S&P

Deja vu? No, ratings agency Standard and Poors has cut Portugal’s credit rating for the second time in less than a week, this time one notch to BBB-, leaving the rating with a negative outlook. Last week the agency cut by two notches – the most it could reasonably cut, given an explicit indication that they would be “unlikely” to cut by more. The agency left the rating on negative creditwatch, but that is usually interpreted to mean a further cut is likely in three months, not three days.

Greek ratings, meanwhile, have been cut deeper into junk territory with a two notch downgrade to BB-. The rating remains on negative creditwatch meaning a further cut is likely if there is no improvement; typically, that would be within three months, but in the current climate, who knows?

In both cases, the downgrades have been prompted by the structure of the permanent eurozone rescue fund, the ESM, which was confirmed at the end of last week by eurozone leaders. Two things in particular. One is the issue of subordination 

The ESM term sheet claims its first casualty. As predicted, Standard and Poors rating agency has downgraded Portugal by two notches to BBB, leaving the rating on creditwatch negative, meaning another downgrade is likely within three months if there is no improvement in the country’s financial prospects. A further downgrade could place Portugal’s rating below investment grade: S&P’s rating is now just two notches above junk. But by then, the country will have passed or failed two significant tests: refinancing its debt in the markets in April and June.

S&P’s move is likely to be more significant than recent downgrades by Moody’s and Fitch. That’s because, first, S&P is leading the rating descent, having downgraded Portugal to its current Moody’s/Fitch level of A- in May of last year. (Moody’s and Fitch have only just downgraded to this level.) Second, the downgrade is significant because of timing. With a key vote on Portugal’s austerity package yet to pass and the PM stepping down, fiscal discipline will be further delayed. (This is one reason given by S&P for the move.) More than that, general elections are expected in a few months, and it would be very tempting for a new government to restructure its debt, laying the blame with its predecessors. Similar temptations must be present in Ireland.

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.