Moody's rethinks bank ratings again

Moody's hasn't had much luck in recent years with the methodology and underlying supporting assumptions that it has used to assign credit ratings to banks. We mentioned in an earlier article today the 2006 flap over the ready allocation of 'Aaa' ratings to banks, but more examples emerged last week.

Firstly there were the reports of pending multiple notch downgrades to the ratings assigned to hybrid securities issued by the banks, stemming from a review of methodology initiated in June. The downgrades would apply to banks' tier one capital instruments such as the PERLS V securities just issued by the CBA.

The rationale for the downgrades is that Moody's did not expect the coupon deferral provisions of such securities to be exercised (or enforced by regulators).  Being consistent, it did not recognise a significant equity credit arising from these instruments either.

Now Moody's says that in practice the instruments have proved to be much closer to equity and it will reflect that subordination in the ratings assigned and allow greater equity credit in determining senior debt ratings. In the case of the CBA PERLS V this is likely to result in a downgrade to 'Baa1' from 'Aa3'.

Fortunately, the rating change should not have a great impact on the market price of affected securities, as the market has not used ratings to determine the price of such instruments.

Moody's also advised later in the week that it has re-thought its assumptions on the calibration of bank asset models and credit losses for French, Dutch, Belgian and Luxembourg banks. This has led to expectations that some of these banks will experience greater asset quality deterioration and consequently credit write downs than previously anticipated in the ratings, thereby exerting adverse pressure on banks' profitability and capitalisation.    

As a result Moody's placed the 'Aa1' long-term credit rating and 'B' bank financial strength rating assigned to BNP Paribas and the 'A2' long-term rating and 'C' bank financial strength rating assigned to SNS Bank on review for possible downgrade. It also affirmed the 'Aaa' long-term rating and 'B+' bank financial strength rating assigned to Rabobank but revised the rating outlook to negative from stable.

The Australian branch of BNP Paribas issued A$1.0 billion of three-year bonds in June and the Australian branch of Rabobank has A$3.4 billion of bonds outstanding with maturities ranging from March 2010 to July 2014. Rabobank Netherland has also issued in the domestic market and has A$1.4 billion of bonds outstanding with maturities ranging from October 2011 to August 2020.

Similarly, in New Zealand, the New Zealand branch of Rabobank has NZ$650 million of bonds outstanding with maturities ranging from August 2011 to September 2014 while the parent has NZ$1.18 billion of Tier 1 perpetual securities outstanding, with call options exercisable in October 2017 and June 2019.   

Fortunately, Moody's advised on Friday that it has not changed its view on New Zealand bank ratings or outlooks, as a result of a recent scenario analysis undertaken. Moody's said, "New Zealand banks performed well under this analysis, to a large degree because of their strong capital. Combined with the provisions they have set aside to date, this has created a substantial buffer against future credit losses."