Credit Logement : Update on the credit after the release of 2017 results

Crédit Logement generated a net profit of € 120.6m in 2017, nearly 12% higher than in 2016. Full-year earnings were fuelled by robust business volumes, both in setting up new guarantees and loan refinancing transactions which generated high levels of commissions. Pillar I capital ratios are still very comfortable and capital buffers under the new Pillar II are satisfactory. This change in methodology allowed the group to launch last November a buyout of its two main subordinated debt and the issuance of a Tier 2. - The new Pillar II requirements and the recognition of guaranteed property loans by international authorities have (finally) stabilized the regulatory reading. On our estimates, apart from new equity loan issues with its shareholder banks, Crédit Logement has no additional capital requirements in the medium term. - We maintain a Neutral view on the perpetual bonds. Its price trend is similar to that of the legacy floater/CMS, and is currently 6 pts above the November offer price (91.5%) and within a few points of par. Management has been clear about its intention to hold onto these instruments, a view that is supported by economic analysis. In the light of the proposals set out in the CRR2 directive, the regulatory backdrop suggests that the bonds are unlikely to be called before 2023-24. On the Tier 2 5.454% 2021, rated 'A1', and with a yield of 0.2%, we are maintaining our Buy & Hold recommendation. Lastly, the new Tier 2 has the advantage of an 'A1' rating, the highest among French banks and offers a yield of 1.7%. Issued in November 2017, the bond fell below par in late January following a broadbased fall in the prices of financials. Since then, the price has stabilised at around 97-98%. The dearth of newsflow specific to Crédit Logement, the loan guarantee market and the strong 2017 earnings release show that this situation is due to a challenging bond market and is not indicative of the quality of this credit. This instrument is our top pick to make a play on the credit. - >Support factors - - The group's uncontested market leadership, with a 30% share of non-assisted home loan guarantees in France. - An ownership base consisting of France's leading banks, which both refer business to the group and guarantee its solvency. The banks have made a commitment to the Banking Commission to guarantee jointly and severally the institution's solvency. - Expertise in risk control and loan selection and collection, ensuring excellent asset quality. - Pillar I capital ratios are adequate with a CET1 ratio of 16.11%, a Tier 1 ratio of 17.097% and a total capital ratio of 22.79%. - The new methodology for calculating the capital requirement under Pillar II set by the ACPR (2% of outstandings, and calculated using the total capital alone) is less severe than the previous one, enabling Crédit Logement to show a more comfortable distance.Points to watch - - In 2018, the group expects the additional increase in hedging swaps to result in higher interest rates on property loans, which will limit loan refinancing transactions and should further slow down new loan production. This will have an impact on the volume of commission income whilst net interest margin will remain under pressure. Although the bottom line in the past three years benefited from exceptional transactions and/or market situations, we expect a fall in net profit in 2018.- The group is completely dependent on the financial health of the French property market and French banks, both its shareholders and its key counterparts for its cash investments.