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Bank Credit Downgrades?

Toronto based The Globe and Mail republished a Friday, November 18 Reuters article written by David Henry titled 'S&P to update bank credit ratings within three weeks' - reading time 5 minutes. The article says that Standard & Poor's is planning to update its credit ratings for the world's 30 largest banks within three weeks, and that those updates may include downgrades. The article specifically mentions Bank of America, Citigroup, and Morgan Stanley as possible downgrades, and says that some European Banks might (likewise) be affected. These updates are said to be "part of a major overhaul of S&P's methods for scoring creditworthiness of some 750 banking groups". A managing director at S&P, Jayan Dhru, is reported in the article to have said that the new S&P bank ratings methodology will apply consistent measurements of bank capital, "something that is weak in the ratios banks report under international Basel standards designed by regulations that allow individual countries latitude in how their banks count capital".

I say, and I think these are things you should consider carefully as financial market investors and traders:

  • watch carefully for these new S&P bank credit ratings. I believe the chances are very good that if they attempt to account for 'mark-to-market' accounting rule changes, and the dollar exposure each bank individually has to the derivatives markets, that a number of unwelcome surprises may be announced;

  • I think the task that S&P has set itself on, assuming what Mr. Dhru has said about applying 'consistent measurements of bank capital' is a virtually hopeless task:

    • given the elimination of mark-to-market financial accounting standards in some jurisdictions (the U.S. and Europe being two notable examples),

    • the subjective manner in which accounting rules are applied to recognition of notional profits and losses on assets held and liabilities owed by the banks, and

    • the unregulated nature of the hedge fund activities of many of the banks.

That said, one can hardly argue that taking a harder look at things can be criticized.

It will be interesting to see what S&P's has to say in the next few weeks, where the article says the new credit rating results might be out by the end of November. Certainly I have to think that any downgrades to the credit ratings of any of the largest world banks will not be seen as a good thing by the financial markets. But then again, perhaps those sages who 'make' the financial markets are sitting today believing the financial markets already have 'priced in' S&P's yet to be announced 'new credit ratings'. While that might be the typical 'street talk', I hardly think it has veracity.


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