

100%

120%

140%

160%

180%

2011 2012 2013 2014 Q1 2015 Q2 2015 Q3 2015 Q4 2015 Q1 2016 Q2 2016

Coface Aggregate 2008-09 Financial Crisis Peak Latin America Asia Pacific

Brandan Holmes Vice President - Senior Analyst +44.20.7772.1605 brandan.holmes@moodys.com

NEWS & ANALYSIS Credit implications of current events

36 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Hermes SA (financial strength Aa3 stable) at year-end 2015, Coface is exposed to more downside risk related to these regions.

In the face of tepid growth in the traditional key credit insurance markets, emerging markets have been the main driver of Coface’s growth. As Exhibit 2 shows, revenue from Latin America and Asia-Pacific increased to 16.3% of total revenues as of fourth-quarter 2015 from 11.1% in first-quarter 2014. Because of the worse-than-expected loss experience, Coface will likely reevaluate its position in emerging markets, possibly cutting its exposure further than it did in 2015, and tightening contractual terms and conditions that could have a negative effect on revenues.

EXHIBIT 2

Coface’s Regional Contribution to Group Revenue

Source: The company and Moody’s Investors Service

Lower revenue growth from emerging markets raises questions about Coface’s ability to replace revenues that will be lost at the end of 2016, when we expect the French government to complete the transfer of the government’s export guarantee scheme to Banque publique d'investissement from Coface. This business constituted approximately 4% of Coface’s 2015 consolidated revenue, and 17.5% of the its operating result. The French government will compensate Coface for the lost income, but only in an amount that the company estimates will cover approximately 2.2 years of lost income.

11.1%11.9% 12.6% 12.5% 12.8% 13.5% 13.9%

16.3%

12.4%

0%2%4%6%8%10%12%14%16%18%20%

€ 0

€ 50

€ 100

€ 150

€ 200

€ 250

€ 300

€ 350

€ 400

Q1 2014 Q2 2014 Q3 2014 Q4 2014 Q1 2015 Q2 2015 Q3 2015 Q4 2015 Q1 2016

€M

illio

ns

Western Europe Northern EuropeCentral Europe Mediterranean & AfricaNorth America Asia PacificLatin America Asia Pac & LatAm as Percent of Total - right axis

NEWS & ANALYSIS Credit implications of current events

37 MOODY’S CREDIT OUTLOOK 11 JULY 2016

China’s Revised Rules for Insurers’ Infrastructure Investments Are Credit Negative On 3 July, the China Insurance Regulatory Commission (CIRC) announced revisions to its infrastructure investment rules to make it easier for Chinese insurers to invest in infrastructure projects by no longer requiring that insurers obtain regulatory approval to make such investments. The revisions, which take effect on 1 August, also raise the cap on, and expand the scope of, the types of infrastructure projects that insurers can invest in, including so-called public private partnership (PPP) projects.

The revised rules are credit negative for Chinese insurers because they risk increasing insurers’ alternative investments and introducing additional risks and market volatility into insurers’ balance sheets. This is particularly so for life insurers, which have a higher need for asset-liability matching and yield, and will make more use of this rule change than non-life insurers. The exhibit below illustrates the key changes of the revised rules compared with the current rules.

Comparison of Key Current and Revised Rules for Infrastructure Investments by Chinese Insurers Current Rules Revised Rules

Industry Eligibility Only infrastructure projects in these industries: transportation, telecommunications, energy, municipal projects and environmental protection

No limit

Form of Investments Debt rights, equity rights, property rights, or any other viable investment forms

In addition to the previous forms, the new rules explicitly state that insurers can invest in PPP projects through equity rights.

Project Eligibility Must meet specific requirements on project return, additional guarantees, insurance, credit quality of the controlling party (must be large corporations or corporation groups) and minimum equity capital

Specific requirements are removed: instead, the rule requires for the project sponsor to have two years of sound credit history

Sources: China Insurance Regulatory Commission and Moody’s Investors Service

The revised rules will add to insurers’ risk appetite and increase the amount of high-risk assets in their investment portfolios. Additional risks will come from two areas, an expansion in investable industries and an expansion of the types of investments. The revised rules lift the cap and expand the scope of investments, which will introduce insurers to new, infrastructure-specific risks with which insurers’ current investment teams may not be familiar.

Compared with traditional investments such as fixed income, infrastructure projects usually involve more eligible investors and stakeholders, including sponsors, trustees, custodians, co-investors and local governments. The increased variety and complexity of infrastructure projects implies additional risks to the insurer’s investment portfolio beyond investment risk, given that policy risk and counterparty risk will also be factors. Additionally, infrastructure project investments tend to be of large funding amounts, more geographically concentrated and have long return periods, which adds to insurers concentration and liquidity risks.

The new rules also will encourage Chinese insurers to take on more equity-type investment risks given that the CIRC has removed the minimum equity capital requirement for PPP projects. We see infrastructure investments in China as having higher risks owing to their lack of transparency and lower liquidity relative to fixed-income investments. As a result, the revised rules will introduce higher credit risks to insurers and could generate higher profit volatility.

This effect will be greater for smaller insurers because they tend to have a more aggressive investment approach owing to their need to offer higher yield in their policies to attract customers. Smaller insurers,

Qian Zhu Vice President - Senior Analyst +86.21.2057.4014 qian.zhu@moodys.com

NEWS & ANALYSIS Credit implications of current events

38 MOODY’S CREDIT OUTLOOK 11 JULY 2016

with a smaller balance sheets, are also less competitive in bidding for large high quality infrastructure projects and may take on riskier projects. Furthermore, the revised rules will put more pressure on insurers’ investment and risk management capabilities, which are areas where smaller insurers often lack resources and experience.

Despite the credit-negative effects of the new rules, the revision will bring some benefits. It will provide more opportunities for insurers to enhance investment yields and diversify their portfolio in the current low interest rate environment. It also helps reduce life insurers’ duration gap (long liability duration and short asset duration), given that infrastructure projects tend to have long durations (e.g., more than seven years). However, these benefits are more than offset by the risks described above.

NEWS & ANALYSIS Credit implications of current events

39 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Money Market Funds

UK Property Funds Suspend Redemptions, a Credit Negative for Asset Managers and Insurers Between 4 and 8 July, several asset managers suspended redemptions on UK property funds as shares exposed to illiquid investments in the British commercial property sector fell sharply and investors requested their money back. The crisis was prompted by the 23 June Brexit vote and fears that UK growth and commercial real estate demand and valuations would be negatively affected. The suspensions could last up to six months and seek to prevent forced selling by the funds that would increase investor losses.

This development is credit negative for asset managers and insurance companies with asset management arms listed in the exhibit below because it shows vulnerabilities in funds’ liquidity, carries reputation risk and threatens to negatively affect earnings. Firms that have launched products that make investments in illiquid assets packaged into mutual funds are particularly at risk.

Troubled Open-Ended Property Funds and the Actions They Have Taken

Fund Asset Manager Parent and Long-

Term Rating

UK Property Fund Assets

Under Management,

£ Billions

Total Firm Assets Under

Management, £ Billions

Percent of Assets Under Management Action

Threadneedle UK Property Authorised Investment Fund

Columbia Threadneedle Investments

Ameriprise Financial, Inc.

(A3 stable)

£1.4 £323.0 0.4% Temporary dealing suspension

Canada Life Property Fund

Canada Life Investments

Great-West Life Assurance

Company (Aa3 stable)

£0.5 £33.0 1.4% Temporary dealing suspension

Aviva Investors Property Trust

Aviva Investors Aviva Plc P(A3) stable

£1.8 £289.9 0.6% Temporary dealing suspension

Standard Life Investments UK Real Estate Fund

Standard Life Investments

Standard Life plc (Baa1 negative)

£2.9 £253.2 1.1% Temporary dealing suspension

Henderson UK Property PAIF

Henderson Global Investors

Henderson Global Investors

(unrated)

£3.9 £92.7 4.2% Temporary dealing suspension

M&G Property Portfolio

M&G Investments

Prudential Public Limited Company (A2

stable)

£4.4 £247.5 1.8% Temporary dealing suspension

Aberdeen UK Property Fund

Aberdeen Asset Management

Aberdeen Asset Management

(unrated)

£3.4 £292.8 1.2% Dealing price marked down 17% and one day dealing suspension

LGIM UK Property PAIF

Legal & General Investment Management

Legal & General Group Plc (A3

negative)

£2.3 £757.0 0.3% Dealing price marked down by 5% and then 10%

Marina Cremonese Vice President - Senior Analyst +44.20.7772.8621 marina.cremonese@moodys.com

Stephen Tu Vice President - Senior Analyst +1.212.553.4935 stephen.tu@moodys.com

Shachar Gonen Vice President - Senior Analyst +1.212.553.3711 shachar.gonen@moodys.com

Giovanni Meloni Analyst +44.20.7772.1089 giovanni.meloni@moodys.com

NEWS & ANALYSIS Credit implications of current events

40 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Troubled Open-Ended Property Funds and the Actions They Have Taken

Fund Asset Manager Parent and Long-

Term Rating

UK Property Fund Assets

Under Management,

£ Billions

Total Firm Assets Under

Management, £ Billions

Percent of Assets Under Management Action

F&C UK Property Fund

BMO Global Asset Management

Bank of Montreal (Aa3

negative)

£0.3 £165.0 0.2% Dealing price marked down by 5% and then 10%

Kames Property Income Fund

Kames Capital plc

Aegon NV (A3 negative)

£0.5 £57.8 0.8% Fair value of investments marked down by 10%

TOTAL £21.3 £2,511.9 0.8%

Note: Data as of 8 July. Feeder funds are not included.

Sources: The companies and Moody’s Investors Service

The redemption suspensions highlight vulnerabilities in the open-ended fund structure when used for certain types of investments, particularly the liquidity mismatch7 that exists between illiquid underlying investments inside vehicles that offer daily liquidity, such as open-ended mutual funds.8

In recent years, traditional active managers have moved further out the risk spectrum in search of organic growth. This has led asset managers to create products that invest in illiquid underlying holdings that are packaged into open-ended mutual funds that offer daily liquidity. The creation of these products has resulted in a liquidity mismatch between the assets and liabilities in these funds, and several UK real estate funds suspending redemptions illustrates the risks that this mismatch poses. Additionally, the prevalence of products that offer short-term liquidity for a pool of illiquid assets increases the likelihood of these types of events occurring more frequently.

The Financial Stability Board recommended liquidity risk management tools for open-ended funds, potentially limiting funds’ exposure to illiquid assets, and swing pricing and redemption fees to reduce investors’ incentive to sell during periods of market stress. It also recommended strengthening disclosures to provide investors and regulators with a better assessment of the liquidity of open-ended funds and to require stress testing at individual open-ended funds to support liquidity risk management. Scrutiny and regulation of the sector will likely accelerate.

Moreover, this event will dampen asset managers’ ability to sell riskier, illiquid investment products, which typically command higher fees, to retail investors because of increased awareness of illiquidity risk, waning investor appetite and greater regulatory intervention. As a result, longer-term effects include fee compression, more subdued asset growth in illiquid products and increased reputational risk.

Over the next few quarters, there is also a risk of contagion given that the behaviour of open-ended funds investing in the UK commercial real estate market could amplify any decline in property values. Indeed, these funds may ultimately have to sell their illiquid assets in order to meet redemptions if current conditions persist beyond funds’ notice periods – a process that could take several months. More broadly, this asset-liability mismatch is not specific to UK property funds and poses an underlying risk to other open-end mutual funds. Funds investing in bank loans, real estate, private equity, high yield credit or liquid alts are susceptible to similar events. 7 See Mind the Gap: Retail Bank Loan Funds Pose Liquidity, Reputational Risks for Managers, 7 July 2014. 8 Most open-ended retail mutual funds are sold under the Undertakings for Collective Investment in Transferable Securities

(UCITS) framework in Europe and under the Investment Company Act of 1940 in the US, which regulate their structures and operations. UCITS provides a single European regulatory framework meaning it is possible to market the fund on a cross-border basis, provided that the fund and fund manager are registered within one European Union country.

NEWS & ANALYSIS Credit implications of current events

41 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Sovereigns

Angola Suspends Program Talks with the IMF, a Credit Negative On 30 June, the International Monetary Fund (IMF) announced that the Government of Angola (B1 negative) had suspended discussions for a three-year Extended Fund Facility (EFF). The talks sought to address acute macroeconomic pressures arising from persistently low oil prices. The suspension of IMF talks is credit negative for the sovereign.

The EFF program would have provided Angola with much-needed support for its foreign exchange reserves and for the government’s difficult fiscal adjustment, now in its third consecutive year. Longer term, the EFF also would have supported the government’s efforts to reduce its reliance on oil and reform its foreign exchange system, both of which would have helped Angola’s balance of payments.

By ending talks for an EFF program, Angola will essentially go it alone in managing downside pressures on its balance sheet and external accounts. The ratio of government debt to GDP nearly doubled over the past two years, increasing to around 47% in 2015 from 25% in 2013, according to government estimates, and we expect it to exceed 50% of GDP in 2016. Although the government has undertaken substantial fiscal adjustment over the past two years, there is a risk that political pressure ahead of 2017 general elections will lead the government to spend more than budgeted, particularly in the absence of an IMF program to anchor its fiscal consolidation.

Additionally, although the recent uptick in oil prices has helped ease pressure on Angola’s external accounts, import demand remains sticky, supporting our current account forecast of a decline of 6.8% of GDP in 2016. In 2012, Angola had a current account surplus of 12.1% and foreign exchange reserves of $33 billion. By April of this year, foreign exchange reserves were $23.6 billion, and we expect that they will fall to $23.0 billion by year-end.

Although the local currency, the kwanza, continues to hover around AOA166 to the US dollar following the central bank depreciating it in April, inflation reached 29.2% year on year in May, the highest since 2005 (see Exhibits 1 and 2). This prompted the central bank last Thursday to increase its base policy rate to 16% from 14%, its permanent liquidity lending facility to 20% from 16%, and its standing liquidity absorption facility to 7.25% from 2.25%. In a further sign of stress in the economy, domestic credit contracted by 0.39% and banking system deposits contracted by 5.87% in May.

EXHIBIT 1

Angolan Reserves and Kwanza Depreciation

Sources: International Monetary Fund and Moody’s Investors Service

$0

$20

$40

$60

$80

$100

$120

$140

$160

$180

$0

$5

$10

$15

$20

$25

$30

$35

$40

Jan-

05

Jun-

05

Nov

-05

Apr-

06

Sep-

06

Feb-

07

Jul-

07

Dec

-07

May

-08

Oct

-08

Mar

-09

Aug-

09

Jan-

10

Jun-

10

Nov

-10

Apr-

11

Sep-

11

Feb-

12

Jul-

12

Dec

-12

May

-13

Oct

-13

Mar

-14

Aug-

14

Jan-

15

Jun-

15

Nov

-15

Apr-

16

$ Bi

llion

s

FX Reserves - left axis USD/AOA - right axis

Rita Babihuga Assistant Vice President - Analyst +44.20.7772.1718 rita.babihuga@moodys.com

Jeffrey Christiansen Associate Analyst +971.4.237.9574 jeffrey.christiansen@moodys.com

NEWS & ANALYSIS Credit implications of current events

42 MOODY’S CREDIT OUTLOOK 11 JULY 2016

EXHIBIT 2

Angolan Inflation

Sources: International Monetary Fund and Moody’s Investors Service

In the context of such external and domestic pressures, the government’s ability to withstand further deterioration in its credit quality without financial and policy support from the IMF remains in question. The downside risks posed by these pressures are unlikely to be offset any near-term improvement in oil prices.

0%

5%

10%

15%

20%

25%

30%

Jan-

14

Feb-

14

Mar

-14

Apr-

14

May

-14

Jun-

14

Jul-

14

Aug-

14

Sep-

14

Oct

-14

Nov

-14

Dec

-14

Jan-

15

Feb-

15

Mar

-15

Apr-

15

May

-15

Jun-

15

Jul-

15

Aug-

15

Sep-

15

Oct

-15

Nov

-15

Dec

-15

Jan-

16

Feb-

16

Mar

-16

Apr-

16

May

-16

NEWS & ANALYSIS Credit implications of current events

43 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Sierra Leone Gains IMF Approval for $34 Million Disbursement, a Credit Positive On 1 July, the International Monetary Fund (IMF) executive board approved an immediate disbursement of $34.1 million to Sierra Leone (unrated), while completing the fifth review of its Extended Credit Facility (ECF) arrangement.9 The board noted that, despite a challenging external environment, Sierra Leone met all of the program’s quantitative targets and had made important progress in some structural reforms, especially those geared toward developing financial markets.

The credit-positive disbursement will strengthen Sierra Leone’s fiscal position and improve government liquidity, which has been reduced by subdued export revenue amid low commodity prices, declining budgetary support from donors and constraints on domestic borrowing. Moreover, the highly concessional loan will help cover the fiscal funding gap while adhering to debt sustainability objectives. Sierra Leone’s risk of experiencing repayment difficulties is only moderate, but the public debt/GDP ratio has been rising rapidly and the IMF projects that it will exceed 50% at the end of 2016.

By endorsing Sierra Leone’s economic policies, the IMF program will help catalyze donor financing for capital spending, thus supporting the nation’s National Ebola Recovery Strategy for Sierra Leone for 2015-17 and growth. Sierra Leone’s real GDP contracted by 21% in 2015 and the IMF projects that it will rebound by only 5% this year.

The IMF funding will also help the economy increase its resilience to further challenges from the external environment such as low commodity prices and any shocks from the UK’s 23 June Brexit vote. Although Sierra Leone is relatively insulated from the Brexit shock, it depends on the UK for significant aid inflows, which we expect will continue, although there is a risk that aid amounts could decline.

Another positive factor is that the IMF-supported government program of reforms that underpin the disbursement aims to address key challenges of fiscal policy, including low revenues (see exhibit below), a bloated wage bill and high fuel subsidies that crowd out capital investment on the expenditure side. The appeal of the IMF-supported program lies also in its pragmatism: recognizing that reducing public-sector wages will be politically challenging, the targeted fiscal measures focus on raising revenue through taxes on electricity consumption and removing exemptions. These measures are combined with the goal of improving the business environment and liberalizing the telecommunication sector to attract private investment and broaden the tax base.

9 The ECF is an instrument that the IMF uses for three to four years in low-income countries that face balance-of-payments

problems to bring about macroeconomic stability and sustainability. By providing concessional lending on favorable terms, thus bolstering countries’ foreign-exchange reserves, the program allows countries to cover their external financing gap.

Zuzana Brixiova Vice President - Senior Analyst +44.20.7772.1628 zuzana.brixiova@moodys.com

Thaddeus Best Associate Analyst +44.20.7772.1088 thaddeus.best@moodys.com

NEWS & ANALYSIS Credit implications of current events

44 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Sierra Leone’s Fiscal Revenues as a Percent of 2015 GDP versus Moody’s-Rated Sub- Saharan Sovereigns

Sources: International Monetary Fund and Moody’s Investors Service

Although we expect the government to successfully complete the current program, the negotiation of a successor arrangement is likely to be challenging amid the run-up to general elections in late 2017 or early 2018, which will raise pressures for increased spending and could constrain any meaningful cuts in the wage bill or energy subsidies.

0%

5%

10%

15%

20%

25%

30%

35%

40%

NEWS & ANALYSIS Credit implications of current events

45 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Korea’s Growth to Benefit from Strong Foreign Direct Investment Commitments Last Monday, Korea’s Ministry of Trade, Industry and Energy announced that foreign direct investment (FDI) commitments in the first six months of this year increased by 18.6% from a year earlier to $10.5 billion, equal to 0.8% of 2015 GDP. This is credit positive for Korea (Aa2 stable) because, combined with government initiatives to restructure the Korean economy, these commitments will support economic growth, which has been negatively affected by dampened global demand.

Total FDI commitments of $10.5 billion are the second-highest on record after $12.0 billion in the second half of 2015 (see Exhibit 1). New FDI pledges to the services sector grew 13.7% year on year to $7.24 billion, while pledges to the manufacturing sector increased 159.6% to $2.85 billion. Most of the FDI committed to the services sector is in finance and insurance, business and real estate, which together constitute about 21% of nominal gross value added, and contributed 18%, on average, to overall real growth over the past 10 years.

EXHIBIT 1

Committed and Realized Foreign Direct Investment to Korea

Sources: Korea Ministry of Trade, Industry and Energy, Haver Analytics and Moody’s Investors Service calculations

By region, FDI commitments from the European Union increased 221.2% and account for 40% of total commitments. Although FDI commitments do not immediately translate into investment inflows, the correlation between committed and realized FDI is high. Balance-of-payments data from the past 10 years indicates that, on average, 70% of FDI commitments tend to be realized.

Higher FDI in the services sector supports the government’s policy objective of fostering productivity in order to move up the value-added chain and produce more profitable, higher-margin products. On Tuesday, the government unveiled its Service Sector Development Plan, which includes measures such as research and development investment tax credits, easing regulations on market entry and increasing financial support for services to KRW54 trillion by 2020 from KRW39 trillion in 2015. The government estimates that its plan will add 0.1-0.2 percentage points to annual growth through 2020.

At the same time, the government has been working to reform regulations that limit FDI. In May 2015, the government announced measures that included reducing required documentation for foreign investors, temporarily removing limits to the number of foreign workers in a foreign-invested firm, and allowing 100% foreign ownership in the aviation industry, up from less than 50% previously. These measures are important because the Organization for Economic Cooperation and Development (OECD) has stated that Korea’s existing FDI regulations rank among the most restrictive among OECD members (see Exhibit 2).

$0

$2

$4

$6

$8

$10

$12

$14

H1 2011 H2 2011 H1 2012 H2 2012 H1 2013 H2 2013 H1 2014 H2 2014 H1 2015 H2 2015 H1 2016

$ Bi

llion

s

Commitments Realized

Shirin Mohammadi Associate Analyst +1.212.553.3256 shirin.mohammadi@moodys.com

Steffen Dyck Vice President - Senior Credit Officer +49.69.7073.0942 steffen.dyck@moodys.com

NEWS & ANALYSIS Credit implications of current events

46 MOODY’S CREDIT OUTLOOK 11 JULY 2016

EXHIBIT 2

Organization for Economic Cooperation and Development’s Foreign Direct Investment Restrictiveness Index, 2015 A higher score corresponds to greater restrictions on foreign direct investment.

Source: Organization for Economic Cooperation and Development

But the OECD also ranked Korea as the biggest reformer of its FDI policies between 1997 and 2010 among OECD members and key emerging economies including China, Brazil, Indonesia and India. Indeed, restrictions in some of the most heavily regulated sectors such as finance, insurance and retail have eased, and these are the sectors that have received the highest FDI commitments so far this year.

0.00

0.05

0.10

0.15

0.20

0.25

Luxe

mbo

urg

Port

ugal

Slov

enia

Czec

h Re

publ

ic

Net

herla

nds

Esto

nia

Finl

and

Spai

n

Ger

man

y

Latv

ia

Hun

gary

Gre

ece

Den

mar

k

Belg

ium

Irela

nd

Fran

ce

Slov

ak R

epub

lic

Ital

y

Japa

n

Chile

Swed

en

Turk

ey UK

Pola

nd

Switz

erla

nd

Nor

way US

Aust

ria

Isra

el

Kore

a

Aust

ralia

Cana

da

Icel

and

Mex

ico

New

Zea

land

NEWS & ANALYSIS Credit implications of current events

47 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Sub-sovereigns

Carinthia Benefits from Austrian Legislation Paving Way for Settlement with HETA Creditors Last Thursday, the Austrian Parliament passed a bill paving the way for the implementation of the recently agreed memorandum of understanding between the Austrian government (Aa1 stable) and HETA (formerly Hypo Alpe Adria, unrated) creditors. The bill will help avoid triggering the State of Carinthia’s (B3 developing) guarantees for HETA’s grandfathered debt instrument, a credit positive for Carinthia.

The law allows Austria’s government to implement the agreement through which the Austrian government and a significant number of HETA Carinthia-guaranteed debt creditors on 18 May confirmed their common intention to amicably settle the restructuring of the HETA debt instruments. Specifically, the changes in legislation increased the Austrian government’s liability limit for guarantee claims to €12.5 billion from €11 billion, allowing the Austrian Federal Financing Agency to provide Carinthia’s special-purpose vehicle, Kärntner Ausgleichsfond (KAF), the required funding for a new and improved purchase offer.

Under the agreement, KAF will make an improved purchase offer for HETA creditors according to section 2a of the Austrian Federal Act on Financial Market Stability. The January 2016 purchase offer did not gain the required two-thirds investor approval. Given the involvement of a significant group of creditors in negotiating the memorandum, as well as the improvement of the offer (at around 90% of nominal value), we see an increased probability of an agreement in the coming months.

Total outstanding guaranteed debt instruments amount to €11 billion, of which €10.2 billion are senior unsecured; and €800 million are subordinated debt instruments. Carinthia will contribute €1.2 billion. The Austrian government, via the Austrian Federal Financing Agency, will provide the remaining funds to KAF. The Austrian government will thereby largely pre-finance the recovery from the HETA resolution.

We saw a strong likelihood that the central government would intervene to avoid a default by Carinthia, resulting in a three-notch uplift of Carinthia’s standalone credit quality to B3. The recent announcement is another support action in a longer series of actions that the central government has taken over the past several months in an attempt to ensure Carinthia’s guarantee is never called. Previous actions included passing a law (that was later declared unconstitutional) voiding the guarantee on the sub debt and, most recently, providing all the funding to the special-purpose vehicle to make the buyback offer to bondholders. Our assumption is further supported by the fact that the central government is Carinthia’s largest creditor, holding about 70% of its debt.

HETA is a wind-down entity, established under federal law and 100%-owned by the Austrian government since 2009. Since 2014, HETA has not had a banking license and has been a public-sector agency under public law included in the federal government’s accounts. Some of its outstanding debt instruments benefit from a deficiency guarantee by Carinthia for legacy reasons, because the provincial law, which was valid until 2007, granted such statutory deficiency guarantees to HETA’s predecessor.

Juliane Sarnes Associate Analyst +44.20.7772.1392 juliane.sarnes@moodys.com

NEWS & ANALYSIS Credit implications of current events

48 MOODY’S CREDIT OUTLOOK 11 JULY 2016

US Public Finance

Kansas Tax Receipts Are Shy of Estimates Yet Again Amid Modest National Revenue Growth On 1 July, the State of Kansas (Aa2 negative) published its revenue update, showing that tax revenues came in below expectations for June and for the fiscal year that ended 30 June. The shortfall was the latest in a long sequence of revenue misses. Kansas’ chronic revenue shortfalls remain an ongoing credit negative that the state will struggle to reconcile in the face of typical budget-balancing pressures.

Although the phenomenon of slowing tax revenues is credit negative for many states, Kansas’ predicament highlights that certain states are adapting to the environment of slower tax revenue growth less nimbly than others. States that passively wait for revenues to grow fast enough to solve their fiscal problems are likely to be disappointed. With growth in tax collections slowing last year (see Exhibit 1), revenues alone will not be enough to overcome near-term budget pressures such as from education and Medicaid, and long-term pressures from unfunded pensions and other post-employment benefits. Our stable outlook on US states incorporates an expectation of subdued tax revenue growth over the next 12-18 months.

EXHIBIT 1

US States’ Tax Revenue Growth

Source: National Association of State Budget Officers

States have an immense toolkit at their disposal to cope with slowing revenues: the ability to increase tax rates or introduce new types of taxes, vast discretion on which programs to keep and which programs to cut, and reserves held outside the general fund. Many states will manage the revenue slowdown proactively and not sustain credit pressure despite slower revenue growth. Kansas, however, has adopted a particularly reactive approach to modest revenue growth, continuing to overestimate revenues and then annually scrambling to modify the budget and raid available funds.

Kansas’ total tax receipts of $5.8 billion for fiscal 2016 were 7.5% below its forecast released at the beginning of the year, up just 1.1% for the year. Individual income taxes (39% of receipts) were down 1.3% for the year. Retail sales taxes (also 39% of receipts) grew 6.6%, which was a disappointing rate of growth considering a 5.7% increase in the sales tax rate. Kansas is not alone among states in seeing a slowdown in general fund revenue growth.

5%

7.50%

3.50% 3.60%

4.40%3.90%

0%

1%

2%

3%

4%

5%

6%

7%

8%

Sales Tax Personal Income Tax

2015 2016 2017

Dan Seymour, CFA Assistant Vice President - Analyst +1.212.553.4871 dan.seymour@moodys.com

NEWS & ANALYSIS Credit implications of current events

49 MOODY’S CREDIT OUTLOOK 11 JULY 2016

EXHIBIT 2

US States’ Revenue Growth

Source: National Association of State Budget Officers

Because Kansas has failed to accurately anticipate the slowing trend, as well as the sustained effect of income tax cuts implemented in tax year 2014, this rate of growth has been problematic for the state general fund. The general fund in June obtained authorization to borrow a record $900 million from its pooled liquidity fund. The state issued a $1 billion pension obligation bond last year, which we saw as a budgetary relief tool. Each year, the governor modifies the budget to cope with the revenue shortfalls, using techniques including deferring pension contributions and raiding the surplus funds of the Kansas Department of Transportation (Aa2 negative).

Although we continue to believe that Kansas has the economic capacity to balance its budget and fully fund its pension liabilities, it is currently accumulating large and expensive long-term liabilities that it will be paying off for a long time.

6.6%

2.9%

7.1%

1.9%

4.9%

2.8% 2.9%

0%

1%

2%

3%

4%

5%

6%

7%

8%

2011 2012 2013 2014 2015 2016 Estimated 2017 Forecast

NEWS & ANALYSIS Credit implications of current events

50 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Mississippi Taps Rainy Day Fund Again, Narrowing Reserve Position, a Credit Negative On 1 July, the State of Mississippi (Aa2 stable) announced it will need to withdraw up to $63 million from its rainy day fund to cover declining revenues that left it with an $85 million budget shortfall. The credit-negative draw on the rainy day fund further weakens the state’s financial position.

The announced drawdown comes two days after the legislature removed any limit on how much of the rainy day fund can be used in any one year. We estimate that the state’s fund balance for fiscal 2016, which ended 30 June, will decline to 1.4% of revenues from 6.7% just two years ago, assuming the unassigned general fund balance remains the same as it was at the end of fiscal 2015.

The announced drawdown caps a fiscal year that included two previous draws on the rainy day fund, two rounds of mid-year budget cuts, the late publication of the fiscal 2015 comprehensive annual financial report, and a $56 million revenue estimate mistake for fiscal 2017.

Mississippi overestimated fiscal 2016 tax collections. Revenues were flat year over year, but more than $200 million or 4% below budgeted estimates. The state withdrew a total of $108 million in three separate draws from its rainy day fund after suspending its statutory $50-million-per-year limit on the fund’s use. Mississippi had also addressed revenue underperformance with two rounds of budget cuts, totaling $65 million in January and April. The fiscal 2016 budget suspended the state’s 2% set-aside policy whereby the state budgets to spend only 98% of what it expects to collect, which in previous years had buffered the state against revenue underperformance

Our estimates indicate that Mississippi’s available fund balance declined to 1.4% of revenue, a sharp reduction in the reserves that the state relies on to stabilize expenditures during revenue downturns (see exhibit). On top of revenue underperformance, Mississippi just passed a record $415 million tax cut to be phased in over 12 years.

Mississippi’s Moody’s-Estimated Rainy Day Fund Available Balance We estimate that the use of reserves will sink the fund balance to its lowest level in 13 years.

Sources: State of Mississippi Comprehensive Annual Financial Reports and Moody’s Investors Service estimates

Offsetting the credit-negative pressures is the state’s history of adjusting spending to revenues. Additionally, on 30 June, the state received a $150 million payment as part of British Petroleum’s settlement with the federal government over the Deepwater Horizon oil spill in the Gulf of Mexico.

0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

$0

$100

$200

$300

$400

$500

$600

$700

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016E

$ M

illio

ns

Available Fund Balance Balances/Revenues

Julius Vizner Assistant Vice President - Analyst +1.212.553.0334 julius.vizner@moodys.com

NEWS & ANALYSIS Credit implications of current events

51 MOODY’S CREDIT OUTLOOK 11 JULY 2016

Illinois Schools Benefit from Stopgap Budget; Pennsylvania School Funding Remains Uncertain On 1 July 1, Illinois’ (Baa2 negative) stopgap budget that provides a $361 million increase in school funding for fiscal 2017 (ending 30 June 2017) took effect, a credit positive for school districts, particularly in light of the state passing only six months of appropriations for most other spending areas. The full-year of school funding stands in contrast to Pennsylvania (Aa3 negative), where K-12 school funding remains uncertain because the state has yet to pass a fiscal 2017 budget (ending 30 June 2017), a credit negative for Pennsylvania schools.

For the second consecutive year, Illinois budgeted funding for K-12 schools despite failing to enact a larger comprehensive budget. In contrast, Pennsylvania schools again face the prospect of funding delays. Pennsylvania’s fiscal 2016 budget passed an unprecedented 10 months late, though ultimately schools received an increase. Last year, Illinois fully funded schools even though it has yet to pass a comprehensive fiscal 2016 budget.

Illinois’ fiscal 2017 budget calls for a new $250 million equity grant that boosts funding for school districts with high concentrations of poverty. The Illinois Department of Education estimates that the fiscally stressed Chicago Public Schools (B2 negative) will receive the largest share ($102 million) of those funds (see Exhibit 1). The remainder of the $361 million boost will be used to ensure that all districts receive an increase in per pupil aid through full funding of the foundation formula. This is the first time in several years that districts will not experience a proration in per-pupil general state aid. Since 2012, cuts have ranged between 5% and 11% (see Exhibit 2).

EXHIBIT 1

Illinois’ School Districts Receiving Largest Share of $250 Million Equity Grant Districts with elevated poverty levels will benefit from new equity grant.

District Rating Equity Grant $ Millions Share of Equity Grant

Chicago Public Schools B2 Negative $1.5 41.0%

Rockford School District 205 Unrated $0.4 2.6%

Kane County SD 131 (Aurora East Side) A1 $3.1 2.1%

Waukegan CUSD 60 Unrated $3.4 2.1%

Cook County School District 99 (Cicero) Aa3 $0.6 2.0%

U-46 (Elgin) Aa3 $3.1 1.7%

Peoria SD 150 Unrated $4.8 1.5%

Will County School District 86 (Joliet) Aa3 $5.6 1.4%

Sangamon County SD 186 (Springfield) A2 $5.1 1.2%

Macon County SD 61 (Decatur) A3 Negative $3.9 1.1%

J S Morton HSD 201 Unrated $0.6 1.0%

St. Clair County SD 189 (East St. Louis) Ba2 Stable $5.0 1.0%

Sources: Illinois Department of Education and Moody’s Investors Service

David Levett Analyst +1.312.706.9990 david.levett@moodys.com

Vanessa Youngs Analyst +1.212.553.7127 vanessa.youngs@moodys.com

NEWS & ANALYSIS Credit implications of current events

52 MOODY’S CREDIT OUTLOOK 11 JULY 2016

EXHIBIT 2

Illinois’ Percentage of General State Aid Distribution Illinois general state aid is restored after several years of cuts.

Fiscal Year

2012 95%

2013 89%

2014 89%

2015 89%

2016 92%

2017 100%

Sources: Illinois and Moody's Investors Service

As Pennsylvania Governor Tom Wolf and the legislature debate the fiscal 2017 budget, the governor has proposed a $200 million increase in Basic Education Funding for K-12 schools for a record $5.9 billion. The governor’s proposal also includes $50 million (a 4.6% increase) for special education and $60 million (30.5% increase) for pre-K and Head Start programs. Despite agreement on the size of the budget, Governor Wolf and the legislature are still sorting out the details of the revenue package to fund the budget.

Reliance on state aid varies greatly between districts in both states. Many affluent districts rely mainly on local property taxes with minimal state support, while state aid is the primary revenue source for some less wealthy districts. Pennsylvania recently changed the funding formula used to distribute state aid to schools in an effort to make it more equitable between wealthy and poorer districts.

Although the boost in state funding is positive for Illinois school districts, exposure to a fiscally challenged state remains a credit negative. Considerable uncertainty remains, including the potential for delays in categorical grant payments as has happened previously, or a shift in pension costs from the state to districts that participate in the Teachers’ Retirement System (TRS).In Pennsylvania, a new Fair Funding formula in the fiscal 2016 budget has still uncertain effects for school districts. The state designed the new formula to be “sufficient, predictable and equitable” for school funding because it takes into account socioeconomic indicators such as the number of children in a district that live in poverty or the number of students enrolled in charter schools. The new formula also incorporates a district’s overall wealth and ability to generate tax revenues.

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

53 MOODY’S CREDIT OUTLOOK 11 JULY 2016

NEWS & ANALYSIS Russian Banks 2 » Separate Rules for Federal and Regional Banks Are Credit Positive » Changes to Financial Rehabilitation Process Are Credit Positive » New Bank Stress Test Is Credit Positive » Postponement of Bank Concentration Risk Assessment Is

Credit Negative » Higher Mandatory Reserves on Bank Liabilities Are Credit Negative

Corporates 9 » Mondelez’s Offer for Hershey Is Not So Sweet for Either Company » OHL’s Sale of Abertis Stake Is Credit Positive » Merger of IPIC and Mubadala Is Good for Them and Abu Dhabi

Banks 13 » Rescission of GE Capital’s Systemic Designation Is Credit Negative » CIBC’s Acquisition of PrivateBancorp Is Credit Negative » Italian Banks’ €150 Billion Government Liquidity Support

Does Not Address Solvency Issue » Saudi Banks’ Deposit Losses Tighten Liquidity » Korea Changes Rules on Contingent Capital Securities, a

Credit Positive for Banks

Insurers 22 » Guardian’s Sale of Its 401(k) Business Is Credit Positive

Sovereigns 24 » Turkey’s and Russia’s Rapprochement Is Credit Positive for Both » Israel Reopens Diplomatic Ties with Turkey, Supporting Its

Economy and Promoting Regional Stability » Georgia Signs Credit-Positive Free Trade Agreement that Will

Support Export Growth » China Suspends Official Communication with Taiwan, a

Credit Negative

Covered Bonds 30 » Finland Caps Residential Mortgage LTV Ratios, a Credit

Positive for Banks and Covered Bonds

CREDIT IN DEPTH US Banks 32 » Federal Reserve's Review of Bank Capital Plans Is Credit Positive

– All banks passed the test on a quantitative basis, illustrating their capital resilience.

» Higher Equity Payouts Are Skewed Toward Share Buybacks, a Credit Positive – Buybacks can be more easily curtailed than dividends.

MOODYS.COM

Report: 190976

© 2016 Moody’s Corporation, Moody’s Investors Service, Inc., Moody’s Analytics, Inc. and/or their licensors and affiliates (collectively, “MOODY’S”). All rights reserved.

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

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

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

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

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

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

EDITORS SENIOR PRODUCTION ASSOCIATE Elisa Herr and Jay Sherman Sol Vivero