Banks have a lot to worry about right now: high interest rates, rising deposit rates, falling profitability. To all this comes one more concern: the downgrading of bond ratings.
Banks rely heavily on the sale of bonds to help fund their operations, and ratings agencies are making clear that those issues could become more expensive due to a series of pressures that are making life more difficult for financial institutions across the country. .
Warnings
The first warning on bond ratings came last week, when Moody's Investors Service downgraded 10 mid-sized institutions by a single notch, warned of a review for six more lenders and gave a negative outlook to 11 others.
It followed a warning from an analyst at Fitch Ratings that the entire industry could be downgraded to A+ from AA-, sending US banking stocks further down.
As CNBC pointed out, such a change from Fitch would mean a lower rating for some of the country's largest banks such as JPMorgan Chase and Bank of America. And that could trigger a domino of sweeping downgrades for many of their smaller rivals.
The end result is that investors will demand a higher yield on their own bonds of lower-rated banks, thereby raising costs for banks and putting more pressure on profits.
“We expect there to be sponsorship from debt investors, albeit at a higher price,” Morgan Stanley analyst Manan Gosalia said in a research note last week. "The risk is that this downgrade wave is persistent and continues beyond the third quarter," Gosalia added.
Most banking stocks fell on Tuesday. The KBW Nasdaq Bank Index fell 2,8% while the KBW Nasdaq Regional Bank Index fell 3,4%.
Among the nation's largest banks, Bank of America posted the largest decline, down 3,2 percent. M&T Bank fell 4,2%. Western Alliance and Comerica were down 4% and 4,5%, respectively.
New requirements from regulatory authorities
As Yahoo Finance points out in its analysis, the focus on the cost of selling bonds coincides with a campaign by regulators to push banks to issue more long-term debt as a way to stabilize institutions in times of stress.
The Federal Deposit Insurance Corp., the Federal Reserve and the Office of the Controller of the Currency are preparing a proposal that would require banks with at least $100 billion in assets to issue enough long-term debt to absorb losses if regulators were forced to to confiscate the institution. The FDIC, the Fed and the OCC have already suggested that banks of this size hold more capital as a way to absorb losses.
The long-term debt requirement would make it easier for banks to hold on to depositors during times of panic, according to FDIC Chairman Martin Gruenberg.
"Such a long-term debt requirement enhances financial stability in several ways," Gruenberg said in a speech on Monday.
He said "we expect the proposal to provide a reasonable timetable for meeting the debt requirement and to take into account existing outstanding debt." The decision to apply to banks with just under $100 billion in assets was "an outcome that was certainly influenced by events at the beginning of the year."
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