In a mass downgrade action on Tuesday Moody’s stamped all over the UK mortgage lenders, slashing nine companies’ ratings altogether — some by more than three notches — and putting another three banks and one building society on further review for downgrade. Only two building societies had their ratings affirmed (and they were at C- and C+ level).
Here’s the summary of the ‘bank financial strength ratings’ (BSFR) actions for those who missed it:
Abbey National plc (“Abbey”): the BFSR is downgraded to C- from C+ on
review for downgrade (mapping to BCA of Baa2).
Alliance & Leicester: the BFSR is downgraded to E+ from C+ with a developing outlook (mapping to BCA of B1);
Britannia Building Society (“Britannia”): The BFSR is downgraded to D+ from C (mapping to BCA of Ba1) and has been placed on review with direction uncertain reflecting the pressure from its weak intrinsic strength and the benefits expected from the merger with the Co-Operative Bank plc (rated A2/C);
Chelsea Building Society (“Chelsea”): The BFSR is downgraded to E+ from C (mapping to BCA of B1) with a negative outlook
Coventry Building Society (“Coventry”): The BFSR is downgraded to C- from C+ (mapping to BCA of Baa2) with a negative outlook;
Leeds Building Society (“Leeds”): The BFSR has been affirmed at C+ (mapping to BCA of A2),
Nationwide Building Society (“Nationwide”): The BFSR is downgraded to C- from B (mapping to BCA of Baa2) with a negative outlook;
Newcastle Building Society (“Newcastle”): The BFSR is downgraded to D- from C- (mapping to BCA of Ba3) with a negative outlook;
Norwich & Peterborough Building Society (“Norwich & Peterborough”): The BFSR is downgraded to D from C (mapping to BCA of Ba2) with a negative outlook;
Nottingham Building Society (“Nottingham”): The BFSR has been affirmed at C- (mapping to BCA of Baa2) and the outlook is changed to negative;
Principality Building Society (“Principality”): The BFSR is downgraded to D- from C- (mapping to BCA of Ba3) with a negative outlook;
Skipton Building Society (“Skipton”): The BFSR is downgraded to D+ from C+ (mapping to BCA of Ba1) with a negative outlook;
Standard Life Bank (“Standard Life”): The BFSR is downgraded to D from C- (mapping to BCA of Ba2) with a negative outlook;
West Bromwich Building Society (“West Bromwich”): The BFSR is downgraded to E+ from C- (mapping to BCA of B3) with a negative outlook;
Yorkshire Building Society (“Yorkshire”): The BFSR is downgraded to D+ from C (mapping to BCA of Ba1) with a negative outlook;
Of course, the downgrades come on the heels of some major assumption changes in Moody’s methodology. Whereas last year they were stress-testing for a 25 per cent fall in house prices, and in the last three or four months for a 40 per cent fall, it appears Moody’s may have used an extreme stress test of up to a 60 per cent fall in its latest evaluation, according to Adrian Coles, director-general of the Building Societies Association.
The peak-to-trough measured by Nationwide’s house price index so far is only 18.9 per cent. So is 60 per cent a major overreaction by Moody’s?
Alan Cleary, managing director of Exact mortgage experts, believes it may be. As he has commented to media:
“This is an overreaction based more on the fact that rating agencies now have something to prove rather than on the credit quality of building societies.
“Some mutuals have undoubtedly fallen on hard times in the past eighteen months, but just as many are fighting fit. The ratings agency methods are still opaque. Building societies must stand united against this mass downgrade — performing their own granular due diligence would help them understand the credit and fraud risk they’ve got sitting on their books, and give them something concrete to take to ratings agencies in order to prove their worth.”
But, if he calls the rating agencies opaque, what about some of the un-listed mortgage lenders themselves? Firstly, what they make of the action: A Nationwide spokeswoman, for example, told FT Alphaville they believe the downgrades are more a depiction of the state of the economy than the business models of the actual building society. This, they say, is because Moody’s BSFR methodology adjusts outcomes according to changes in the “operating environment”. As the methodology states:
A bank’s performance is frequently constrained by its operating environment and, where conditions are particularly difficult, banks could often be said to be the victims of their environments. Violent economic cycles, business-damaging political decisions, weak legal systems and irrational competitive environments can all act singly or in combination to impair a bank’s creditworthiness. While many factors contribute to making some countries easier places in which to do business and others more difficult, Moody’s believes the key drivers are the economic volatility, the efficiency of the legal system, the effectiveness of social and political institutions, and the competition dynamics and industry structure of the banking system.
And more specifically:
Large drops in economic growth are highly correlated with worsening asset quality and earnings. Therefore, all other things being equal, countries with more volatile economic cycles are riskier places in which to do business. Economic cycles in highly industrialized economies are gentle, with their GDP growth rates moving up or down by only 1-2 percentage points in two-thirds of the past 20 years. Developing economies exhibit more violent economic cycles, with their GDP growth rate standard deviation ranging from 7-12 percentage points to, occasionally, more than 100 percentage points. We assign each country an Economic Volatility Score based on the standard deviation of its nominal local currency GDP growth rates.
So according to that it’s not that there’s anything worse with Nationwide’s business model per se, the massive ratings cuts across the industry are simply a reflection of a volatile and increasingly less predictable operating environment. The ratings on Nationwide’s senior debt/deposit ratings have only been downgraded to Aa3 from Aa2 with a stable outlook they say. Fair enough.
And what does Nationwide — one of the key compilers of house price data — make of the 60 per peak-to-trough worst case scenario stress test? Apparently it far exceeds the company’s own projections. Be mindful though, if you wanted to know what Nationwide’s own forecasts for the market actually were, that wouldn’t be possible. The mortgage lender stopped publicising its view on the market at the end of December 2008 exactly because of the level of volatility in the market. The ranges, they said, would be far too wide to be useful, potentially misleading the market instead.
Volatility apparently the excuse once again.
Related links:
Despair! UK house prices fall, or the battle of mortgage data providers – FT Alphaville
Moody’s downgrades mutuals - FT