OREANDA-NEWS. December 15, 2015. The 2016 outlook for Germany's banking sector is stable but low interest rates, rising costs and intense competition will limit upside earnings potential, says Fitch Ratings. Efforts to tackle margin compression, cost cutting and disposal of non-core assets are not yet fully reflected in performance metrics. Only when these issues are finalised will the sector find greater balance, in our view.

Savings and cooperative banks are Germany's most profitable. They make up 18% of the sector's assets but generate 30% of sector operating profits, driven by stronger and wider-margin retail and SME franchises. Strong capital adequacy ratios are likely to improve, driven by continued retention of the bulk of earnings. The Landesbank sector is now profitable but the banks are unlikely to show improved results in 2016. We expect losses in corporate loan books and project finance to increase, reflecting some loss of dynamism in the operating environment and shipping-related losses at NordLB, Bremen and HSH. The problems at these banks have not yet bottomed out.

Private-sector banks are a mixed group and dynamics impacting their financial strength vary widely. Deutsche Bank is at an early stage in implementing its revised strategic plan and we expect restructuring and litigation costs to weigh on 2016 results. Commerzbank's core corporate and /retail businesses are progressing well and we expect profitability to increase in 2016. The Outlook for its ratings is Positive.

The opposite is true for HVB, which is on Negative Outlook. HVB, part of UniCredit group, is still restructuring its retail division which acts as a drag on profitability. Under the supervision of its new regulator, the ECB, we think capital held at HVB could become more easily available to other group entities. We think this is potentially negative for creditors at the German bank.

The sector will face another challenging year in 2016. Correctly pricing credit risk in a highly competitive landscape is tough and we believe further pressure on asset margins is likely. Softening underwriting standards cannot be ruled out.