Though rating agencies Standard & Poor’s, Fitch and Moody’s agree that Cyprus has established a track record of fiscal consolidation and over-performance on its fiscal targets, yet they note that the environment for banks remains challenging, in particular with regard to exceptionally weak asset quality.

In its report on Friday, October 23 Fitch Ratings upgraded Cyprus’ long-term foreign and local currency Issuer Default Ratings (IDRs) to ‘B+’ from ‘B-‘. The issue ratings on Cyprus’ senior unsecured foreign and local currency bonds have also been upgraded to ‘B+’ from ‘B-‘. The Country Ceiling has been raised to ‘BB+’ from ‘BB-‘ and the Short-term foreign currency IDR has been affirmed at ‘B’.

However, the report notes that “there are still significant risks to creditworthiness posed by Cyprus’ continued deep economic and financial adjustment.”

The stock of consolidated sector NPEs (non-performing exposures) was 47.4% of gross loans in August, the highest of all Fitch-rated sovereigns. Unreserved problem loans for the sector (i.e. gross NPEs minus system-wide provisions) stood at €18.8 billion, or 107% of GDP for the same period.

“Implementation risks around banking reforms remain high,” the agency reports, “as the process is dependent on the political will to confront debtors, which could wane in the run-up to parliamentary elections in May 2016.”

Moreover, uncertainty in Greece, a global economic downturn, or deterioration in the Russian economy could undermine Cyprus’ adjustment.

Standard & Poor’s had noted in their September report that a significant hurdle was overcome with the removal of all restrictions on capital flows in April. However, “given the high level of non-performing loans, more decisive steps are required to improve the asset quality of the banking system.”

Moody’s also warned against legal regulation in favour of those who took out loans in Swiss francs, given the already large number of borrowers who have chosen to default.

Source: InCyprus