S&P to Review Ratings of Major US Banks on Fed’s New Rule

Standard & Poor's ("S&P") Ratings Services, part of McGraw Hill Financial MHFI has put the senior unsecured and non-deferrable subordinated debt ratings of eight major U.S. banks under review for a downgrade. These banks include The Goldman Sachs Group, Inc. GS, Wells Fargo & Company WFC, JPMorgan Chase & Co. JPM, Citigroup Inc. C, Bank of America Corp. BAC, The Bank of New York Mellon Corp. BK, State Street Corp. STT and Morgan Stanley MS.

Notably, last week, the Federal Reserve Board, led by Chairperson Janet Yellen, proposed a new long-term debt and capital requirement level for the “too big to fail” banks. Under the proposed rule, the selected banks will be required to include the long-term debt in their respective holding companies’ balance sheets. Notably, such debt can be converted into equity in the event of a failure, as this would help infuse the capital required to support critical operations during a crisis.

According to Yellen, the proposed rule "would substantially reduce the risk for taxpayers and the threat to financial stability stemming from the failure of these banks. This is an important step toward ending the market perception that any banking firm is ‘too big to fail.” (Read more: Fed Proposes New Rules: Big Banks to Raise $120B in Debt?)

Change in federal policies to support troubled banks is the rationale behind the S&P review. Regulators are planning to build liquidation plans for U.S. banks to combat another financial crisis. Therefore, S&P believes the level of government support might be lower as compared with the bailout of banks owing to the financial crisis in 2008. The review is expected to be completed by early December 2015.

For Wells Fargo, BNY Mellon and State Street, S&P’s long-term issuer rating is A+, while JPMorgan remains one notch below at A. Further, the remaining four banks are rated A-.

Bottom Line

If S&P downgrades the ratings of major global banks, it will lower investors’ confidence in the stocks, though it might prepare the firms to better tackle another economic crisis. Moreover, it might increase funding costs, thereby leading to higher expenses impacting the banks’ financials further.

We believe that reduced government support for banks, in case of failure, will make these financial institutions more resilient toward their business conducts.

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