3 Major American Banks Brace for Moody's Credit Downgrades - NYTimes.com

Three Major Banks Prepare for Possible Credit Downgrades

By SUSANNE CRAIG and PETER EAVIS

Scott Eells/Bloomberg NewsJames P. Gorman, chief executive of Morgan Stanley, which may be downgraded by Moody’s.

Some of Wall Street’s biggest banks are bracing for fallout from a possible cut in their credit ratings.
Moody’s Investors Service, one of the two big ratings agencies, has said it will decide in mid-May whether to lower its ratings for 17 global financial companies. Morgan Stanley, which was hit hard in the financial crisis, appears to be the most vulnerable. Moody’s is threatening to cut the bank’s ratings by three notches, to a level that would be well below the rating of a rival like JPMorgan Chase.
Bank of America and Citigroup may also fall to the same level as Morgan Stanley, but those two are helped by having higher-rated subsidiaries.

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Credit ratings are particularly important for financial companies, which greatly depend on the confidence of their creditors and the companies they trade with. A high credit rating enables banks to put up less money, which they can borrow cheaply, while a lower credit rating can mean they have to put up more money and perhaps pay more for their loans.
The three banks that stand to be the most affected by a ratings downgrade have already said that they would have to put up billions of dollars more in collateral to back trading contracts.
Having a substantially lower credit rating than rivals, however, could do much wider damage over time. It could affect billions of dollars in trading contracts that are an important business for Wall Street. Many of these contracts demand that the company on the other side of a trade have a high enough credit rating.
The country’s big mutual funds, asset managers and other institutions are reassessing their trading relationships in light of a possible ratings cut. In some cases, contracts are being rewritten. In others, big investors may walk away.
Weighing the creditworthiness and ratings of banks “is a major focus at Vanguard and at other buy-side companies who do business with Wall Street,” said William Thum, a lawyer with the mutual fund giant Vanguard, referring to institutional investors like his company.
Some of the funds that he deals with are prohibited from trading with banks that have a less-than-sterling credit rating.
“We are now in the process of diversifying our list of trading partners by signing up new dealers who appear most likely to maintain relatively high credit ratings,” he said.
Not all contracts would be affected by a downgrade by Moody’s. Many also require a similar action from the other major ratings agency, Standard & Poor’s. And Moody’s may not cut as deeply as was warned, or at all.
But if Moody’s does cut as it warned in February, Morgan Stanley, Bank of America and Citigroup would be rated Baa2 — just two notches above speculative, or junk — and the banks would have weaker credit ratings than major rivals.
The potential problem for Citigroup and Bank of America is mitigated by the fact that much of their trading of contracts — bets on changes in interest rates, currency values and the like — is done through higher-rated subsidiaries.
Morgan Stanley noted that only about 8 percent of its over-the-counter derivative trading contracts would be affected by a three-notch downgrade.


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