There have been some signs of stabilisation in bank funding costs in the past few days. Big bank CDS prices have fallen materially to 142bps and the CBA’s spreads have tightened on CBA’s recent monster local issue of covered bonds.
Yet, yesterday I mentioned that Moody’s had whacked the Bank of Queensland with a downgrade due to stress in their existing lending book and the risks presented by higher wholesale funding costs. What I didn’t mention in that piece (although I did mention it here ) is that this downgrade is part of broader global re-rating of banks by Moody’s in the context of the European crisis.
In a document released last week entitled “Why Global Bank Ratings Are Likely to Decline in 2012” Moody’s state that:
Several trends are currently weakening the credit profiles of many rated banks globally, according to Moody’s Investors Service. These trends include (i) deteriorating sovereign creditworthiness, particularly in the euro area; (ii) elevated economic uncertainty; and (iii) elevated funding spreads and reduced market access at a time when many banks face large debt maturities.
In advanced economies, these factors are expected to lead to many banks experiencing downward migration of their standalone credit assessments and their debt and deposit ratings in 2012. In the short-term, these pressures will primarily affect the ratings of global capital markets intermediaries (the largest firms trading securities and derivatives) and, in Europe, other banks exposed to financial market disruption. Moody’s expects to place the ratings of a number of these banks under review for downgrade during first-quarter 2012, in order to assess the effect of these trends on bank credit profiles.
Although Moody’s also notes positive factors — such as the accommodative stance of central banks in advanced countries and the strengthened regulation designed to make banks safer — the positive trends are overshadowed by the aforementioned negative credit factors, in Moody’s opinion.
It would be easy to interpret those statements as being completely focused on Europe, but Moody’s continues with their statement and makes it clear that although Europe is the primary focus, no globally connected bank is immune.
“The expected decline of bank ratings reflects the acceleration of interrelated pressures on the banking sector since the second half of 2011,” says Moody’s Global Banking Managing Director Greg Bauer. “These pressures most immediately affect global capital markets intermediaries and European banks.” In contrast, the credit profiles and ratings of banks operating in more stable environments, and of banks with strong, retail-oriented business and funding profiles, will be less affected. However, despite some banks being less affected, Moody’s acknowledges that the highly interconnected financial markets and economies imply elevated uncertainty for all banks, even those banks that have shown resilience thus far.
Those statements were backed up in the context of Australia by additional statements made in the recent Bank of Queensland downgrade:
Indeed, this points to the key challenge facing Australia’s smaller regional banks going forward; achieving shareholder expectations for profitability similar to that of Australia’s major banks — but without taking on too much risk and within the constraints of generally having to pay more for funding (particularly wholesale), having lesser economies of scale and ability to invest in technology, and being less able to develop sizeable fee income streams.
Given the current funding environment for the Australian majors I don’t think it as a great leap to extend some of those comments to include them. More immediately however, as Greg Bauer states, the report has targeted capital markets intermediaries which in the context of Australia suggests banks like the Macquarie Group are in the target zone.
Macquarie group was placed on Moody’s credit watch last November so it is possible that they will be the next Australian institution after BoQ to get a whack. However, given the broad context of the new Moody’s methodology, it appears likely that there is more downgrade action in the pipeline.
We are seeing a boost to sentiment in credit markets as Europe’s LTRO continues to prompt a general risk rally, now in credit following the equities bounce. Fundamentally, however, the structure of funding tension – weak growth in sovereigns as well as unsustainable policy measures – remains.