Morgan Stanley (MS)

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MS was actually not downgraded but was mentioned as a possible downgrade target...

Morgan Stanley, Goldman Sachs and J.P. Morgan have also been mentioned as possible downgrade targets, so this may not be the end of the dropping shoes.

Bank of America, Wells Fargo: The Downgrade Shoe Finally Drops.
September 21, 2011, 12:31 PM ET.
By Mark Gongloff

APFor a long, long time now, investors have been waiting for the day when credit-rating agencies cut their ratings on the big banks due to the possibility that they might get less support from the US government. That day has come.

Moody’s has downgraded Bank of America’s long-term credit rating two notches to “Baa1? from “A2? and its short-term rating to P-2 from P-1.

Baa1 is equivalent to BBB in other rating scales, which is just about the average credit rating for corporate bonds.

And this is not an unexpected development. Still, it’s not welcome and could lead to higher borrowing costs. Bank of America stock is down about 3% at last check to $6.69. Update: It’s now down 4.5% at $6.58.

This could have other Too Big to Fail Banks looking over their shoulders, too. They’ve also been warned in the past of the potential for a downgrade. The XLF is down 2%.

It could have been worse for Bank of America. The agencies warned more than a year ago that Bank of America enjoyed 3 to 5 notches of extra credit-rating support based on the implied government safety net. S&P later gave some of the banks a little more standalone credit.

The fact that Moody’s only cut BofA by two notches suggests they’re still getting some support from Uncle Sam. It also means the other bank downgrades, if and when they come, could be even gentler than this one.

Update: Not shockingly, Bank of America disagrees with the downgrade:

Moody’s decision to downgrade our credit rating is based on factors external to Bank of America: Their conclusion that the Dodd-Frank legislation will make the U.S. government less likely to support financial institutions in a crisis, and a possible further deterioration of the economy. In fact, Moody’s explicitly stated that the downgrades do not reflect a weakening of the intrinsic credit quality of Bank of America.

In terms of factors within the control of Bank of America, Moody’s states clearly that we have made significant progress in improving our capital and liquidity positions, shedding legacy and noncore assets, and managing risk. With regard to the mortgage business, Moody’s concludes that we have ample resources to absorb the additional losses we are likely to experience on these exposures.

While we disagree with their conclusions and we believe our ratings should be higher, to minimize any potential impact of this decision on our business, we have been managing our liquidity carefully and we have prefunded our planned borrowing needs for the year.

Update 2: Sure enough, Wells Fargo has been downgraded, too, by one notch to A2 from A1. That’s the equivalent of an A rating by S&P, so it’s still a pretty high rating. Wells stock is down less than 1%.

Update 3: Citigroup’s long-term rating has been upheld at A1. Citigroup’s short-term rating has been cut to P-2 from P-1. Citi shares are little changed. Remember when Citi was the sick man of the TBTF set?

Update 4: Citi responds, too:

Although we are pleased that Moody’s affirmed both the long-term and short-term ratings of Citibank, N.A. and the long-term rating of Citigroup, we completely disagree with Moody’s change to Citigroup’s short-term rating. It does not accurately reflect the significant progress Citi has made since Moody’s last rated Citi more than two-and-a-half years ago. Regardless, we believe that less than 1% of Citi’s funding will be affected by the Moody’s decision and the downgrade will not affect the short-term and long-term funding of our bank vehicles.

At the end of the second quarter, Citi had $462 billion in cash and available for sale securities, representing approximately 25% of our balance sheet. We have ample liquidity based on a variety of stress tests and liquidity models, including the Basel III Liquidity Coverage Ratio, which we are already in compliance with, even though those requirements are not scheduled to come into effect until 2015.

With a Tier 1 Common ratio of 11.6% and a Tier 1 Capital ratio of 13.6% as of the end of the second quarter, Citi is one of the best capitalized financial institutions in the world. We have made enormous progress refocusing our business strategy to take advantage of our global network and reducing Citi Holdings assets by more than $500 billion from peak levels. With a strong capital base, robust structural liquidity and ample reserves, Citi is well-positioned for sustained future earnings.

Morgan Stanley, Goldman Sachs and J.P. Morgan have also been mentioned as possible downgrade targets, so this may not be the end of the dropping shoes.