June 22, 2012 at 11:25 AM EDT
Research Roundup: Fitch, Moody’s and S&P on Big Banks
Overshadowed by Moody’s bank downgrades, a new report from Fitch Ratings offers a somewhat less negative view of the state of big banks. Fitch says it expects earnings from securities businesses at the leading Global Trading and Universal Banks (GTUBs) to drop in Q212 after a short reprieve in the markets in Q112. This [...]

Overshadowed by Moody’s bank downgrades, a new report from Fitch Ratings offers a somewhat less negative view of the state of big banks.

Fitch says it expects earnings from securities businesses at the leading Global Trading and Universal Banks (GTUBs) to drop in Q212 after a short reprieve in the markets in Q112. This is primarily due to the renewed erosion of confidence in securities markets resulting from a worsening eurozone crisis.

GTUBs’ Issuer Default Ratings (IDRs) are rated primarily in the ‘A’ category with Stable Outlooks following a number of rating actions in Q411. The Stable Outlooks reflect Fitch’s view on intrinsic creditworthiness and on potential extraordinary support.

(Moody’s downgraded some big banks to B-level: Bank of America and Citigroup to Baa2 and Morgan Stanley to Baa1)

Fitch says the Q1 is usually a strong one for securities businesses and earnings in Q112 bounced back from a poor Q411 for most of the 13 GTUBs. Customer flows increased as a result of restored market confidence, partly driven by the European Central Bank’s $1 trillion Long-term Refinancing Operations in Europe. However, market volumes and revenue were lower for most GTUBs compared to 2011’s very strong first quarter.

Fitch also notes that GTUBs are preparing for regulatory changes, most notably Basel III and, in the US, Dodd Frank, including the Volcker Rule. New regulatory demands include: higher liquidity and capital; segregation of certain businesses; and, reporting of transactions and clearing of derivatives through central clearing counterparties.

On balance, Fitch believes the new regulations should make the banks safer, although there are likely to be unintended consequences. Pressure on earnings resulting from the regulations will incentivise banks to seek new ways of generating profit, which usually comes with increased risk.

For details, see Global Trading and Universal Banks’ Periodic Review

In a related report, Fitch notes that U.S. bank regulatory proposals to apply unrealized gains and losses (UGL) on available-for-sale (AFS) securities to common equity tier 1 capital could reduce bank capital levels during periods of material market illiquidity. For example, if such rules had been in place during the 2008 financial crisis, Fitch Ratings estimates that nine out of 57 banks with assets of more than $25 billion would have experienced a reduction in their common equity tier 1 capital ratio of 100 bps or more.

The inclusion of unrealized gains/losses in regulatory capital is a procyclical capital policy that could exacerbate capital needs during market disruptions. Large unrealized losses are likely to occur during periods of market illiquidity rather than during period of rising rates. Therefore, the proposed rule is most punitive during times when banks have the least access to capital. Fitch views credit products, such as non-agency mortgage-backed securities and asset-backed securities, as introducing the most potential volatility to bank capital levels, given their potential to exhibit material and prolonged illiquidity during periods of market stress.

For details see Fitch: Unrealized Losses Could Create Bank Capital Volatility

Standard & Poor’s also has all large US  banks with A-level ratings, but has a negative outlook on most of them. In a recent Industry Report Card S&P said “Our rating outlooks remain negative for the majority of large complex banks and trust banks. For most banks, our outlooks reflect the negative outlook on the sovereign rating on the U.S. and the likely impact that a potential downgrade of the U.S. would have on the support we factor into our bank ratings. Banks are increasing their capital and improving their credit fundamentals, though we will continue to evaluate the effects that several challenges will have on the industry, including low interest rates, volatile capital markets, possible funding stresses due to debt concerns in the GIIPS countries, litigation, representation and warranty costs, housing market weakness, and regulations.”

In explaining its ratings actions Moody’s Global Banking Managing Director Greg Bauer said “All of the banks affected by today’s actions have significant exposure to the volatility and risk of outsized losses inherent to capital markets activities. However, they also engage in other, often market leading business activities that are central to Moody’s assessment of their credit profiles. These activities can provide important ’shock absorbers’ that mitigate the potential volatility of capital markets operations, but they also present unique risks and challenges.”

For details, see Key Drivers of Rating Actions on Firms with Global Capital Markets Operations

Technorati Tags: Bank-of-America, Barclays, big banks, BNP Paribas, Citigroup, Credit-Suisse, global banks, Goldman-Sachs, HSBC, investment banks, JP Morgan Chase, morgan-stanley, Royal Bank of Canada, Royal Bank of Scotland Group, Societe Generale, Wells Fargo

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