BY TOD GORDON
Moody’s recent ratings actions impacting 27 U.S. banks reflects a belated recognition of challenges facing the banking industry generally and regional banks in particular. The firms that saw their credit ratings slip may suffer the effects of even higher funding costs and other adverse results. However, looking beyond the headlines, the issues identified by Moody’s hold true for a large swath of the banking industry, and all rated banks should be prioritizing engagement with the rating agencies.
To recap, on August 7 Moody’s downgraded the credit ratings of 10 banks, placed 6 banks on review for possible downgrade, and changed the outlook of 11 banks from “stable” to “negative.” The list of impacted banks is dominated by U.S. regional banks struggling to adjust to rapidly rising interest rates and the shifting macroeconomic environment.
Moody’s cited several key factors as support for the ratings decisions:
Rising funding costs and declining income metrics will erode profitability, the first buffer against losses;
Most regional banks have comparatively low regulatory capital versus the largest U.S. banks and global peers; and
Asset risk is rising, in particular for small and mid-size banks with large CRE exposures.
Despite the sensational media headlines and the immediate negative performance in the sector’s stock prices, the factors underpinning Moody’s actions have been well known for some time.
It is, however, notable that Moody’s actions differed across the impacted banks despite comparability on many of the key metrics. Did the banks walking away with only a Negative Outlook (or no action at all) manage their businesses and rating agency relationships differently than the downgraded banks? Of course, we will never know and it’s quite possible the answer is no. Nevertheless, Moody’s actions are an important reminder that rating agencies have a place among a bank’s key stakeholders.
It’s good practice for bank leaders and boards to oversee and support engagement with all stakeholders, including rating agencies. Banks that are subject to coverage by one or more of the credit rating agencies should maintain programs to effectively manage their interactions with those firms. In my experience, these relationships can share similar dynamics to a bank’s relationship with its regulators—although there are unique aspects that should be considered.
Several best practices I picked up in my many years of managing banks’ relationships with the rating agencies include:
Maintain strong coordination with Investor Relations. Rating agencies should receive the same messages as equity investors, but will come to the table with a different focus, unique questions and expecting greater depth.
Engage in good times, before M&A opportunities or challenges emerge.
Develop trust by previewing earnings and other key announcements. Use this opportunity to tell your story and avoid worst-case assumptions by your analyst and Ratings Committee.
Ensure the agencies know your bank’s leadership team. Hold periodic meetings with the CEO, CFO, CRO, and the most senior business leaders. For extra credit, demonstrate bench strength by having the next level down attend and present. Additionally, these meetings may provide a relationship gateway to other members of your Ratings Committee.
Better understand your position and prospects with the Ratings Committee by understanding the applicable ratings methodology and reading and analyzing ratings opinions of your peer group.
Take these relationships personally, but not the actions (it’s only an opinion).
Over time, banks that are more engaged and thoughtful about their relationships with the rating agencies will be better positioned to navigate through challenges and improve their chances of favorable outcomes.
Image Source: Alex Proimos via Wikimedia Commons.