"Moody's Says Bank Bondholders Will Not Suffer Haircuts
You know the joke about Moody's fooling none of the people none of the time? Well, they are trying to make some bold predictions about financial companies' bondholders. And based on what they are saying senior and subordinated bank creditors should be worried... very worried...
In a piece entitled "Senior Bank Bank Holders - At Risk Or Not" Moody's analyst Sean Jones (not be confused with Egan-Jones' cofounder Bruce Jones) "considers this risk to be unlikely for banks that enjoy high systemic support. Such actions would run counter to the overall policy objectives underlying the provision of support to the banking system."
The problem with Sean's assumption is that for him to be correct, and for the massively upside down banking balance sheet to get fixed as some point, the government would have to fill the insolvency delta in the asset shortfall through either through above-market asset purchases or new cash from equity raises. If Citi's recent bailout is any example, the administration has made it all too clear it will not pursue any of these actions, thus leaving creeping equitization as the only option (of course, absent nationalization), which is why Zero Hedge disagrees with Moody's on this one (and many more), and as I wrote previously, bank sub debt holders also do not share Sean's optimism.
Jones does cover some bases in case unbridled optimism (Moody's trademark) is not the right play anymore: "Even at banks that are very likely to receive support, there remain the risks of coupon suspensions or of distressed exchanges for preferred shares."
Moody's full statement on potential bondholder risks is presented below.
Senior Bank Bond Holders -- at Risk or Not?Me:
Over the past week, a growing number of bondholders have expressed concerns that they risk being forced to incur losses because of government pressure on the banks that receive public assistance. This concern has been fueled both by widespread media attention and by some members of Congress.
Nevertheless, we consider this risk to be unlikely for banks that enjoy high systemic support. Such actions would run counter to the overall policy objectives underlying the provision of support to the banking system. Having said this, risks to bondholders do indeed increase for lower priority capital instruments and for those that hold the debt of weaker banks that are less important to the nation’s financial system.
The US banks that we believe benefit from very high systemic support are the Bank of America, Bank of New York, Citigroup, JPMorgan Chase, and Wells Fargo; for these institutions, we see the likelihood of senior or senior subordinated creditors taking losses as being very modest. If senior or senior subordinated creditors were made to suffer losses, the risk that systemic credit flow would contract increases, thus prompting further market turmoil and economic damage. Such an outcome is directly contrary to the Administration’s policy goals, which are to instill confidence in the financial industry and to restore the flow of credit in the economy.
Of course, we do differentiate, or notch, ratings to reflect the relative positioning of various security classes. This is done based upon their positions in the capital structure or in the legal framework of an entity. Subordinated creditors are clearly in an inferior position to senior debtholders, and those owning holding company obligations are certainly behind bank creditors in priority. In both cases, however, we believe all of these creditors should benefit from some systemic support, albeit to different degrees.
Even at banks that are very likely to receive support, there remain the risks of coupon suspensions or of distressed exchanges for preferred shares. This situation is especially true for those institutions whose noncumulative preferred coupon payments impair their abilities to replenish capital from earnings. Consequently, the notching among these instruments and senior and subordinated debt ratings is likely to widen in cases where a bank’s financial strength rating declines.
Sean Jones
Senior Vice President"
"The US banks that we believe benefit from very high systemic support are the Bank of America, Bank of New York, Citigroup, JPMorgan Chase, and Wells Fargo; for these institutions, we see the likelihood of senior or senior subordinated creditors taking losses as being very modest."
Although I see your point, I'm going to go with Moody's on this as a political prediction.
Don the libertarian Democrat
March 17, 2009 1:17 PM