MOODYS.COM

16 DECEMBER 2013

NEWS & ANALYSIS Corporates 2

» Cardinal Health Levels the Playing Field with Generic-Drug Joint Venture

» QEP's Permian Purchase Increases Company's Leverage and Holds Execution Risks

Banks 4

» Final Volcker Rule Prohibits Proprietary Trading but Does Not Disrupt Market Making, a Credit Positive

» Court Approval of ResCap's Chapter 11 Plan Is Credit Positive for Ally Financial

» Spain's Banco Popular and Mexico's Banco Ve Por Mas Announce a Credit-Positive Alliance

» Venezuela Inflation to Remain High After Ruling Party Election Win, a Credit Negative for Banks

» Brazil's Banks Get High Grades on Basel III Adoption, a Credit Positive

» Early Introduction of European Union Bail-in Regime Is Credit Negative for Banks' Unsecured Bondholders

» Poland's Bank Regulator Maintains Tight Guidelines on Dividends, a Credit Positive for Banks

» Slovenia's Banking Stress Tests and Recapitalisation Plans Are Credit Positive

Insurers 16 » US Health Insurers Get Dose of Complexity and Risk from New

Requirements

Asset Managers 18 » Mexican Pension Fund Fee Reduction Is Credit Negative for

Small and Midsize Managers

Sovereigns 19

» El Salvador Gets Credit-Positive Contingent Credit Line from Inter-American Development Bank

» Israel's Fiscal Performance Beats Expectations, a Credit Positive

US Public Finance 22 » US Budget Deal Avoids Onerous Spending Cuts Next Month, a

Credit Positive for State and Local Governments

Structured Credit 24 » Final Volcker Rule Has No Credit Effect on CLOs Holding Only

Loans

RATINGS & RESEARCH Rating Changes 25

Last week we upgraded Continental Resources, General Motors Financial Company, JSCB Bank of Moscow, Qishloq Qurilish Bank, Swiss Reinsurance and Preferred Term Securities XXII TruPS CDOs, and downgraded Darling International, Toll Road Investors Partnership II, Banca Sella Holding, Central Bank of India, MedioCredito Trentino-Alto Adige and QBE Insurance Group, among other rating actions.

Research Highlights 33

Last week we published on US consumer durables, Asia-Pacific corporate refunding risks, US cable, US coal, global advertising, US steel, European building materials, global aerospace/defense, European steel, Canadian broadband communications, Canadian exploration and production, US chicken, US steel and energy distributors, US retail, reinsurers, EMEA insurers, German P&C insurers, global asset managers, money market funds, US P&C insurers, Argentine reciprocal guarantors, Peruvian insurers, US banks, German shipping lenders, Norwegian banks, Australian banks, Vietnam, United Arab Emirates, Poland, Greece, Moscow and St. Petersburg, US local governments, US community colleges, global covered bonds, global structured finance, and US CMBS, among other reports.

RECENTLY IN CREDIT OUTLOOK

» Articles in Last Thursday’s Credit Outlook 40 » Go to Last Thursday’s Credit Outlook

Click here for Weekly Market Outlook, our sister publication containing Moody’s Analytics’ review of market activity, financial predictions, and the dates of upcoming economic releases.

NEWS & ANALYSIS Credit implications of current events

2 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Corporates

Cardinal Health Levels the Playing Field with Generic-Drug Joint Venture Last Tuesday, drug distributor Cardinal Health Inc. (Baa2 negative) announced a 10-year joint venture agreement with CVS/Caremark Corp. (Baa1 stable) to create the largest US purchaser of generic drugs.

The joint venture is credit positive for Cardinal Health because by combining with CVS/Caremark to purchase generic drugs, Cardinal Health will be better able to compete against its two largest peers, AmerisourceBergen Corporation (ABC, Baa2 stable) and McKesson Corporation (Baa2 review for downgrade), both of which have entered into transactions this year to increase their generic-drug buying power. Cardinal will no longer be the drug-distribution industry’s odd man out since it, too, will have the scale necessary to negotiate lower prices with generic-drug manufacturers.

Under the terms of the 50/50 joint venture, Cardinal Health will pay CVS/Caremark a quarterly fee of $25 million over the life of the partnership, highlighting CVS/Caremark’s stronger position in the arrangement. We presume this is because CVS/Caremark, as one of the top two retail pharmacy chains and one of the leading pharmacy benefit managers in the US, spends more on generic drugs than Cardinal. Although Cardinal clearly expects to save more in generic drug costs than the $100 million in annual fees it will pay to CVS/Caremark (estimated by both companies at an after-tax present value of $435 million), there is a risk these savings will not be fully realized.

Cardinal Health and CVS/Caremark also announced a three-year extension, through June 2019, of their drug distribution contract, which was renewed earlier this year. This is credit positive for Cardinal since CVS/Caremark is its largest customer, accounting for about 30% of revenues. However, terms of this agreement more than likely include the price reductions that typically occur when large customer contracts are renewed.

Cardinal Health’s joint venture is the latest in a string of drug-purchasing alliances that have been fueled in part by fundamental changes in the wholesale drug sector, including greater consolidation among customers and suppliers. In March, ABC entered into a partnership with Walgreen Co. (Baa1 negative) and turned over its purchasing of generic drugs to Walgreen Boots Alliance Development, a joint venture owned by Walgreen and Alliance Boots GmhB (unrated). In October, McKesson announced plans to buy Celesio AG (unrated), a Germany-based drug distributor and pharmacy retailer, for $8.3 billion and assume its debt. Celesio is 50%-owned by Franz Haniel & Cie GmbH (Ba1 stable).

It is still too early to determine how successful these arrangements will be, although we do expect the companies to achieve some level of savings from drug purchasing. Compared with ABC’s and McKesson’s transactions, Cardinal Health’s will be limited to US drug purchasing and appears less complex. There are no other transitions of distribution contracts or regulatory hurdles to overcome. Drug purchasing for ABC and McKesson will also include Europe, where markets are more highly regulated than in the US. Therefore, Cardinal Health’s joint venture, which the company expects to begin by 1 July 2014, could become effective sooner than the others.

Diana Lee Vice President - Senior Credit Officer +1.212.553.4747 diana.lee@moodys.com

NEWS & ANALYSIS Credit implications of current events

3 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

QEP’s Permian Purchase Increases Company’s Leverage and Holds Execution Risks QEP Resources (Ba1 stable) last Monday said it would buy for about $950 million some producing assets in West Texas’s Permian Basin that yield about 6,700 barrels of oil equivalent per day (boed), and hold about 47 million barrels (bbl) of proved reserves. The purchase from Ener-Vest (unrated) is credit negative for QEP.

QEP agreed to a high price for the assets and will take on a significant amount of debt, which increases its leverage metrics and weakens its credit profile. The acquisition does give the exploration and production (E&P) company good opportunities for further oil production growth, and the company plans to sell properties from its Mid-Continent region to repay the acquisition borrowings, but that faces execution risk.

QEP plans to fund the Permian Basin acquisition using cash on hand and large borrowings on its revolving credit facility. This will increase its leverage on average daily production to around $26,000/barrels of oil equivalent (boe), a significant increase from its $21,000/boe as of 30 September. It will also raise its leverage on proved developed (PD) reserves to more than $10/boe, compared to $8.50/boe at the end of September. The high proportion of oil from the new property eases the negative effect on QEP’s cash flow coverage of debt, however, with retained cash flow/debt dropping to about 36% from 41% as of 30 September.

The transaction also significantly reduces QEP’s available borrowing capacity on its $1.5 billion revolver to just $200 million, but QEP plans to increase the revolver capacity to $1.75 billion by the time the transaction closes. This makes the planned Mid-Continent asset sale critical for restoring both QEP’s leverage metrics and its strong liquidity profile.

QEP’s Permian deal significantly accelerates its transition toward high-priced oil and away from natural gas, which will continue to fetch weak prices in the coming years. Oil accounts for about 68% of production in QEP’s new acreage, and the company said it hoped to use horizontal drilling in the new properties to quintuple the oil production there by 2018.

However, although the acreage lies in an especially productive part of the Permian, the $142,000 per boe of current production is a high price for entry. QEP estimates that its new properties offer about 300 million boe of net recoverable resources; how successful the company is in realizing that production growth potential through development drilling will determine the success or failure of this acquisition.

Peter Speer Vice President - Senior Credit Officer +1.212.553.4565 peter.speer@moodys.com

NEWS & ANALYSIS Credit implications of current events

4 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Banks

Final Volcker Rule Prohibits Proprietary Trading but Does Not Disrupt Market Making, a Credit Positive On Tuesday, US regulators released their long-awaited final rules implementing the Volcker Rule provision of the Dodd-Frank Wall Street Reform and Consumer Protection Act. The provision aims to eliminate proprietary trading at US banks by 21 July 2015, although firms will begin reporting required quantitative measurements starting 30 June 2014.

The final rule is credit positive for US-based global investment banks because it prohibits higher risk proprietary trading, while not disrupting activities required for market making. Moreover, the final rule is less restrictive on market making than earlier proposals. The banks most affected include Bank of America Corporation (Baa2 stable), Citigroup Inc. (Baa2 stable), The Goldman Sachs Group Inc. (Baa1 stable), JPMorgan Chase & Co. (A3 stable) and Morgan Stanley (Baa2 stable).

We note that these banks will be at a competitive disadvantage to peers that are not required to comply with the rule. Those competitors will have fewer constraints in potentially “gray areas” of market making and will not incur added compliance costs. Non-bank competitors will be less constrained in US markets, while both non-bank and foreign bank competitors will be less constrained in markets outside the US (foreign banks’ US operations are subject to these rules, limiting the competitive pressure in US markets). Furthermore, the rule will require additional investments in compliance to create internal monitoring programs and will place expensive reporting burdens on trading operations, given that regulators expect firms to increase the volume and frequency of trading reports.

The exhibit below shows trading revenue as a percent of net revenue for nine global investment banks with the largest capital market presence in the US. The four non-US firms listed must comply with the Volcker rule for their US operations.

Trading Revenue as a Percent of Net Revenue for Nine Banks with Largest US Capital Market Presence Trailing 12 Months Ended 30 September 2013

GS = The Goldman Sachs Group Inc; MS = Morgan Stanley; C = Citigroup Inc.; JPM = JPMorgan Chase & Co.; BAC = Bank of America Corporation; CS = Credit Suisse Group AG; BCS = Barclays Bank Plc; DB = Deutsche Bank AG; UBS = UBS AG. The figures for Credit Suisse exclude revenues related to certain consolidated fund vehicles in which Credit Suisse has a non-controlling interest but which are passed through to investors. Source: Company reports; revenues adjusted for debt valuation adjustment

0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

50%

GS MS C JPM BAC CS BCS DB UBS

Fixed Income Currency and Commodity Equity

US Banks Foreign Banks

David Fanger Senior Vice President +1.212.553.4342 david.fanger@moodys.com

Anna Sherbakova Associate Analyst +1.212.553.7946 anna.sherbakova@moodys.com

Ana Arsov Associate Managing Director +1.212.553.3763 ana.arsov@moodys.com

NEWS & ANALYSIS Credit implications of current events

5 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

The final rule appears to be less restrictive on market making than an earlier proposal. The rule does not limit revenues from market-making activities to only fees or other customer-specific revenues. Instead, it also incorporates bid-offer spread, carry, trading gains or losses and hedge effectiveness – a more accurate reflection of the sources of revenues derived from market making.

Furthermore, the rule does not prescribe standardized regulatory limits on the amounts of market-making inventories these banks would be allowed to hold. This is a positive outcome because the new rule may be less of a hindrance to overall market liquidity than the market feared with the earlier proposal. However, banks would have to set their own internal limits to ensure such amounts do not exceed reasonably anticipated customer demand.

The final rule strengthens risk-hedging activity requirements. This is not unexpected given the $6 billion trading loss on synthetic credit positions last year in JPMorgan’s chief investment office. To comply with the new requirement, banks must submit an analysis of the correlation of their hedging activities.

In addition, banks must document the hedging rationale at the time of the trade to monitor the effectiveness of hedges. This, along with other compliance requirements such as establishing written policies and procedures, internal controls and independent testing/auditing, will raise banks’ cost burden. The rule also requires that banks calculate seven daily metrics to ensure a bank is not engaged in prohibited proprietary trading, but does not set thresholds for these metrics. This leaves the final determination of acceptable activities up to qualitative assessments by the regulators on a case-by-case basis.

Overall, we view the new requirement to establish a management framework with CEO attestation a positive corporate governance development.

Another provision in the rule is a relatively strict definition of foreign banks’ US activities. The regulators will implement a risk-based approach rather than a transaction-based approach that they had previously considered. Foreign firms will be exempt for transactions outside of the US if they involve non-US-based personnel and non-US-based financing and are not conducted through US entities (unless registered exchanges or clearing firms). This will give foreign global investment banks a relative revenue and cost advantage over their US peers outside of the US and as an unintended consequence could allow for regulatory arbitrage.

Although banks over the past few years have shed proprietary trading desks, exposure to private-equity and hedge-fund investments remains. Banks will be allowed to unwind these investments after lockup periods expire. In addition, as banks change the way they conduct market making and further reduce, or at least refine, their inventory positions, we expect a negative effect on banks’ revenues, although we cannot currently estimate the effect’s magnitude.

NEWS & ANALYSIS Credit implications of current events

6 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Court Approval of ResCap’s Chapter 11 Plan Is Credit Positive for Ally Financial Last Wednesday, the judge presiding over mortgage lender Residential Capital LLC’s (ResCap, unrated) bankruptcy said he would confirm the company’s Chapter 11 plan, releasing Ally Financial Inc. (B1 review for upgrade) from all mortgage-related claims originating from its ownership of ResCap. The court’s decision is credit positive for Ally because it curtails further ResCap-related risks to Ally’s capital position, eliminating a key constraint on its creditworthiness. The resolution also broadens Ally’s appeal to investors, making the US Treasury’s sale of Ally’s shares more likely and thereby providing the means to repay the remaining amounts Ally owes to the US government for support it received during the financial crisis.

The bankruptcy court’s decision makes official the deal that Ally struck in May to obtain the liability releases from ResCap’s creditors in exchange for a $2.1 billion payment. Ally set aside the funds to make the payment in the second quarter, recording a $1 billion net loss for the period. Excluded from the plan are more modest representation and warranty exposures relating to the mortgage finance business that Ally conducts at Ally Bank, which was not part of the bankruptcy.

With a streamlined business model and ResCap contingencies behind it, Ally will likely have greater appeal to both potential fixed-income and equity investors, which could give new impetus to the US Treasury’s efforts to sell its shares in the company. The US government provided Ally with $17.2 billion of support during the financial crisis. To date, Ally has paid the US Treasury $12.2 billion. The US Treasury could sell its 64% stake in Ally through a combination of private and public sales to recoup the support it provided.

Confirmation of the plan follows a series of other steps that Ally has taken to strengthen its capital and streamline operations. In November, Ally privately placed $1.3 billion of common shares and used the proceeds to repurchase mandatorily convertible preferred (MCP) securities held by the US Treasury, thereby improving the quality of the firm’s capital. Over the past year, Ally has sold non-core international auto finance operations to General Motors Company (Ba1 stable), resulting in a return of capital to support the MCP repurchase and support its US auto finance operations; Ally could close on the sale to GM of its China joint venture, its sole remaining non-core international operation, in 2014. Taken together, the transactions raise Ally’s pro forma Tier 1 common ratio to 9.5% from an actual measure of 7.9% at 30 September. In late November, the Federal Reserve approved Ally’s Comprehensive Capital Analysis and Review (CCAR) plan, reflecting the firm’s stronger capital position.

Ally’s senior management will also be able to dedicate more time and resources to operating its leading US auto finance business. Although Ally is well positioned in its sector as the top lender to GM and Chrysler dealers and car buyers, the bank faces growing competitive pressure from increasingly aggressive bank and non-bank entities eager to increase lending in the growing auto finance sector. How Ally responds in terms of risk-taking to buoy asset yields or to respond to demands of more active shareholders will now play a key role in determining the firm’s credit profile.

Mark L. Wasden Vice President - Senior Credit Officer +1.212.553.4866 mark.wasden@moodys.com

NEWS & ANALYSIS Credit implications of current events

7 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Spain’s Banco Popular and Mexico’s Banco Ve Por Mas Announce a Credit-Positive Alliance Last Wednesday, Banco Popular Español SA (Popular, Ba3 negative, E+/b1 negative1) and Mexican Banco Ve por Mas SA (BX+, Ba3 stable, D-/ba3 stable) announced a strategic alliance through which Popular will invest capital in BX+ to further develop lending to small and mid-sized (SME) businesses, both banks’ key expertise, in Mexico. The controlling shareholders of BX+ and other Mexican investors will invest up to €450 million in Popular. The deal is credit positive for both institutions.

For BX+, Popular’s investment in the Mexican bank will support its expansion in the high-margin and largely underserved SME segment at a time of otherwise moderate economic expansion in Mexico. For Popular, the agreement reinforces its capital adequacy against persistent asset quality challenges in its domestic market. Through this operation, Popular will enter the Mexican banking market, which is a key profit center for a number of foreign-owned banks, including Banco Bilbao Vizcaya Argentaria, SA (Baa3 negative, D+/baa3 negative) and Banco Santander SA (Baa2 negative, C-/baa2 negative). The deal is pending regulatory approval and the company expects it to close in the first half of 2014.

The agreement will be implemented through two transactions. In the first transaction, which will take place before year end, the controlling shareholders of BX+ and other Mexican investors will invest up to €450 million in Popular through a capital increase with no preemptive rights. Considering its previous stake in Popular, this investor group will hold a combined interest of 6% post-transaction. The second transaction is a capital increase at BX+ in the first half of 2014 whereby Popular will subscribe €97 million of new capital in exchange for a 24.99% stake. Popular will have representation on the board of directors and will lead the teams responsible for implementing the new BX+ growth plan focused on SMEs.

BX+ is a small Mexican bank with assets of around MXN33 billion ($2.6 billion) and a market share as of 30 September of 0.4% by deposits. It has a strong focus on the agricultural sector and SMEs, which Mexico’s National Institute of Statistics (INEGI) estimates include more than 4.7 million companies with little or no access to formal financing sources. Loans to SMEs are 7% of the Mexican banking system’s total loans, according to our estimates. According to BX+, the new capital will enable it to triple its loan book in the next five years.

Popular estimates that as a result of the capital increase from this transaction, its core Tier 1 ratio (pro-forma September 2013) will increase by 54 basis points, raising it to 12.3%. This transaction adds to several capital strengthening measures taken by Popular since last year that started with the successful fulfillment of the recapitalization plan approved on 31 October 2012 by the European Commission. Popular was able to more than cover the €3.2 billion capital shortfall (3.3% of its risk-weighted assets) that was identified under Oliver Wyman’s stress test.

The 27% increase in the volume of non-performing loans in the first nine months of 2013 to 15.3% of gross loans – versus a system average of 12.7% – highlights Popular’s asset-quality challenges and the need to continue strengthening its risk-absorbing capacity against an economic backdrop of weak economic growth and pressure on earnings. Popular’s investment in BX+ will result in a marginal decline of 6 basis points in its core Tier 1 ratio.

1 The bank ratings shown in this report are the banks’ deposit ratings, their standalone bank financial strength ratings/baseline credit

assessments and the corresponding rating outlooks.

David Olivares-Villagomez Vice President - Senior Credit Officer +52.55.1253.5705 david.olivares@moodys.com

Maria Cabanyes Senior Vice President +34.91.768.8214 maria.cabanyes@moodys.com

NEWS & ANALYSIS Credit implications of current events

8 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Venezuela Inflation to Remain High After Ruling Party Election Win, a Credit Negative for Banks On 8 December, Venezuela (B2 negative) President Nicolás Maduro’s United Socialist Party of Venezuela (PSUV) won the majority vote in local elections, increasing the likelihood that the government will maintain its unorthodox mix of economic policies.

The PSUV’s win is credit negative for Venezuelan banks because their substantial profits and loan growth, as seen in the exhibit, are based on unsustainable economic policies, which have resulted in substantial and accelerating inflation. We expect a 50% inflation rate in 2013, up substantially from the 26.1% average between 2008 and 2012.

Evolution of Loans and Net Income for Venezuelan Banks, Indexed to 2008 Bolívares Fuertes

Source: Superintendencia de las Instituciones del Sector Bancario (Sudeban)

The gross overvaluation of the bolívar fuerte has put significant pressure on the government to devalue the currency, which would increase its earnings in local-currency terms from oil exports and maintain spending increases. These measures would help close the government’s fiscal gap but would also fuel inflation. Banks holding government paper will likely see one-time gains from a rally in the price of Venezuelan bonds brought about by the temporary improvement in public accounts. The boost will smooth the declining trend in banks’ net income through October. Government paper constituted 24% of total Venezuelan bank assets as of October 2013. The banks’ substantial earnings will remain fragile because they depend on the continuation of these unsustainable government policies, which produce high inflation.

However, the government’s lack of conviction to rein in spending means banks will continue to see their profit margins eroded by the country’s runaway inflation.

-

1

2

3

4

5

6

0

20

40

60

80

100

120

140

2008 2009 2010 2011 2012 Oct13

2008

Bol

ívar

es F

uert

es B

llion

s

2008

Bol

ívar

es F

uert

es B

llion

s

Net Loans - left axis Net Income - right axis

Felipe Carvallo Vice President - Senior Analyst +52.55.1253.5738 felipe.carvallo@moodys.com

NEWS & ANALYSIS Credit implications of current events

9 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Brazil’s Banks Get High Grades on Basel III Adoption, a Credit Positive Last Monday, the Bank for International Settlements (BIS) Basel Committee on Banking Supervision published its Regulatory Consistency Assessment Programme report (RCAP) for Brazil and assessed the country as a “compliant jurisdiction.” This means that domestic financial regulations are consistent with Basel Committee requirements and Basel III. The BIS assessment is credit positive for Brazil. Overall, the BIS assessment reinforces our view that Brazilian banks’ capital position is adequate, one of the key strengths supporting our stable rating outlook on the system.

The RCAP report analysed six large Brazilian banks to assess the significance of each evaluated area, including Banco do Brasil S.A. (Baa2 stable, C-/baa2 negative), Itau Unibanco Holding S.A. (Baa2 stable), Banco Bradesco S.A. (Baa2 stable, C-/baa1 stable), Caixa Economica Federal (Baa2 stable, D/ba2 stable), Banco Santander (Brasil) S.A. (Baa2 stable, C-/baa2 stable), and HSBC Bank Brasil S.A. - Banco Multiplo (Baa2 stable, C-/baa2 stable), reinforcing their adherence to Basel standards.

The report notes that when Brazilian regulations differ from Basel standards to reflect local conditions, they are generally more conservative than the Basel approach. For example, as shown in the exhibit below, Brazil’s domestic regulator requires a 4.5% common equity Tier 1 capital while Basel requires 3.5%, as well as a more prudent and risk-sensitive approach to market risk that incorporates a blend between standardized and modelled approaches.

Comparison of Brazil’s Basel III Implementation Phase-In Arrangements versus Basel Guidelines

2013 2014 2015 2016 2017 2018 2019

Basel CET1 3.5% 4.0% 4.5% 4.5% 4.5% 4.5% 4.5%

Brazil CET1 4.5%1 4.5% 4.5% 4.5% 4.5% 4.5% 4.5%

Basel Total Capital 8.0% 8.0% 8.0% 8.0% 8.0% 8.0% 8.0%

Brazil Total Capital 11.0% 11.0% 11.0% 9.875% 9.25% 8.625% 8.0%

1 From October 2013.

Source: RCAP report

The BIS assessment team identified the definition of capital relating to the phase-in of goodwill deductions from regulatory capital as an area for further review. Under Brazilian accounting regulation, goodwill is amortized over a five-year period, while Basel III calls for a full deduction from common equity Tier 1 (CET1). To comply with the Basel III framework, Brazilian regulators have already passed a regulation that requires the remaining goodwill not yet amortized to be fully deducted from CET1. Although the different treatment of goodwill generates a temporary overstatement of banks’ capital ratios, the issue will become immaterial by 2016 and fully eliminated by 2018, as banks phase in the goodwill deduction.

The report also mentions that regulation on the point of non-viability (PON) was published in October, and capital instruments qualified as additional Tier 1 and issued before December 2012 are grandfathered, despite the absence of PON clauses. However, this difference was not considered material because no such instruments were issued between September 2010 and October 2013.

The report noted that Brazilian regulators have opted not to use external credit assessments for risk weights on credit risk standardized approach. While the current risk weights are, on average, higher than Basel requirements, they can be reversed in a stressed scenario.

Alcir Freitas Vice President - Senior Analyst +55.11.3043.7308 alcir.freitas@moodys.com

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

NEWS & ANALYSIS Credit implications of current events

10 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Finally, the report assesses that local regulation treatment on deferred-tax assets (DTAs) from temporary differences related to loan-loss provisions aligns with the Basel Committee principles. The key aspect supporting the adherence is that DTAs from loan loss provisions do not depend on future profitability, as Law 12,838, approved in July, allows their conversion into cash or government bonds if the bank reports a loss, or if it is subject to liquidation and bankruptcy.

NEWS & ANALYSIS Credit implications of current events

11 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Early Introduction of European Union Bail-In Regime Is Credit Negative for Banks’ Unsecured Bondholders Last Thursday, the European Commission announced an agreement between the Commission, the European Parliament and the European Union Council of Ministers on key elements of the Bank Recovery and Resolution Directive (BRRD). Among other things, the parties agreed that the bail-in framework at the heart of the BRRD will be introduced in 2016, two years earlier than originally planned. While that agreement still needs to be ratified by the Council and the Parliament, it sends a clear, credit-negative signal to unsecured bondholders in EU banks that the development of a credible bail-in regime, allowing creditors to bear losses, remains an urgent policy objective.

Details of the agreement are sparse and a revised text is not yet available. However, the main features of the draft directive have not changed from earlier drafts. Creditor bail-in remains the first resort for bank recapitalisations; national policymakers’ discretion to bail out banks using public funding remains constrained. The list of creditors “exempted” from bail-in remains short, and the Commission retains its central role in approving any broadening of exemptions or the commitment of any public funds. All these elements are negative for unsecured bondholders in EU banks whose ratings incorporate some measure of systemic support uplift.

The main challenge policymakers face in introducing an effective bail-in regime is minimising the contagion risks associated with bailing in creditors. Policymakers believe that if investors are clear about where losses will and will not fall in a resolution, the financial markets are less likely to be seriously disrupted when losses materialise. By prescribing how losses on creditors will be imposed and providing the powers to allow that to happen, while allowing national authorities little discretion to bail-out rather than bail-in, the wording of the BRRD is intended to condition investors’ expectations and mitigate contagion risks.

The headline change agreed to on Thursday – the 2016 introduction of bail-in – seems intended to send a clear signal to creditors that the policymakers’ debate between (credit negative) “prescription” and (credit positive) “discretion” is increasingly balanced in favour of prescription. Other signals include the fact that, while the Council’s desire to be able to use public funds for precautionary capitalisations of solvent and viable firms following regulatory stress tests has been realized, such recapitalisations would be subject both to state aid rules (which require write down of junior debt prior to any public support) and to guidelines that the European Banking Authority will draw up. And the Parliament’s demand for stabilisation tools (e.g., public capital) to pre-emptively quell contagion fears has been met, but only once 8% of total liabilities including a bank’s own funds have been written down and the Commission (which we expect would be averse to any use of public funds) has approved their use.

Areas of uncertainty remain. National authorities appear to have wider discretion (subject to the Commission’s approval) to exempt uninsured deposits held by natural persons and small and mid-sized enterprises from bail-in where contagion is feared. And it remains unclear how far deposit guarantee schemes will be liable to bail-in once they step in to repay insured depositors (who will be exempt from bail-in).

More broadly, the decision-making framework – the Single Resolution Mechanism – and the need for a single resolution fund remain under discussion. The more resolution decisions and resources are centralised, the less likely it is that national concerns will be allowed to lead to bail-outs rather than bail-ins. It seems increasingly likely that the European Commission will play a key role in resolution decisions, which would be significant and negative for senior unsecured bondholders.

Alastair Wilson Chief Credit Officer - Europe, Middle East, and Africa +44.20.7772.1372 alastair.wilson@moodys.com

Johannes Wassenberg Managing Director +44.20.7772.1543 johannes.wassenberg@moodys.com

NEWS & ANALYSIS Credit implications of current events

12 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Poland’s Bank Regulator Maintains Tight Guidelines on Dividends, a Credit Positive for Banks Last Tuesday, Poland’s banking supervisor Komisja Nadzoru Finansowego introduced systemwide guidelines that allow profitable banks’ to pay dividends in 2013 on a limited basis. The supervisory guidance is credit positive for banks because it discourages excessive dividend payout, provides clear guidance on positive capital creation and will contribute to strengthening banks’ risk-absorption buffer. The regulator can apply corrective regulatory measures to a bank that violates the guidelines or whose dividend plan it considers imprudent.2

The guidance allows dividends only when a bank’s year-end 2013 and 2014 base scenario minimum capital adequacy ratio is 12% and its Tier 1 ratio 9%, and the maximum payout ratio is capped at 100% of 2013 profit. Some of the additional conditions (including the supervisor’s assessment of the bank’s riskiness – its overall Badanie i Ocena Nadzorcza (BION) score, the capital adequacy BION -- and the prohibition of dividend payments by banks under the supervisor’s remedial plan) are less severe in our opinion since banks under remedial plans tend not to be profitable and therefore would be unlikely to announce dividends.

The guidance facilitates capital planning for the next year, a benefit for banks’ domestic and foreign owners. Foreign bank ownership in Poland, as in other Central and East European countries, is sizeable and accounts for approximately 65% of total system assets. However, Poland’s dividend payout guidance is unique in the Central and East European region.

The guidelines discourage excessive dividend payouts and maintaining capital, even in cases where significantly high capital levels have been accumulated from retained earnings in prior years. For example, we expect that existing high systemwide capital ratios will be maintained across the board, particularly at entities such as Bank Polska Kasa Opieki S.A. (A2 negative; C-/baa1 stable3), and Bank Handlowy w Warszawie S.A. (Baa3 stable; D+/baa3 stable), which reported respective capital adequacy ratios of 19.4% and 16.7% as of third-quarter 2013.

This is the regulator’s third consecutive year of issuing dividend payout guidelines, reflecting its commitment to improving the banking system’s risk absorption capacity. Systemwide capital adequacy metrics are clearly improving, as shown in the exhibit, and at the end of September were at their highest level of the past 10 years. In line with these trends, we expect that capital ratios will improve by 100-150 basis points in 2014.

2 According to the provisions of the Banking Act, the regulator may, after prior written warning notice, discharge or suspend

members of the bank’s management board, limit the scope of the banking activity, impose financial penalty on the bank of up to 10% of its income, or in the most extreme cases, revoke its banking license.

3 The bank ratings shown in this report are the banks’ deposit ratings, their standalone bank financial strength ratings/baseline credit assessments and the corresponding rating outlooks.

Irakli Pipia Vice President - Senior Analyst +44.20.7772.1690 irakli.pipia@moodys.com

Jakub Lichwa Associate Analyst +44.20.7772.1395 jakub.lichwa@moodys.com

NEWS & ANALYSIS Credit implications of current events

13 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Polish Bank Capital Adequacy and Tier 1 Ratio Development Since Year-End 2009

Source: Komisja Nadzoru Finansowego

However, the 2013 guidelines have a somewhat higher allowance – 100% of 2013 profits – of dividend distribution than the 2012 policy, which capped dividends at 75% of 2012 profits for individual banks.

Despite the relaxation of previous restrictions, such clear-cut guidelines establish the maximum payout ratio in the next year and have a positive effect on the aggregate capital adequacy level in the Polish banking system.

10%

11%

12%

13%

14%

15%

16%

17%

Capital Adequacy Ratio Tier 1 Ratio

NEWS & ANALYSIS Credit implications of current events

14 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Slovenia’s Banking Stress Tests and Recapitalisation Plans Are Credit Positive Last Thursday, the Bank of Slovenia, the central bank, reported that its stress tests on a sample of the 10 largest and systemically important banks, which hold 70% of total assets4 in Slovenia’s banking system, revealed a capital shortfall of €4.8 billion.5 The central bank also outlined a government-led recapitalisation plan for the systemically important institutions.

Publication of the stress test results and the government’s recapitalisation plan, pending European Commission approval, is credit positive for Slovenia’s banks because the extent of bad assets in the system on a stress-tested basis is defined and a corrective plan is in place that also provides a roadmap for future handling of nonperforming loans.

The capital gap is concentrated in the system’s three largest banks, Nova Ljubljanska Banka d.d. (Caa2 negative; E/ca no outlook6), Nova Kreditna banka Maribor d.d. (Caa2 negative; E/caa3 negative) and Abanka Vipa d.d. (Caa3 negative; E/ca no outlook) and totals €3 billion. The government plans injections of €2.1 billion in cash and €0.9 billion in securities to bring these three banks’ capital ratios close to 15%. In addition, the government expects private investors to cover the shortfall of €1.8 billion within the remaining banks. However, if private investors do not resolve the capital shortfall by 30 June 2014, these banks will also be able to request state aid, in accordance with European Commission rules.

Assessing the bad assets was particularly useful because non-performing loans have grown rapidly for the past several years, as shown in the exhibit below, leading the banks to report increasingly higher losses each year and creating uncertainty about the extent of recoverable loan book values.

Slovenia Banking System Profitability and Non-Performing Loan Ratio

Source: Bank of Slovenia

The government’s clear recapitalisation plan for the leading banks will improve their lending capacity and ease deleveraging trends that are harmful to economic growth. This comprehensive approach is a shift from previous ad hoc attempts and rescue measures applied to individual banks over the past several years, which proved to be insufficient in preventing further deterioration of the system.

4 The remaining 30% of the system will be reviewed by the Bank of Slovenia as part of its regulatory supervisory function. 5 This excludes the recapitalisation required for Probanka and Factor Banka in the amount of €445 million, which have been

undergoing an orderly wind down since autumn this year. 6 The bank ratings shown in this report are the banks’ deposit ratings, their standalone bank financial strength ratings/baseline credit

assessments and the corresponding rating outlooks.

0%

5%

10%

15%

20%

25%

-€800

-€600

-€400

-€200

€0

€200

€400

2008 2009 2010 2011 2012 Q3 2013

€M

illio

n

Net Profit Nonperforming Loan Ratio

Irakli Pipia Vice President - Senior Analyst +44.20.7772.1690 irakli.pipia@moodys.com

Jakub Lichwa Associate Analyst +44.20.7772.1395 jakub.lichwa@moodys.com

NEWS & ANALYSIS Credit implications of current events

15 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

These stress tests pave the way for the further clean-up and transfers of impaired assets by these banks to the Bad Asset Management Company (BAMC), which will act as a backstop against further losses on the loan portfolio. Under the BAMC plan, banks transfer bad assets in exchange for sovereign securities, which improves their liquidity.

The proposed recapitalisation plan is subject to the approval of the European Commission, which needs to issue a formal confirmation that these capital injections will comply with its state aid rules. Until these formal procedures are in place, we will maintain our very low “ca” standalone credit assessment for the distressed Slovenian banks.

NEWS & ANALYSIS Credit implications of current events

16 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Insurers

US Health Insurers Get Dose of Complexity and Risk from New Requirements On Thursday, the US Department of Health and Human Services (HHS) announced new requirements and requests related to the Affordable Health Care Act that are credit negative for insurers because they will complicate administration and impose additional financial risks on insurers.

The timing of the additional conditions is especially troublesome because it gives insurers insufficient time to put administrative procedures in place by the first of the year and will very likely cause more confusion for individuals insured under these policies. Equally troubling, the announcement reveals an unstable and evolving regulatory environment well after insurers have had to commit to product and pricing decisions.

The specific items included in the HHS announcement and the implications for insurers are as follows:

» Requiring insurers to accept payments through 31 December for coverage beginning 1 January 2014 and urging insurers to give individuals additional time to pay their first month’s premium and still have coverage beginning on the first of the year.

Implications - The provision to allow payments to insurers as late as the last day of the year and ensure that coverage is effective the next day poses administrative challenges. It will be very difficult for insurers to turn around files and provide ID cards to individuals in such a short timeframe. It also encourages individuals to delay their payments to the end of the year. Allowing coverage before any premium is received – providing unpaid coverage for a short period of time – is unlikely to pose a substantial financial risk to any insurer since almost all plans on the insurance exchanges have high deductibles. However, this provision could lead to considerable financial exposure if the individual is not promptly removed from the list of insureds and if healthcare providers are not notified if the extended premium deadline is missed. The provision also encourages delays in premium payment and presents an opportunity for fraud.

» Strongly encouraging insurers to treat out-of-network providers as in-network to ensure continuity of care for acute cases or providers listed in an insurer’s directory on enrollment date.

Implications - Since most insurance policies already specify a transition period allowing doctors to continue to care for patients in acute cases when health insurance coverage changes, this request should not be a problem for insurers. However, the latter provision does not seem practical. Networks regularly add or drop providers for a number of reasons. In addition to the administrative burden, allowing individuals to be treated by out-of-network doctors without any financial penalty jeopardizes the medical savings assumptions insurers have built into their premiums.

» Strongly encouraging insurers to refill prescriptions covered under previous plans during January.

Implications - Factoring in the plan deductible contained in these polices and the usual practice by insurers to allow some transition period for refilling prescriptions during a change in insurance coverage, this request should not be a problem for insurers.

» Possibly allowing individuals who sign up after the 23 December deadline to have coverage effective on 1 January or as soon as possible before 1 February 2014.

Steve Zaharuk Senior Vice President +1.212.553.1634 stephen.zaharuk@moodys.com

NEWS & ANALYSIS Credit implications of current events

17 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Implications - This provision would place tremendous pressure on insurers to process applications (many of which could have errors), communicate premium obligations and collect premiums in a very short time frame. The possibility of having rolling enrollments, with polices beginning on different days of the month, will also, we think, pose a substantial administrative burden for insurers and lead to confusion with providers and insureds.

NEWS & ANALYSIS Credit implications of current events

18 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Asset Managers

Mexican Pension Fund Fee Reduction Is Credit Negative for Small and Midsize Managers Last Tuesday, the Mexican regulator of private pension funds, Comisión Nacional del Sistema de Ahorro para el Retiro (CONSAR), published the 2014 fee rates of local pension funds based on the pension fund managers’ (afores) announcements. Afores rates will fall to an average of 1.20% from a 2013 average of 1.29%. This reduction is credit negative for small and mid-sized afores that do not have the scale to maintain profitability with fee levels that have fallen from 1.81% in 2008.

We expect afores with relatively low market share to be those most affected by the lower fees. These managers include Afore Metlife (unrated), Afore Azteca (unrated) and Afore Afirme Bajío (unrated). To maintain their profitability, small and mid-sized managers will need to attract new investors by improving their funds’ performance to maintain and increase their assets under management (AUM) to remain competitive in a concentrated industry.

The exhibit below shows the reduction in 2013 fees for each Mexican afores. We estimate that for every 10-basis-point reduction in fees, the industry’s income decreases by 7% on average, assuming AUM remain stable.

Mexican Pension Fund Asset Manager Assets and Fees as of October 2013

Asset Manager

Total Assets Under Management MXN Billions Market Share Fees for 2014 Fees for 2013

Percent cut from 2013 levels

Afore XXI-Banorte 545.9 26.9% 1.07% 1.10% -2.7%

Afore Banamex 349.3 17.2% 1.09% 1.16% -6.0%

Afore SURA 283.9 14.0% 1.15% 1.21% -5.0%

Afore Profuturo GNP 238.8 11.8% 1.17% 1.27% -7.9%

Afore Principal 136.1 6.7% 1.24% 1.36% -8.8%

Afore Invercap 122.9 6.0% 1.32% 1.47% -10.2%

Afore Inbursa 97.5 4.8% 1.14% 1.17% -2.6%

Afore PensionISSSTE 94.0 4.6% 0.99% 0.99% 0.0%

Afore Coppel 77.6 3.8% 1.34% 1.49% -10.1%

Afore Metlife 61.4 3.0% 1.25% 1.39% -10.1%

Afore Azteca 18.4 0.9% 1.31% 1.45% -9.7%

Afore Afirme Bajío 5.5 0.3% 1.32% 1.40% -5.7%

Total 2,031.2 100.0%

Source: Comisión Nacional del Sistema de Ahorro para el Retiro and Moody’s Investors Service

Management fees are the afores only revenue source. Each year, CONSAR’s board of directors receives the afores’ management fee proposals and approves them for the following year. Over the past few years, CONSAR has taken steps to reduce fees in the Mexican pension fund industry closer 1%, similar to other countries.

The four largest afores, Afore XXI-Banorte (unrated), Afore Banamex (unrated), Afore SURA (unrated) and Afore Profuturo GNP (unrated), which manage 70% of the industry’s total AUM, are better positioned to absorb fixed costs and general operation expenses despite lower management fee income than smaller afores, thus putting pressure on smaller afores.

José Montaño Assistant Vice President - Analyst +52.55.1253.5722 joseangel.montano@moodys.com

NEWS & ANALYSIS Credit implications of current events

19 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Sovereigns

El Salvador Gets Credit-Positive Contingent Credit Line from Inter-American Development Bank Last Tuesday, the Central Reserve Bank of El Salvador, the central bank, received a $100 million contingent line of credit from the Inter-American Development Bank (IADB, Aaa stable). As an officially dollarized economy where the central bank cannot act as a lender of last resort, the credit line will provide a layer of precautionary liquidity support for the banking system over the next six years, a credit positive for El Salvador (Ba3 stable).

The central bank’s request for precautionary liquidity support for the banking system reinforces our view that El Salvador has sound institutions that endeavor to ensure that the country is well protected from risks, and reduces the already low risk that contingent liabilities stemming from the banking system will crystallize.

El Salvador’s banks have good liquidity since actual reserves are healthy and consistently above the central bank’s legal requirement. The central bank temporarily increased reserve requirements by 2% of deposits from August to December this year, in the lead up to next year’s presidential elections. In the last two weeks of October, banks’ reserves averaged 22.2% of deposits, above the legally required 20.3%, and well above the levels typical in countries whose central banks serve as lenders of last resort to the banking system.

However, during periods of uncertainty such as the February 2014 presidential election and the 2009 elections, the government has typically had an additional layer of liquidity support to prepare for election-related uncertainty and compensate for the fact that El Salvador’s central bank is unable to function as a lender of last resort. This additional layer of liquidity support had been a $790 million (8% of deposits) International Monetary Fund (IMF) stand-by arrangement (SBA), but it expired in March this year. Therefore, the $100 million (1% of deposits) contingent line of credit from the IADB, although smaller than the funds available through the SBA, inspires confidence that the central bank will have the capacity to channel funds to financial institutions in the highly unlikely event that liquidity support were to become necessary.

El Salvador’s is one of the first such credit lines extended through the IADB’s new “development sustainability contingent credit line” product, introduced in late 2012. The $100 million loan is due in six years, with a three-year grace period and an interest rate based on LIBOR.

Sarah Glendon Assistant Vice President - Analyst +1.212.553.4534 sarah.glendon@moodys.com

NEWS & ANALYSIS Credit implications of current events

20 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Israel’s Fiscal Performance Beats Expectations, a Credit Positive On 9 December, Israel’s (A1 stable) Ministry of Finance reported that the accumulated central government deficit for the 12 months through November totaled around 3% of the ministry’s expected 2013 GDP. That level is down from 4.0% of GDP for the same period in 2012 and well below the budgeted full-year target of 4.65% of GDP set in July by the newly formed government.

The better-than-expected outcome is credit positive and the result of both spending restraint and revenue outperformance; it also suggests that the downward trajectory of Israel’s debt/GDP ratio will continue. However, this year’s outcome is due almost entirely to one-off factors and since the government has not changed next year’s 3% of GDP deficit target, we do not expect additional fiscal consolidation for 2014.

The latest figures show that the central government’s cumulative deficit from January to November totaled NIS18.9 billion, versus NIS26.2 billion a year earlier (see exhibit). Year-to-date expenditures were up 5.7% from last year, lower than the budgeted full-year increase of 8.8%. Civilian expenses increased 7.4%, while defense spending rose 1.0%, from a year earlier.

Israel Cumulative Central Government Fiscal Balance in 2012 and 2013

Source: Israel Ministry of Finance

The lower-than-expected increase in spending reflects that during the first seven months of this year, the ministries’ monthly spending was limited to one-twelfth of the 2012 budget, capping expenditures at last year’s levels in the absence of a 2013 budget. A newly elected government approved the 2013 budget only in July, resulting in partial execution of certain sections of the budget. In addition, the continued appreciation of the shekel against the dollar contributed to lower interest payments.

On the revenue side, successive direct and indirect tax hikes contributed to an increase in tax collection to NIS219 billion, nearly reaching the full-year target of NIS234.5 billion. However, about NIS8 billion of income relates to one-offs such as tax payments from companies taking advantage of legislation allowing them to release “trapped” profits at a lower tax rate.7

7 A cut in the corporate tax rate applied to the repatriated profits of multinational companies that agree to meet certain investment

requirements resulted in higher capital outflows, more than offsetting the lower rate.

-5%

-4%

-3%

-2%

-1%

0%

1%

-50

-40

-30

-20

-10

0

10

Jan. Feb. March April May June July August Sept. Oct. Nov. Dec.

Perc

ent o

f GD

P

NIS

Bill

ion

Last 12 Month Balance - right axis 2012 Cumulative Balance - left axis

2013 Cumulative Balance - left axis

Kristin Lindow Senior Vice President +1.212.553.3896 kristin.lindow@moodys.com

Rebecca Karnovitz Associate Analyst +1.212.553.1054 rebecca.karnovitz@moodys.com

NEWS & ANALYSIS Credit implications of current events

21 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Another factor contributing to the smaller deficit/GDP ratio is the country’s Central Bureau of Statistics’ recent rebasing of Israel’s national accounts data, which led to an upward revision in the value of nominal GDP.8

A smaller headline deficit is credit positive because it suggests that Israel’s debt metrics will continue to improve and remain on the path that lowered Israel’s debt/GDP ratio to 68% at the end of 2012 from more than 95% in 2003. However, the pace of improvement has decelerated because the government has repeatedly relaxed its deficit targets since 2011 amid faltering demand from the export-oriented economy’s main trading partners. Although the external environment is starting to recover, meeting next year’s deficit target of 3% of GDP will be challenging owing to a subdued domestic economy and the fact that this year’s fiscal outperformance is in large part the result of one-off factors.

Moreover, although some of the revenue measures that Israel implemented this year will carry over into next year, the government has decided to rescind the personal income tax increase that was in the 2014 budget. The NIS3 billion in revenue lost as a result of the rescission will be offset by other savings, notably lower interest payments. Still, we believe Israel will need additional measures to meet 2015-17 targets.

8 The base year of the national accounts was updated to 2010 prices and sectoral shares from 2005 in August 2013.

NEWS & ANALYSIS Credit implications of current events

22 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

US Public Finance

US Budget Deal Avoids Onerous Spending Cuts Next Month, a Credit Positive for State and Local Governments The two-year US federal budget deal passed by the House of Representatives on Friday reflects a significant shift from the political gridlock in October that resulted in a government shutdown. We expect the deal to pass the Senate as early as Tuesday, with President Barack Obama signing it shortly thereafter. The measure, the Bipartisan Budget Act of 2013, significantly reduces the likelihood of another shutdown when the temporary budget expires on 15 January 2014, rescinds $22 billion of automatic spending cuts scheduled to take effect then, and makes federal funding through fiscal 2015 predictable, a credit positive for state and local governments. However, the 7 February expiration of the debt-limit suspension still poses risks to the flow of federal funds.

The 16-day federal shutdown that started 1 October reduced projected GDP growth by 0.5% in 2013 and 2014, according to Moody’s Analytics, dampened consumer confidence just before the current holiday season and potentially hurt sales tax collections that account for 31% of aggregate state general fund revenues, according to the National Association of State Budget Officers.

In the Washington, DC, metropolitan area, the shutdown, which temporarily furloughed a sizable portion of the region’s heavily federal workforce, resulted in a 13.7% drop in residential real estate closings in November, the first decline in 15 months, according to Real Estate Business Intelligence. The Washington, DC, metropolitan area comprises the District of Columbia (Aa2 stable); City of Alexandria, Virginia (Aaa stable); Arlington County, Virginia (Aaa stable); City of Fairfax, Virginia (Aaa stable); Fairfax County, Virginia (Aaa stable); City of Falls Church, Virginia, (Aa1); Montgomery County, Maryland (Aaa stable); and Prince George’s County, Maryland, (Aaa stable).

The new budget deal reflects a significant turnaround from just two months ago and significantly reduces the uncertainty caused by the budget debate that we cited in our recent state and local government outlooks. The measure lays out a clear framework for federal fiscal 2014 and 2015 budgets and essentially eliminates the chance of another shutdown when the current continuing resolution expires next month. For states, the timing is especially positive because most governors propose their next budgets in mid-January and gridlock in Washington would make planning state finances particularly difficult.

The budget agreement also avoids a second round of steep automatic spending cuts that would have taken effect next month. The Budget Control Act of 2011 created caps on discretionary federal spending, a $1.2 trillion reduction in expenditures between 2013 and 2021 known as the sequester. Without the new agreement, nearly $22 billion in cuts to defense spending would have taken effect; defense spending was the only category of discretionary appropriations in the current temporary budget that exceeded the permitted caps.

The credit effect of such reductions would have been substantial in areas whose economies rely heavily on the defense sector, especially in Virginia (Aaa stable), where defense procurement contributes nearly 10% of state GDP (see exhibit). The new budget agreement eliminates the near-term cuts and instead finds savings by adding new revenue and pushing the sequester’s cuts out two years to 2023, according to the Congressional Budget Office.

Nick Samuels Vice President - Senior Credit Officer +1.212.553.7121 nicholas.samuels@moodys.com

NEWS & ANALYSIS Credit implications of current events

23 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Defense Procurement as Percent of US States’ Gross Domestic Product

Source: US Census, Bureau of Economic Analysis

Still unresolved for state and local governments are potential risks related to the expiration of the debt limit suspension on 7 February. Although we think lawmakers will reach a deal, the flow of federal funds to state and local governments could be disrupted if the government has to adjust its own cash outflows to make its $35 billion 15 February interest payment.

0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

VA CT AL AZ MO

MD AK H

IW

IM

E KY SC VT ME LA TX CA CO UT

PA GA

NM NH FL MS

OK NJ IN RI KS W

A SD OH TN IA

MN IL AR NV

NY

MT

NC

ND

NY

MN

WV

OR ID

WY DE

NEWS & ANALYSIS Credit implications of current events

24 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Structured Credit

Final Volcker Rule Has No Credit Effect on CLOs Holding Only Loans Last Tuesday, US financial regulators issued final regulations implementing the so-called “Volcker Rule” enacted under Section 619 of the Dodd Frank Act. The final rule allows banks to retain ownership in CLOs that invest only in loans and will have no credit effect on those CLOs. In certain circumstances, the Volcker Rule might negatively affect the credit quality of CLOs having the investment flexibility to hold assets other than loans, such as bonds or other securities.

Loan-only securitizations are exempt from the final rule. For a CLO to be exempt from the final rule’s constraints on bank investment, it must fit within the final rule’s definition of “loan securitization.” In general, a CLO holding only loans and certain other assets incidental to a loan securitization’s operations (e.g., such as cash equivalents ) will qualify. A qualifying CLO’s investment limitations might have a credit-positive effect by requiring the CLO’s manager to operate within its proven expertise in loan market credit evaluations, rather than exploring the risks of other non-standard CLO investments such as bonds or notes issued by other securitizations.

Banks will continue to be able to sponsor, own equity, provide warehouse financing and make markets for such exempt CLOs. However, the same activities for a non-exempt CLO that a bank owns equity in will no longer be permissible for banks when the Volcker Rule regulations become applicable in July 2015. The final regulations remove what had been a potential for even greater constraints on the ability of banks to maintain their traditional involvement in the CLO market, which has been critical to CLO formation and the operation of the CLO markets. We expect that arrangers (typically banks) will structure future CLOs to meet the loan securitization definition to make them exempt from the Volcker Rule constraints.

CLOs with investment flexibility in non-loans will be subject to Volcker Rule constraints. Banks that own equity in non-exempt CLOs that invest in securities other than loans (i.e., CLOs not constituting loan securitizations) will have to either divest such interests or cause the CLOs to divest non-loan assets by July 2015. However, banks usually invest in Aaa or Aa CLO notes and rarely own CLO equities for the long term.

For banks holding senior CLO debt, the “ownership interest” definition under the final Volcker Rule regulations includes an interest that has the right to participate in the selection or removal of an “investment manager.” Some senior CLO debt tranches do have such approval or consent rights for appointment of a CLO’s successor collateral managers, so banks need to consider whether any such rights provided by their CLO debt interests could pull them within the purview of the regulation’s definition of ownership interest.

The final rule’s limitation on the type of assets held by a loan securitization may affect more of the older CLOs, the so-called 1.0 structures, which have often had bond and structured finance securities investments, and in significant percentages for deals that have amortized. Existing CLOs that do not currently qualify as loan securitizations can divest their non-loan investments and amend the transaction terms governing their permissible investments.

Some current CLOs include terms requiring the divestiture, at the time the final rules become applicable, of any assets preventing the CLO from being exempt. Divesting a CLO’s assets at any time, especially the forced sale of assets at a particular time, exposes the CLO to market risk, however, which can be credit negative.

Ruth Olson Vice President - Senior Analyst +1.212.553.4092 ruth.olson@moodys.com

RATING CHANGES Significant rating actions taken the week ending 13 December 2013

25 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Corporates

Continental Resources, Inc. Upgrade

5 Mar ’12 13 Dec ‘13

Senior Unsecured Rating Ba1 Baa3

Outlook Stable Stable

The upgrade reflects our expectations for continued growth in production and proved developed reserves, projections that the company will shrink the gap between operating cash flow and capital spending in 2014 and Continental’s strong operating efficiency ratios, which should contribute to future leverage reductions.

Darling International Inc. Downgrade

7 Oct ’13 10 Dec ‘13

Corporate Family Rating Ba1 Ba2

Outlook Review for Downgrade Stable

The rating change reflects Darling’s weakened credit metrics and the execution risks associated with its planned acquisition of Vion Ingredients, Inc. It also reflects the risks associated with the volatility of related commodities, changes in raw material volumes and the price of finished products.

Federal-Mogul Corporation Outlook Change

25 Oct ’12 10 Dec ‘13

Corporate Family Rating B2 B2

Outlook Stable Negative

The outlook change reflects the recent downgrade of the company’s speculative-grade liquidity rating to SGL-4 from SGL-3. It also incorporates our belief that the refinancing comfort letter from an affiliate of Carl C. Icahn, who owns 81% of the voting power of Federal-Mogul's capital stock, does not mitigate concerns surrounding a pending maturity.

Gilead Sciences, Inc. Outlook Change

23 Mar ’11 9 Dec ‘13

Senior Unsecured Rating Baa1 Baa1

Outlook Stable Positive

The outlook change reflects the potential for Sovaldi, Gilead’s innovative hepatitis C treatment, to significantly expand the company’s cash flow, financial flexibility and business diversity. Successful commercialization of Sovaldi and continuing strong credit metrics could lead to a rating upgrade.

RATING CHANGES Significant rating actions taken the week ending 13 December 2013

26 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Sysco Corporation Review for Downgrade

10 May ’06 9 Dec ‘13

Senior Unsecured Rating A1 A1

Short-Term Issuer Rating P-1 P-1

Outlook Stable Review for Downgrade

The review for downgrade follows Sysco's announcement that it is acquiring US Foods for approximately $8.2 billion. The debt assumed will likely lead to deterioration in Sysco’s credit metrics.

Infrastructure

Toll Road Investors Partnership II, L.P. Downgrade

7 Nov ‘12 12 Dec ‘13

Issuer Rating Ba1 Ba2

Outlook Negative Stable

The rating change reflects lackluster traffic growth, escalating debt service and ongoing public opposition to toll rate increases. It also reflects the project's significant underperformance compared to original traffic and financial projections; high leverage and back-loaded debt; and weak financial metrics. Toll Road Investors is a special purpose company that owns a concession to operate the Dulles Greenway, a 14-mile long toll road extending westward through Loudoun County, VA from Dulles Airport to the Town of Leesburg.

RATING CHANGES Significant rating actions taken the week ending 13 December 2013

27 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Financial Institutions

Positive Rating Actions on 13 Insurers in Bolivia

11 Dec ‘13

We have taken positive rating actions on 13 Bolivian insurers, following recent improvement in Bolivia's insurance operating environment, as reflected in our updated sovereign credit factor assessment for Bolivia. An improving operating environment tends to have a positive influence on insurers' credit profiles, as it may translate over time into improved business and financial fundamentals for them. In the actions we placed the global-local currency and the national scale insurance financial strength ratings of 11 insurers on review for upgrade. We also affirmed Seguros Illimani's Caa1 GLC insurance financial strength rating with a stable outlook and placed on review for upgrade the insurer's Baa2.bo national scale insurance strength rating, as well as affirmed Seguros Provida's Caa1 GLC insurance strength rating and Baa3.bo national scale insurance strength rating and changed the outlook for both ratings to stable from negative.

Outlook on Spanish Banks' Baa3 Government-Guaranteed Debt Revised to Stable

11 Dec ‘13

We have changed the outlook on the Baa3 government-guaranteed debt ratings of 13 Spanish banks to stable from negative: Caixabank, Bankinter, Banco Sabadell, Banco Cooperativo Espanol, Ibercaja Banco, Banco Popular Espanol, Unicaja Banco, Liberbank, Bankia, Banco Financiero y de Ahorros, Catalunya Banc, NCG Banco and Banco CEISS. We have also changed to stable from negative the outlook on the Baa3 rated long-term debt of Instituto de Credito Oficial, whose ratings are based on the unconditional and irrevocable guarantee from the Spanish Government. These rating actions follow the 4 December affirmation of the Baa3/Prime-3 government bond ratings of Spain and the change of the outlook to stable from negative.

Banca Sella Holding Downgrade

24 Sep ‘13 12 Dec ‘13

Deposit Ratings Baa3/Prime-3 Ba1/Not-Prime

Standalone Financial Strength/ Baseline Credit Assessment

D+/ba1 D/ba2

The main driver of the downgrade is the bank's deteriorating asset quality, in a context of weak profitability and low capital levels providing only a limited cushion against the risks of a further loan portfolio deterioration. In June 2013 Banca Sella's problem loans accounted for 10.5% of gross loans, up 100 basis points from December 2012.

RATING CHANGES Significant rating actions taken the week ending 13 December 2013

28 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Central Bank of India Downgrade

17 Jun ‘13 11 Dec ‘13

Standalone Financial Strength/ Baseline Credit Assessment

E+/b1 E+/b3

Outlook Stable Negative

The downgrade follows the bank’s INR15.1 billion net loss in the quarter ending 30 September. The result largely offsets the INR18.0 billion capital injection expected from the government of India (Baa3 stable) in the fiscal year ending 31 March 2014. The government has provided CBI with capital injections in three successive years.

Danske Bank A/S Outlook Change

30 May ‘12 10 Dec ‘13

Outlook Stable Positive

Long-Term Rating Baa1 Baa1

We changed the outlook on the bank’s long-term debt/deposit ratings to positive from stable based on the expectation that Danske Bank will show a continued improvement in profitability, substantially closing the gap in this area between itself and peers, while at the same time maintaining a high level of capital and a prudent risk profile.

General Motors Financial Company, Inc. Upgrade

23 Sep ‘13 10 Dec ‘13

Corporate Family Rating Ba3 Ba2

Senior Unsecured Debt Rating Ba3 Ba2

Since its acquisition by GM in October 2010, GMF has become increasingly integrated with its financially strengthened parent company and GM vehicle sales financing, a credit positive. GMF's transformation into GM's captive finance company has improved the company's intrinsic credit quality, via increased financing volumes and finance income for GMF, stronger average portfolio asset quality, and reduced volatility of assets and earnings.

RATING CHANGES Significant rating actions taken the week ending 13 December 2013

29 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

JSCB Bank of Moscow Upgrade

9 Jul ‘13 13 Dec ‘13

Deposit Ratings Ba2 Ba1

Senior Unsecured Debt Ratings Ba2 Ba1

Subordinated Debt Rating B1 Ba3

The upgrade is driven by the increased likelihood of support to Bank of Moscow from its parent, Bank VTB. We consider Bank of Moscow to have made good progress in its integration into VTB since its acquisition in 2011. Moreover, Bank of Moscow's contribution to VTB's profitability is significant and growing.

Mapfre Global Risks SA Outlook Change

24 Oct ‘12 12 Dec ‘13

Outlook Negative Stable

Long-Term Rating Baa2 Baa2

Mapfre Asistencia SA Outlook Change

24 Oct ‘12 12 Dec ‘13

Outlook Negative Stable

Long-Term Rating Baa2 Baa2

We have changed the outlooks to stable to align them with Spain's stable outlook, given Mapfre group's significant exposure to Spanish sovereign risk, due to both domestic investments (namely sovereign and banking) and its domestic businesses.

MedioCredito Trentino-Alto Adige Downgrade

24 Sep ‘13 12 Dec ‘13

Deposit Ratings Baa2/Prime-2 Baa3/Prime-3

Standalone Financial Strength/ Baseline Credit Assessment

D+/ba1 D-/ba3

The downgrade reflects MTAA's weakening financial fundamentals, notably the quality of its loan book and its ability to generate recurring earnings; its capital base only partially mitigates these pressures. Profitability has been deteriorating over the last 18 months.

RATING CHANGES Significant rating actions taken the week ending 13 December 2013

30 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

QBE Insurance Group Limited Downgrade

19 Jun ‘13 10 Dec ‘13

Issuer Rating Baa1 Baa2

Unsecured Debt Rating Baa1 Baa2

The downgrade follows the company's announcement that it will report a net loss of approximately $250 million for 2013 as a result of the write-down of intangible assets (approximately $930 million) and additions to reserves and risk margins (approximately $670 million) primarily related to its North American operations. The action reflects the group's weakened profitability, internal capital generation and debt service coverage measures. The rating action also reflects the likelihood of lower prospective profitability from the group's North American operations, and still elevated financial and operational leverage.

Qishloq Qurilish Bank Upgrade

27 Apr ‘12 11 Dec ‘13

Long-term Local Currency Deposit Rating

B2 B1

The upgrade reflects Qishloq Qurilish Bank's improved risk profile as the bank reduces its material exposure to non-core assets by divesting its engineering subsidiary Qishloq Qurilish Invest, which accounted for around 40% of the bank's total consolidated assets as at year-end 2012.

Swiss Reinsurance Company Ltd Upgrade

3 May ‘13 10 Dec ‘13

Insurance Financial Strength Rating A1 Aa3

Senior Debt Ratings A1 Aa3

The upgrade reflects the Swiss Re Group's improved financial profile notably with respect to profitability and financial flexibility, while maintaining an overall excellent market position and strong business diversification. We expect capital adequacy to remain strong, and with the group's rebalancing of its investment portfolio largely complete, we do not expect a material increase in high risk assets.

RATING CHANGES Significant rating actions taken the week ending 13 December 2013

31 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Sovereigns

Hungary Confirmation

8 Feb ‘13 9 Dec ‘13

Long-Term Issuer Rating Ba1 Ba1

Outlook Negative Negative

The rating confirmation reflects the Hungarian economy's limited medium-term growth prospects, which are likely to complicate the government's efforts to reduce its substantial debt burden. These concerns are balanced by credit strengths such as Hungary's wealth levels, economic and financial integration with Europe, and its predominantly foreign-owned banking sector, which limits contingent liabilities for the government.

Sub-sovereigns

Spanish Sub-sovereigns Outlook Change

12 Dec ‘13

Issuer and Debt Ratings Baa2-B1 Baa2-B1

Outlook Negative Stable

The outlook change on the ratings of all Spanish sub-sovereigns reflects our belief that Spain’s improving medium-term economic prospects will lead to higher tax revenue and growing state transfers for regions, helping them to rebalance their budgets. The change is based on, first, our change of the outlook on the Spanish Baa3 sovereign rating on 4 December, and, second, the strong correlation between sub-sovereign and sovereign credit risk, reflected in macroeconomic linkages, institutional factors and financial market conditions.

RATING CHANGES Significant rating actions taken the week ending 13 December 2013

32 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

US Public Finance

Puerto Rico Review for Downgrade

3 Oct ‘13 11 Dec ‘13

Issuer Rating Baa3 Baa3

Outlook Negative Review for Downgrade

The review reflects the commonwealth's weakening liquidity, increasing reliance on external short-term debt, and constrained market access. These developments exacerbate the financial strain brought on by Puerto Rico’s high debt load, pension obligations and chronic budget deficits.

Rensselaer Polytechnic Institute, NY Outlook Change

12 Aug ‘11 9 Dec ‘13

Issuer Rating A3 A3

Outlook Stable Negative

The outlook change reflects the university’s continued operating deficits and thin debt service coverage, with multi-year declines in expendable financial resources. The university's strategic plan has improved student demand and research competitiveness, but also left it with very high debt. In the difficult environment, with greater competition for students, research, and philanthropy, we believe RPI will be challenged to grow its revenues to support the high degree of operating leverage.

Structured Finance

TruPS CDO Notes Issued by Preferred Term Securities XXII, Ltd. Are Upgraded On 10 December, we upgraded the ratings on TruPS CDO notes issued by Preferred Term Securities XXII, Ltd., affecting $885.4 million of debt, primarily because of the credit quality of the underlying portfolio. The Class A-1 notes have been paid down by approximately $4.3 million since the last payment date, due to the diversion of excess interest proceeds. The senior notes will continue to benefit from the diversion of excess interest and the proceeds from future redemptions of any assets in the collateral pool.

RESEARCH HIGHLIGHTS Notable research published the week ending 13 December 2013

33 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Corporates

US Consumer Durables: Operating Profit Growth Will Increase Amid Gradual US Economic Expansion

Our outlook for the US consumer durables sector is positive, reflecting our expectation that aggregate operating profit will rise 5% to 6% over the next 12-18 months. Lower cost structures, gradual US economic expansion, spending by affluent consumers and continuing stability in the US housing market will drive the sector’s overall growth.

Asia Pacific Refunding Risks and Needs: Corporates Should Be Able to Refinance $378 Billion in Bonds Maturing Through 2017

Most Asia Pacific non-financial corporate debt issuers should be able to refinance their near- to medium-term bond maturities given investors’ willingness to lend. Moreover, roughly 88% of the maturing bonds are investment-grade and 66% are domestic, making refinancing even more likely.

US Cable Industry: On Track for Steady Growth Through 2014

We have a stable outlook for the US cable industry based on our expectations for EBITDA growth of about 3% in 2013 and 2014. High-speed data subscriber additions and expansion of commercial services will offset video subscriber losses to facilitate growth.

US Coal Industry Faces Steady but Weak 2014, With No Relief in Sight

We expect a modest decline in the US coal industry’s 2014 earnings, as higher-priced contracts continue to roll off and low prices for metallurgical coal persist. The abundance, lower cost and environmental advantages of natural gas will pose the biggest challenges for the sector.

Global Advertising Industry: Big Data Threatening Ad Agencies' Value as Industry Shifts to Digital We expect leading ad agencies, such as Omnicom Group, Inc. and Publicis Groupe S.A., to be increasingly displaced by more innovative and technology-savvy competitors. As a result, ad agencies will need to continue investing in technology and talent to enhance their capabilities in data tracking, analytics and cross-channel advertising.

US Steel Industry: Slow Growth in Demand Further Delays Recovery for Industry

We expect US steel industry capacity utilization to be between 75% and 80% in 2014, with production up only modestly over 2013 levels. Sluggish improvement in the construction industry and softness in other key markets, such as machinery and equipment, will continue to pose challenges.

European Building Materials Industry: Credit Metrics Influenced by Non-controlling Interests and Accounting for Joint Ventures

Starting in 2014, the six largest European building materials companies will be required to change their accounting for joint ventures to the equity method. With the exception of HeidelbergCement and Lafarge, which have large joint-venture investments, we do not expect the change to significantly affect companies’ credit metrics.

RESEARCH HIGHLIGHTS Notable research published the week ending 13 December 2013

34 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Global Aerospace/Defense Investor Roundtable: Defense Budget Cuts to Weigh on Contractors as Commercial Demand Remains Strong

The full impact of sequestration isn’t yet evident in the operating results of large prime contractors. However, after US troop withdrawal from Afghanistan, the bilateral security pact will greatly affect the level of contracting work.

European Steel Industry: Improving Sentiment and End-User Markets Support Flat to Slightly Higher Profits for European Steel Industry

We have changed our outlook on the European steel industry to stable, as we expect industry conditions to improve slightly next year. The European Purchasing Manager Index has been above 50 since July, indicating improving sentiment, which should lead to a tepid recovery in end-user sectors in the next 12 to 18 months.

Canadian Broadband Communications: Rogers' NHL Deal: Uncharted Territory for Content Distribution and Monetization

Rogers Communications Inc. has agreed to pay CAD5.2 billion for broadcast and digital rights to national hockey league games in Canada over the next 12 years. Since it is not clear how Rogers plans to distribute and monetize this content, consumer access and cost of access implications remain uncertain. Despite the Canadian Government’s support of free markets, if Rogers’ plans adversely affect consumers, regulators will respond.

Canadian Exploration and Production: Early-Stage Oil Sands Companies Pose Significant Debt Investor Risks

We do not rate Athabasca Oil Corp. or Southern Pacific Resource Corp., two companies with early-stage operations in the Canadian oil sands. Their current liquidity and need for capital and financial metrics, however, suggest very high risk for debt investors. It is difficult to assign ratings above the Caa level for early-stage oil sands companies, given unpredictable reservoir performance and the equity-like risks bond investors are often asked to take.

US Chicken Industry to Hatch Stronger Profits

US chicken processors are set to report their highest quarterly earnings in three years through the first six months of 2014, thanks to low feed prices and still-attractive chicken prices. Processors will continue to reap the benefit of relatively low corn prices over the next several months, which are likely to remain below $5 through next spring, compared to over $6 in 2012.

US Steel and Energy Distributors: Prospects Appear Brighter in 2014

The operating results of the rated steel and energy distributors should improve substantially next year. Modestly higher demand, higher product prices, acquisitions and cost-cutting should all result in a favorable comparison with a weak 2013.

RESEARCH HIGHLIGHTS Notable research published the week ending 13 December 2013

35 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Global Aerospace/Defense Industry: Bipartisan Budget Act Is Only Modestly Credit Positive for Defense Contractors

If signed into law, the Bipartisan Budget Act of 2013 will be modestly credit positive for defense contractors, as it will provide some relief from additional sequestration-mandated cuts in the defense budget that were scheduled to kick in mid-January 2014. It should also clear the way for a defense appropriations process.

US Retail: Best Buy, Walmart, and Target Are on Track for Strong Holiday Season

Going into the holiday season, our view was that Wal-Mart Stores, Inc., Target Corp. and Best Buy Co., Inc. would likely beat back the competition among other brick-and-mortar retailers this season. Based on store visits throughout the first holiday weekend, as well as online monitoring, it is clear that the three retailers came out ahead and are well positioned for the remainder of the season.

RESEARCH HIGHLIGHTS Notable research published the week ending 13 December 2013

36 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Financial Institutions

Moody's Reinsurance Monitor Global reinsurers reported satisfactory third-quarter 2013 underwriting results that reflected relatively light catastrophe activity and continued favorable reserve development. With the Atlantic hurricane season in the review mirror, reinsurers now turn their attention to the key January 1 renewal period, where we believe property catastrophe reinsurance pricing will continue to drift lower.

EMEA Insurance Monitor Our latest edition surveys European insurer CFOs on key issues for the industry, explores the likely effect of persistent low interest rates on the German life insurance industry, and the continuing evolution of insurance in the Gulf region. We also note that the Italian life insurance market remains under pressure.

German Insurance: P&C Outlook Changed to Stable; Life Outlook Maintained at Negative

For 2014 we expect that favorable pricing trends will prompt improvements in the profitability of German property and casualty (P&C) insurers, reaching satisfactory levels, including in the motor segment. In the life segment, low interest rates will continue to pressurize insurers’ margins.

Global Asset Managers Outlook

Improving macroeconomic stability should support markets and boost investor confidence, which together will stimulate growth of assets under management. The industry’s increasing equity asset allocation should boost revenues and cause leverage metrics to improve further in 2014, but regulatory developments may weigh on managers’ profitability and competitiveness.

Money Market Funds: Outlook Is Stable As Fund Managers Tread Carefully Given Supply Constraints, Regulatory Reform

Improving macroeconomic stability should support markets and boost investor confidence, which together will stimulate growth of assets under management, boosting revenues and improving leverage metrics. In addition, the likely finalization of regulatory reforms in the coming year will be a key issue for money market funds.

Catastrophe Exposure Remains Key Risk For US P&C Insurance Firms

The US P&C industry’s current strong capital levels enable it to withstand volatility from natural and man-made catastrophes even up to severe levels such as an event with a 1-in-250 probability, but the risk nevertheless remains significant for the industry for 2014 and beyond.

Argentine Reciprocal Guarantors: Sector Profile

Reciprocal guarantors have gained importance and visibility in Argentina in recent years, and there is ample consensus that they have helped the SMEs access financing with lower borrowing costs and/or longer debt maturities. They have also helped create and expand a new investment class (checks issued by the SMEs that are listed at the Buenos Aires Stock Exchange) for asset managers and institutional investors in Argentina, including insurance companies.

RESEARCH HIGHLIGHTS Notable research published the week ending 13 December 2013

37 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Peruvian Insurance Industry Outlook Our outlook for the Peruvian insurance industry is stable, reflecting our expectation that a sustained economic expansion will continue to promote growth in most insurance segments. However, the country’s status as a small and open economy, together with intrinsic volatility in insurer underwriting results, and a very modest penetration of insurance relative to total domestic spending are constraints to further market development.

Final Volcker Rule Prohibits Proprietary Trading but Does Not Disrupt Market Making, a Credit Positive The final rule is credit positive for US-based global investment banks because it prohibits higher risk proprietary trading, while not disrupting activities required for market making. Moreover, the final rule is less restrictive on market making than previously published proposals.

German Shipping Lenders: Rising Problem Loans May Prompt Net Losses at Some Banks Prolonged weakness in the global shipping industry since 2008 has raised credit risks for German banks, which rank among the world’s largest shipping lenders. Struggling shipping companies are finding it hard to service their loans, and consequently non-performing shipping loans have risen markedly at the eight German banking groups we examine in this report.

Norway Banking System Outlook Our outlook on Norway’s banking system remains stable for a second consecutive year. The stable outlook reflects broadly benign macroeconomic conditions that will support banks’ performance over the outlook horizon, notwithstanding risks of asset-quality erosion, mainly due to a slight weakening in the retail housing market and sector-specific issues.

Australian Bank Funding and Liquidity: Favorable Trends Continue, But Further Improvements Limited We continue to view the structural reliance of the Australian banking system on wholesale funding, in particular from abroad, as its greatest rating sensitivity. The banks have considerably strengthened their funding and liquidity profiles since the global financial crisis of 2007- 08, and this trend was intact for April- September 2013. However, the situation also points to limited room for further progress, with the availability of stable deposits likely to act as a key constraint.

Good While it Lasts: How Australian Banks’ Capital Metrics Benefit From Changes in Risk Weightings Our analysis suggests that a key driver of the banks’ improving risk-weighted capital ratios in recent years has been weak growth in their risk-weighted assets. The improvement in risk-weighted capital has not been accompanied by similar trends in unweighted measures like equity-to-assets ratios, which have remained broadly stable since 2009.

RESEARCH HIGHLIGHTS Notable research published the week ending 13 December 2013

38 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

Sovereigns

Sovereign Monitor - Focus on Bilateral and Multilateral Support In this issue, we discuss the sovereigns that have benefitted from financial or contingent support from multilateral institutions or bilateral partners over the last year. For example, the Inter-American Development Bank’s $100 million contingent credit line provided to the Central Reserve Bank of El Salvador in December will provide precautionary liquidity support to the banking system over the next six years. Moreover, the IMF’s approval of a $6.6 billion fund facility for Pakistan will allow the government to avert a looming balance-of-payments crisis and to boost growth.

Vietnam Analysis Vietnam’s real GDP growth continues to be higher than the growth for similarly-rated countries and provides support to its credit. However, its most pressing credit challenges relate to contingent risks from the banking system and the rapid expansion of state-owned enterprises, which has contributed to a much higher debt burden for the public sector.

United Arab Emirates Analysis Credit support for the UAE’s Aa2 stems from its high levels of economic wealth and large fiscal and external surpluses, which are derived from the country’s vast hydrocarbon reserves. Credit constraints arise from the UAE economy’s high degree of dependence on these hydrocarbons, which account for approximately a quarter of current account receipts and more than three quarters of government revenue.

Poland Analysis Poland’s A2 government bond rating balanced the country’s stable macroeconomic environment and its moderate and affordable debt burden against structural constraints that weigh on its fiscal performance and its relatively weak, albeit improving, external finances. Credit challenges include further consolidating the fiscal accounts against a backdrop of slower growth.

Greece Analysis Greece’s Caa3 government bond rating with stable outlook incorporates credit strengths that include the euro area’s institutional and financial support, Greece’s relatively wealthy population, the significant fiscal consolidation achieved over the last two years, and the increasingly benign debt servicing profile notwithstanding a large debt burden. Credit challenges include a deep structural adjustment program that has had a negative impact on economic growth and the very high level of public debt.

Sub-sovereigns

Cities of Moscow and St. Petersburg Peer Comparison Moscow and St Petersburg expect to undertake sizeable infrastructure programmes in 2014-16 estimated at RUB1,129 billion (€25 billion) and RUB249 billion (€5.5 billion), or a quarter of their respective budgets. These programmes are sustainable for both cities thanks to their solid financial performances, strong revenue generation capacity linked to substantially sized economies and their high budgetary flexibility. Both cities have Baa1 ratings.

RESEARCH HIGHLIGHTS Notable research published the week ending 13 December 2013

39 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

US Public Finance

US Local Government Ratings Mostly Held Steady Through the Downturn We review the overall stability of US local governments’ credit quality throughout the economic downturn, which underscores the sector’s inherent strengths. During the period we had a negative outlook on the sector, from April 2009 until this month, more than 80% of ratings did not change, although downgrades outpaced upgrades by more than two to one.

Community Colleges’ Flexibility Highlighted in 2012 Medians The core credit strength of community colleges is their ability to respond and adapt to enrollment volatility, changing economic conditions, and evolving student demands and preferences, traits the fiscal year (FY) 2012 medians highlight. This is the first time we have published our community college medians, a reflection of the sector’s growing importance in US higher education.

Dually Supported VRDBs Resilient Despite Issuer and Bank Credit Volatility Variable rate demand bonds (VRDBs) that are supported by both a letter of credit provider (that is a bank) and underlying issuer credit are more resilient than VRDBs supported exclusively by either just the bank or just the underlying issuer. We expect that jointly supported credits will continue to be stable because of the inherent strength of their multiple support structures and a downward trend of default dependence between issuers and banks.

Structured Finance

Global Covered Bonds Outlook In Europe, recent regulatory developments will strengthen the credit quality of covered bonds, and the number of covered bond programmes will continue to grow. In the US, however, we do not expect any issuances in 2014 since covered bond legislation is unlikely to pass. And in Canada, new programmes will continue under the 2012 legal framework, as issuances out of legacy programmes are prohibited.

Global Structured Finance Overview Outlook After several years of turbulence, the global economy will stabilize in 2014, lending support to new and existing structured finance transactions. However, the conclusion of the Federal Reserve’s quantitative easing program and possible interest rate hikes will challenge the credit performance of global structured finance deals.

CMBS: Red - Yellow - Green(R) Update Third-Quarter 2013 Assessment of US Property Markets The major US property markets were broadly stable in third-quarter 2013, consistent with the generally slow pace of both construction and absorption. Although construction remains slow, upcoming supply increased for all property types except for industrial and limited-service hotel.

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

40 MOODY’S CREDIT OUTLOOK 16 DECEMBER 2013

NEWS & ANALYSIS Corporates 2 » Sysco's $8.2 Billion US Foods Acquisition Will Increase Leverage,

a Credit Negative » Gilead Pulls Ahead in Race to Launch New Hep-C Treatment » PostNL Sale of TNT Stake Is Credit Positive

Infrastructure 5 » EDP Energias do Brasil Divests 50% Share in Two Major Hydro

Projects, a Credit Positive

Banks 6 » Risk that Ocwen Will Originate Non-Prime Loans Is

Credit Negative » Poland's Banks Get Tighter Mortgage Underwriting Standards, a

Credit Positive » China Will Allow Banks to Issue Negotiable Certificates of

Deposit, a Credit Positive

Insurers 13 » China's Life Insurers and Securities Companies Will Benefit from

Enterprise Annuity Tax Incentives

Sovereigns 15 » Thailand’s Early Elections Will Not Resolve Its Deepening

Political Crisis » China's New Guidelines on Local Governments Enforce Fiscal

Discipline, a Credit Positive

MOODYS.COM

Report: 161533

© 2013 Moody’s Investors Service, Inc. and/or its licensors and affiliates (collectively, “MOODY’S”). All rights reserved.

CREDIT RATINGS ISSUED BY MOODY'S INVESTORS SERVICE, INC. (“MIS”) AND ITS AFFILIATES 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. 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 MAKE ITS OWN STUDY AND EVALUATION OF EACH SECURITY THAT IS UNDER CONSIDERATION FOR PURCHASE, HOLDING, OR SALE.

ALL INFORMATION CONTAINED HEREIN IS PROTECTED BY LAW, INCLUDING BUT NOT LIMITED TO, COPYRIGHT LAW, AND NONE OF SUCH INFORMATION MAY BE COPIED OR OTHERWISE REPRODUCED, REPACKAGED, FURTHER TRANSMITTED, TRANSFERRED, DISSEMINATED, REDISTRIBUTED OR RESOLD, OR STORED FOR SUBSEQUENT USE FOR ANY SUCH PURPOSE, IN WHOLE OR IN PART, IN ANY FORM OR MANNER OR BY ANY MEANS WHATSOEVER, BY ANY PERSON WITHOUT MOODY’S PRIOR WRITTEN CONSENT.

All information contained herein is obtained by MOODY’S from sources believed by it to be accurate and reliable. Because of the possibility of human or mechanical error as well as other factors, however, all information contained herein is provided “AS IS” without warranty of any kind. MOODY'S adopts all necessary measures so that the information it uses in assigning a credit rating is of sufficient quality and from sources MOODY'S considers to be reliable including, when appropriate, independent third-party sources. However, MOODY’S is not an auditor and cannot in every instance independently verify or validate information received in the rating process. Under no circumstances shall MOODY’S have any liability to any person or entity for (a) any loss or damage in whole or in part caused by, resulting from, or relating to, any error (negligent or otherwise) or other circumstance or contingency within or outside the control of MOODY’S or any of its directors, officers, employees or agents in connection with the procurement, collection, compilation, analysis, interpretation, communication, publication or delivery of any such information, or (b) any direct, indirect, special, consequential, compensatory or incidental damages whatsoever (including without limitation, lost profits), even if MOODY’S is advised in advance of the possibility of such damages, resulting from the use of or inability to use, any such information. The ratings, financial reporting analysis, projections, and other observations, if any, constituting part of the information contained herein are, and must be construed solely as, statements of opinion and not statements of fact or recommendations to purchase, sell or hold any securities. Each user of the information contained herein must make its own study and evaluation of each security it may consider purchasing, holding or selling.

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

MIS, 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 MIS have, prior to assignment of any rating, agreed to pay to MIS 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 “Shareholder Relations — Corporate Governance — Director and Shareholder Affiliation Policy.”

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 clients. It would be dangerous for retail clients to make any investment decision based on MOODY’S credit rating. If in doubt you should contact your financial or other professional adviser.

EDITORS PRODUCTION ASSOCIATE News & Analysis: Elisa Herr, Jay Sherman and Alexis Alvarez

David Dombrovskis

Ratings & Research: Robert Cox Final Production: Barry Hing