Moody's Investors Service has upgraded its outlook rating for the Hong Kong banking system to "stable" from "negative", citing improvements in the operating environment.

An increasing number of signs are pointing to an encouraging operating environment for the banking system over the next 12 to 18 months, the rating agency said in a report released yesterday.

These include a continuous recovery in the global economy, clearer visibility for the mainland economy and better access by Hong Kong banks to the international debt and money markets, it said.

"Specifically, the global economy is continuing to gradually recover, while Beijing's tightening of monetary policy improves the chances that bank credits will grow at a more sustainable and a healthier rate," Leo Wah, Vice-president and a senior analyst at Moody's, said in the report.

"A solid Chinese economy is also important to the banks in Hong Kong given the growing integration between the economic systems in the mainland and Hong Kong," he said.

The rating agency also notes that banks are enjoying better access to international debt and money markets, as indicated by recent successful issuances by local banks of rated debt amounting to about US$ 2 billion so far this year.

"In addition, recent conversations with Hong Kong banks have alleviated most of Moody's worries," Wah said.

"In particular, their growing confidence in the operating environment is leading to banks carefully increasing their risk appetite for lending and treasury operations," he added.

This development will enable the banks to enjoy better profitability without taking on too much additional risk, thereby optimizing their risk and return profiles, the Moody's report said.

In addition, banks are planning to increase staff training, enhance due diligence on investment products and ensure a good match between customer needs and investment product features. This should help Hong Kong's banks avoid the kind of risk to reputation and financial damage of another episode like the Lehman minibond fiasco, and facilitate a recovery of wealth management income over the medium to long term, says the report.

However, the report cautions that downside risks remain, as Hong Kong's open economy consists of some highly cyclical industries and remains exposed to global economic shocks, which could under certain conditions adversely affect the banks.

Nonetheless, these risks should not pose a serious threat to Hong Kong banks, thanks to their strong financial profiles, crisis-tested management teams, and a stringent regulatory regime, Moody's said.

(HK Edition 03/16/2010 page2)