Business

Here’s why Moody’s just downgraded six Canadian banks

‘Downside risks’ to economic growth have enhanced banks’ vulnerability to household debt

Credit rating agency Moody’s just downgraded by a notch the long-term ratings of BMO, ScotiaBank, Caisse centrale Desjardins, CIBC, National Bank and TD. RBC was spared.

The decision follows an identical move by Standard and Poor’s in December.

Here’s what Moody’s had to say about the rationale for the downgrade (the full press release is here):

High levels of consumer indebtedness and elevated housing prices leave Canadian banks more vulnerable than in the past to downside risks the Canadian economy faces:

By 30 September 2012, Canadian household debt to personal disposable income reached a record 165%, up from 137% as of 30 June 2007, as debt grew faster than personal incomes. Growth in consumer debt has been driven by rising house prices, which have increased by approximately 20% since November 2007.

Downside risks to the Canadian economy have increased:

Moody’s central scenario for Canada’s gross domestic product (GDP) is for it to grow between 2% and 3% in 2013, but downside risks have increased. The open, commodity-oriented economy is exposed to external macro-economic risks, which if they arise would have significant ramifications for the Canadian economy, and consequently its banks.

NBC, BMO and BNS have sizeable exposure to volatile capital markets businesses:

Moody’s believes that trading and investment banking activities expose financial firms to the risk of outsized losses and risk management and controls challenges, and leave them highly dependent on the confidence of investors, customers and counterparties.

Canadian banks’ have noteworthy reliance on wholesale funding:

The Canadian bank’s noteworthy reliance on confidence-sensitive wholesale funding, which is obscured by limited public disclosure, increases their vulnerability to financial markets turmoil.

Moody’s has removed systemic support from the ratings of all Canadian banks’ subordinated debt instruments that had benefited from support “uplift”:

The rating agency believes the global trend towards imposing losses on junior creditors in the context of future bank resolutions reduces the predictability of such support being provided to the sub-debt holders of the large Canadian banks given the Canadian regulators’ broad legislated resolution powers. The removal of support for subordinated debt is consistent with recent actions we’ve taken elsewhere, including in many European countries, reflecting the increased likelihood that sub-debt holders would be subject to burden sharing in the event support was required.

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