credit ratings

Ralph Atkins

Moody’s, the credit rating agency, has created a political storm in Athens by downgrading Greece’s government bonds by a further three notches. At B1 (down from Ba1), Greek bonds now “lack the characteristics of a desirable investment,” in Moody’s terminology.

But they are still acceptable for use as collateral in European Central Bank liquidity operations. Last May, the ECB suspended the minimum credit rating requirement for Greek debt – on the grounds that it had confidence in the country’s economic rescue plans, whatever the credit rating agencies thought. In other words, Greek banks could continue to obtain unlimited liquidity from the ECB, using their government bonds as collateral.

What is more, Moody’s announcement does not change anything in terms of the “haircut” – or discount – applied by the ECB to Greek bonds when calculating how much liquidity banks can obtain. 

Moody’s rating agency has just downgraded Greece’s government bonds to B1 from Ba1, placing the debt on negative outlook, meaning further downgrades are likely. The move takes Greek debt from borderline junk to “highly speculative” territory.

Fitch and S&P still rate Greek debt three notches higher at BB+ (the equivalent of Ba1, Moody’s previous rating), but this might not last long. Fitch last downgraded on January 14 and has a negative outlook on the rating, while S&P last downgraded in December but has the rating on credit watch negative (meaning a downgrade is imminent, if there is no material improvement). 

Bad day for Portugal. S&P has cut to junk the credit ratings of four state-owned utilities, saying the country’s sovereign debt troubles could limit the timeliness or sufficiency of help on offer from the government:

Government support for distressed state-owned companies was “increasingly constrained by difficult financial conditions”. This was also reflected in the “weak access” of Portuguese banks to external funding, S&P said. 

“The ECB should not issue public ratings to be used for regulatory purposes,” runs the response to an idea from the Commission. And the jury is also out on a publicly-funded agency other than the ECB issuing ratings.

Questions of independence are behind the ECB’s ratings reluctance. While the central bank does undertake in-house credit assessments, “the conduct of rating activity as in-house credit rating assessments always raised questions regarding reputation risks and potential conflicts of interest, beside other risks,” says the report.

As for an alternative, publicly-funded, body running the ratings, questions remain over independence and competition. “The degree of independence of such an agency funded wholly or partially by public money remains to be assessed,” says the report.  Aside from manpower and data requirements, it is also unclear whether “the creation of a semi-public agency would result in increasing competition, or rather create artificial barriers to entry for new private entities and therefore ultimately reduce competition”.

The spirit of the proposal was accepted, however, and the idea itself was not entirely scotched. 

Do the markets know something we don’t?

S&P cut Ireland’s credit rating by one notch today, taking it to A- (still several notches above Moody’s and Fitch, at equivalent peggings of Baa1 or BBB+ respectively). Yet markets continue to relax, with the Irish ten-year cost of debt falling 20 basis points today, a fifth of one percent; at 5.45pm they were 8.8 per cent.

The cost of debt for Spain, Portugal, Italy, Belgium and Greece have all fallen, too. Greek yields are below 11 per cent for the first time since early November.

Gary Jenkins, head of fixed income for Evolution Securities, says: “It is interesting that while the story [that the EFSF mandate will be widened to allow debt buybacks] has been doing the rounds for three weeks now, yesterday was the first day since then that we have witnessed yields moves of such a magnitude, which does make one wonder if there has not been a leak ahead of the European leaders’ summit on Friday.” 

Lisbon might soon have more difficulty accessing debt through the markets, precisely because Moody’s is worried that it will. With rather circular reasoning, Moody’s said it was placing Portugal’s A1 rating on downgrade review because of “concerns about Portugal’s ability to access the capital markets at a sustainable price”. Yields will no doubt rise further on the news.

Moody’s is also worried about the effect of bank support on the government’s debt, as well as the impact of austerity measures. The rating looks perilous, then, since Moody’s fears will rise whether Portugal cuts or spends. 

It jumped last but – not to be outdone – Moody’s has slashed five notches off its Ireland rating, taking it to Baa1 (which is equivalent to Fitch’s BBB+ and about three notches above junk). They’ve also slapped a negative outlook on it, meaning a further downgrade is likely in the next two years if there is no improvement. A multi-notch downgrade was likely – the ratings agency said so itself – though it has come relatively late in the game, after similar cuts by S&P and Fitch.

S&P now offers Ireland the highest rating at A, two notches above Fitch and Moody’s. Under the original ECB collateral requirements of A-, this would mean Ireland’s bonds could still be used – just – as collateral at the central bank. As it is, the “temporary” lowering of collateral requirements to BBB- is still in force, so Ireland need not worry. (As with Greece, the ECB would probably make an exception for Ireland even if its ratings were cut below this level.) 

S&P jumped first, but Fitch has jumped further: the ratings agency has just knocked three notches off its credit rating for Ireland, placing the outlook at stable. Fitch’s rating is down to BBB+ from A-. S&P cut its rating two notches from AA- to A on November 24. Fitch is now two notches below S&P.

Moody’s, which has threatened a multi-notch downgrade, is again the last mover. Its rating remains at AA. So – for now – the chance of an Irish default is roughly equal to that of Russia or Japan, depending which rating agency you follow. This is likely to be temporary: Moody’s will probably join Fitch in a three- or even four- notch downgrade within a couple of weeks.

Hungary’s credit rating is just one notch above junk since rating agency Moody’s cut two notches and warned of further downgrades. Concerns about fiscal sustainability led Moody’s to cut to Baa3, now in line with S&P. Fitch remains one notch above its peers, but is expected to cut by the end of the year. The cut places Hungary’s rating just a notch above that of Greece.

Last week, Hungary raised its key interest rate 25bp to 5.5 per cent to combat rising inflation expectations. It was the first rise since October 2008, and was largely unexpected by the markets.

Moody’s isn’t going to get caught out this time. The ratings agency has said today that its review of Irish sovereign debt is likely to end in a multi-notch downgrade. If we take “multi” to mean three or more, the current Aa2 rating will probably end up below those of S&P and Fitch.

Curious timing. All three agencies have stayed mute about Ireland in recent weeks. S&P and Fitch are yet to say anything and Moody’s has waited for the announcement of the aid package.

Perhaps there were burnt fingers over Greece. In the Spring, S&P and Fitch downgraded Greece as market fears intensified, adding to the commotion and leaving Moody’s in a very awkward place (had they downgraded Greece, they might single-handedly have disqualified Greek assets from being accepted as collateral at the ECB).

Rating agencies were heavily criticised for aggravating matters in April and May,