The credit rating downgrade of some of the world's biggest banks has been a positive for Australia.
THE credit rating downgrade of some of the world's biggest banks has turned out to be a positive for Australia, with the dollar bouncing back above parity and financial stocks rising against a falling bond market.
This partly reflects the fact that the Australian banking system is in far better shape than its global peers and the big four banks are trading on an attractive fully franked dividend yield of 7 per cent. But during times of volatility it is dangerous to read too much into the market's positive reaction in any one day.
The credit rating downgrade by Standard & Poor's reflects the firm's new criteria for banks, which incorporates shifts in the industry and the role of governments and central banks worldwide.
It is part of a bigger picture attempt by all credit ratings agencies to repair their damaged credibility after being exposed during the global financial crisis as being captured by the financial system in terms of the AAA credit ratings they meted out to some ticking financial bombs that became known as collateralised debt obligations.
While it is good that the ratings agencies are trying to restore their image, they still have a long way to go and S&P's timing to release the downgrade couldn't get much worse.
It came as British Chancellor George Osborne's autumn statement highlighted the troubles of the global economy. He warned that Britain's debt challenge was ''greater than we thought'' and that his darkest outlook could turn out to be optimistic if the euro zone crisis worsened. Fitch Ratings followed up with a warning that Britain's AAA credit rating could be at risk from further economic shocks unless the country took fresh measures to cut debt.
S&P cut its credit rating on Bank of America, Citigroup, Goldman Sachs, JPMorgan, Morgan Stanley, Wells Fargo, Barclays, Lloyds Banking and Royal Bank of Scotland.
It is part of a planned credit rating update on a universe of 750 banks worldwide that will kick off over the next few weeks. If Australian banks get caught in the credit rating downgrade crossfire, it will have a negative impact on them.
In the meantime, the credit rating downgrade yesterday cannot be underestimated. It comes as concerns build in the US about whether Bank of America has enough capital to withstand another downturn in the US economy or further trouble in Europe.
In the past year, its share price has fallen more than 60 per cent. On November 3, it issued a warning in a statement to the Securities and Exchange Commission that a credit rating downgrade ''could likely have a material adverse effect on our liquidity''.
The biggest threats to the global economy right now are uncertainty - what is going to go wrong next - and lack of confidence.
As the weight of the US and European economies drags on fixed interest, currency and equities markets, a credit rating downgrade of some key US and European banks will have longer-term implications on the financial system.
The downgrades come as the euro zone hangs on a knife's edge and investors, governments and businesses battle to work out the impact directly and indirectly from the unwinding of the debt binge. Will China ride through it again and carry Australia with it? The Organisation for Economic Co-operation and Development believes Australia will ride through it and grow at 4 per cent next year, but if Europe and the US topple, the longer-term consequences for Australia are not good.
On a sombre note, while Australia is largely quarantined as long as China continues to grow and demand our commodities, Australia still exports a lot of products to Europe and the US - as does China.
The other reality is the financial system is global and as credit markets continue to dry up a credit rating downgrade of some of the biggest banks in the world will have a circular downward effect on the entire system.
With so many high-profile banks with their tentacles around the world, a credit rating downgrade increases the risk in the banking system, which leads to a reduction in the availability of funding, which leads to a reduction in the profits of the banks, which weakens their capital position, which leads to another credit rating downgrade, and so it goes.
After massive government bailouts of European and US banks and monoline insurers during the global financial crisis, debt became like pass the parcel, with taxpayers left to foot the bill. If the GFC was caused by corporate debt out of control, then this latest crisis has been caused by sovereign debt and the governments.
The various governments in Europe and the US began eroding financial laws in relation to the requirement that companies mark their assets to market - those governments didn't change the laws they just ignored them. To enforce them would have sent many companies into financial oblivion.
But there are virtually no more chairs left in the game of pass the parcel and the world is left facing the latest attempt by European governments to pretend that credit default events will not occur when the banks are finally forced to confess their holdings of Greek debt are worth less than half their face value.
If Australia's banks manage to keep their current credit rating, they will be in a stronger position than their peers, but the potential longer-term consequences of a weaker financing environment, slower growth and higher risk aversion are negative factors for Asia-Pacific region sovereign ratings.
Frequently Asked Questions about this Article…
What happened in the recent S&P credit rating downgrade of major banks?
Standard & Poor's applied a planned credit rating update that cut ratings for a number of big US and European banks — including Bank of America, Citigroup, Goldman Sachs, JPMorgan, Morgan Stanley, Wells Fargo, Barclays, Lloyds Banking and Royal Bank of Scotland — as part of new criteria that factors in industry shifts and the role of governments and central banks.
How did the bank credit rating downgrades affect Australia and the Australian dollar?
Surprisingly, the downgrades have been relatively positive for Australia in the short term: the Australian dollar bounced back above parity and local financial stocks rose as markets recognised the Australian banking system is in stronger shape than many global peers and the big four banks were trading with an attractive fully franked dividend yield of about 7%.
Are Australian banks at risk of being hit by global bank downgrades?
Australian banks could be caught in the crossfire if global downgrades spread — that would be negative — but currently the article notes Australia's banks are in far better shape than many international peers. If they maintain their credit ratings they should be relatively stronger, yet a weaker global financing environment, slower growth and higher risk aversion would still hurt the region.
What does S&P’s new bank-rating criteria mean for investors?
S&P’s new criteria place more emphasis on industry changes and the support role of governments and central banks, meaning bank ratings can change as sovereign and systemic risks evolve. Ratings agencies are also trying to repair credibility after the GFC, so investors should expect more active, criteria-driven reviews of banks worldwide.
How can bank downgrades affect global credit markets and everyday investors?
Downgrades increase perceived risk in the banking system, which can reduce funding availability, squeeze bank profits and capital, and create a circular effect of further downgrades. For investors this can mean tighter credit conditions, volatile bond and equity markets, and heightened risk across portfolios tied to banks and credit-sensitive sectors.
Which risks should investors monitor after the bank downgrades (e.g., Europe, US, China)?
Key risks are uncertainty and lack of confidence in the US and European economies, the euro‑zone debt situation, and the possibility of sovereign shocks. Investors should also watch China’s growth because Australia’s resilience depends heavily on continued Chinese demand for commodities; the OECD expected Australia to grow strongly, but wider global trouble would still be damaging.
What happened to Bank of America specifically and why should investors care?
Bank of America’s share price had fallen more than 60% over the past year at the time of the article, and it warned the SEC that a credit rating downgrade 'could likely have a material adverse effect on our liquidity.' That illustrates how a downgrade can directly threaten a bank’s funding and day‑to‑day operations — a real concern for investors holding bank stocks or credit exposure.
What practical steps should everyday investors take in response to these bank rating changes?
Don't overreact to a single day's market moves; stay informed about banks' credit ratings and balance‑sheet strength, consider how much exposure you have to banks and to Europe/US sovereign risk, and remember diversification matters. The article highlights attractive dividend yields in Australian banks but also warns of broader systemic risks, so balance yield appeal with caution about the financing environment and global economic uncertainty.
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