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Recently, Moody's Investors Service – the credit rating arm of Moody's Corp. (MCO - Analyst Report) – upgraded the outlook for the German banking sector to stable. Post the recent financial crisis, this is the first time Moody’s upgraded the German banking sector.

The upgrade of the outlook comes on the back of improved capital positions and the ability to withstand another financial crisis by the institutions in Germany.

Moreover, the rating agency predicts the German economy to grow at the rate of 0.4% in 2013 and the growth to range from 1% to 2% in 2014.

Due to the recent financial crisis, several of Germany’s biggest financial institutions have taken steps to lessen riskier assets and enforce strict capital requirements. This prompted Moody’s to remove the banking sector’s negative rating that has been in place since 2008.

Two of Germany’s largest banks by assets, Deutsche Bank AG (DB - Analyst Report) and Commerzbank AG raised fresh capital from the market to boost their financials. Moreover, the regional banks in Germany have resorted to cost cutting techniques and consolidation over the past few years. These banks were badly affected by the 2008 worldwide debt crisis due to large investments made in U.S. mortgage backed securities.

On the other hand, Moody’s cautioned the German banks regarding the impending regulations that include a plan to bail-in creditors of the banks. The rating agency expects this to adversely affect some of the financial assistance these banks receive from the regional and national governments. Alongside, the persistent low interest rate is expected to hamper the profitability of the banks in Germany.

Further, Moody’s warned the German Banks of a slump in the worldwide shipping business that could hamper the stability of these financial institutions since they have been the largest lender to this sector in the past.

Moreover, due to the presence of high levels of hybrid content in the capital structure of the banks in Germany, the rating agency anticipates these financial institutions to struggle more than other banks in Europe in an attempt to comply with stricter capital rules under the Basel III norms.

Nevertheless, the upgrade by the rating agency is expected to provide a major boost to the banking sector in Germany. Moreover, it is expected to help preserve investor confidence in the German financial institutions, thereby boosting their creditworthiness in the market.

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