A Day Late & A Dollar Short

I’m a day late on this story while the banks a shorts

Moody’s Investors Service says that both the U.S. banking industry rating outlook and the industry’s broader fundamental credit outlook continue to be negative because of the recession.

In a new report, Moody’s indictaes that it expects rated U.S. banks will incur a total of approximately US$470 billion (pre-tax) of loan losses and writedowns in 2009 and 2010. The vast majority of this estimated loss, US$415 billion worth relates to expected loan losses, which represents 8% of the industry’s outstanding loans at the end of last year.

As a result of these substantial asset quality problems and the need to build reserves, many U.S. banks will be unprofitable in 2009, placing considerable strain on their capital levels, the rating agency believes. Moody’s notes that, despite heightened provisioning over the past several quarters, banks’ coverage of bad loans continues to drop; the ratio of allowance for loan losses to non-performing loans stood at 70% at March 31, versus 100% in the first quarter of 2008.

These projected losses have already been a major factor in the downgrade of the financial strength ratings of 35 U.S. banking groups during the last 12 months, notes vice president and senior credit officer, Craig Emrick.

Moody’s Bank Financial Strength Rating represents the agency’s opinion of a bank’s intrinsic safety and soundness and, as such, excludes certain external credit support elements. Over the past 12 months, he notes that, “the median U.S. BFSR has fallen by an entire notch, to C+ from B-, and nine banks have been downgraded to a BFSR that, in most cases, signifies a non-investment-grade stand-alone rating.”

“As it happened, the current macroeconomic scenario under which we are now positioning our BFSR ratings has turned out to be similar to, although more severe than, the worst-case forecast we had posited in last year’s industry outlook,” Emrick says.

Moody’s also contemplates the ratings impact of more severe macroeconomic conditions. If the global economic situation worsens in 2010, for instance, the rating agency believes there would be another heavy toll on U.S. BFSRs — both in the number of banks affected and in the intensity of the downgrades.

“Under more adverse conditions, numerous U.S. banks could become insolvent by the end of 2010,” says Emrick. “More specifically, based on our modeling of such an adverse scenario, we calculate that U.S. rated banks could incur a total of approximately US$640 billion (pre-tax) of loan and security losses and write-downs in 2009/2010; without additional capital, this means that more than a third would fall below investment grade on a standalone basis, as measured by our BFSRs.”

“Additionally, if the U.S. economy worsens beyond expectations U.S. banks would need to raise significant amounts of additional equity capital. For instance, under this adverse scenario we estimate that recapitalizing all rated banks back to a B- financial strength level would require a US$112 billion investment,” he adds.