Ratings agency Fitch has downgraded its outlook on AIB and Bank of Ireland to negative from stable as a result of the challenges posed by the Cover-19 pandemic.

The change reflects medium-term risk from the economic fallout from the pandemic to both banks' credit ratings it said. 

Fitch Ratings claims both groups enter the economic downturn from a relative position of strength, with sound capitalisation and a strong funding and liquidity profile. 

But the agency said that it considers the risks facing them is clearly skewed to the downside, even though the ultimate economic and financial market implications of the coronavirus outbreak are still unclear.

"Fitch's downside scenario for the eurozone is a sharp GDP contraction this year, with a GDP contraction also highly likely in Ireland, before recovering in 2021," it said.

"We also see downside risks to the estimates due to the rapidly evolving nature of the pandemic. As a result of the challenges Fitch has changed the outlook on the operating environment for banks operating in Ireland to negative from stable."

It said the mortgage repayment deferral programmes agreed by the banks will negatively impact both lenders unless they are temporary.

However, it also noted that the EU has approved compensation via state aid for losses arising from the Covid-19 crisis and therefore this could lead to the financial impact on the banks being reduced.

But it also predicts that the quality of the institutions’ assets will weaken more than it had expected and revenue will be challenged due to reduced levels of business and charges arising from bad loans.

Fitch also assesses that a permanent rise in unemployment and distress in the SME sector, leading small firms to require overdrafts and credit facilities, leaves the two big Irish banks more vulnerable.

"Due to the banks' large customer deposit bases and them having already funded a sizeable portion of their minimum requirement for own funds and eligible liabilities, they should be reasonably isolated from the risk of higher wholesale funding costs," Fitch stated.

"The €750 billion Pandemic Emergency Purchase Programme and the possibility to access targeted longer-term refinancing operations represent additional mitigating factors. Therefore the risks to their funding profiles is rather a longer-term (e.g. term debt refinancing and market issuance), rather than a near-term, risk."