Moody's Downgrades Major Banks

Moody’s Investor Services has finally announced the much-anticipated credit ratings revisions for major global banks, dealing a blow to the already stressed financial industry. This comes in the wake of weak global markets and the seemingly endless Eurozone crisis.

Of the 17 major international banks placed under review in mid-February for potential ratings revisions, Moody’s downgraded the ratings of just one bank − Credit Suisse Group (CS - Snapshot Report) by three notches. The ratings for 10 other banks − Morgan Stanley (MS - Analyst Report), UBS AG (UBS - Analyst Report), Barclays PLC (BCS - Snapshot Report), BNP Paribas SA (BNPQY), Citigroup Inc. (C - Analyst Report), Crédit Agricole, Deutsche Bank AG (DB - Snapshot Report), The Goldman Sachs Group Inc. (GS - Analyst Report), JPMorgan Chase & Co. (JPM - Analyst Report) and Royal Bank of Canada (RY) − were lowered by two notches.

Further, four banks − Bank of America Corporation (BAC - Analyst Report), HSBC Holdings plc (HBC - Analyst Report), The Royal Bank of Scotland Group plc (RBS) and Societe Generale Group − received single-notch rating downgrades. The ratings for two other companies – Macquarie Group Limited and Nomura Holdings Inc. (NMR - Snapshot Report) were already revised in March.

Rationale for Revisions

The primary reason for the ratings revisions is the weak economic environment and the fact that earlier credit ratings did not reflect the true nature of the challenges faced by these global banks. Also, increasing regulatory moves has been adding fuel to the fire for the banking industry.

To better understand how the current economic scenario would impact the banks’ capital position and trading revenues, Moody’s divided these 15 banks in three categories. The companies in the top category included JPMorgan, HSBC and Royal Bank of Canada.

According to Moody’s, these banks have enough capital to withstand the present volatile capital markets along with manageable European debt exposures and solid business operations. The rating agency has now placed the standalone credit assessments for these three banks at ‘a3’ or higher.

The second category comprised of majority of the banks that were under review and include Barclays, BNP Paribas, Credit Agricole, Credit Suisse, Deutsche Bank, Goldman Sachs, Societe Generale and UBS. The primary reason for placing these companies in this group is that they face varying degrees of risk factors comprising of significant dependence on capital market for organic growth, limited liquidity and sizeable exposure to stressed European countries. As of now, the standalone credit assessment for these firms is ‘baa1’ or ‘baa2.’

The companies in the third group (the weakest) − Bank of America, Citigroup, Morgan Stanley, and Royal Bank of Scotland − now have standalone credit assessments of ‘baa3.’ These banks faced various problems during the financial crisis and they are currently in the process of restructuring their operations to align with the changing economic scenario. Compared to the other industry peers, these banks do not have steady capital cushions to survive another financial downturn.

Negative or Positive?

This is the third ratings downgrade for majority of the banks over a period of about eight months. In November-December 2011, Fitch Ratings and Standard & Poor's (S&P) lowered their respective credit ratings for many U.S. and European banks. However, the present announcement comes at a time when there is great deal of uncertainty in the global economy and uncertainty in the Eurozone along with signs of slowdown in major emerging economies like India and China.

The ratings downgrade is anticipated to increase the already high funding costs of the banks. It is expected to lead to liquidity crises for the banks and may force many of these to increase the collateral and termination payments on trades. But this would not be as bad as expected. With the interest rates already at their lowest levels, the lower ratings will not have a considerable impact on the borrowing costs of the banks.

Overall, the ratings revisions will probably present a transparent picture of the banking industry to investors. Also, this might help the financial institutions to prepare for another financial crisis. Most importantly, this could ultimately result into less involvement of taxpayers’ money in bailing out troubled financial institutions.