Home » Money » Downgrade (with a yawn)

Downgrade (with a yawn)

The announcement came after the closing bell, after the noise of the day was over.  Moody’s bond rating agency cut the rating for 15 banks in the US and Europe, hitting all of the big ones at one.  JP Morgan, Goldmann Sachs, Morgan Stanley, Barclays, Credit Suisse, Deusche Bank, Société Générale – pretty much every major investment bank was hit with major downgrades.

Reaction in the press was swift. “This has been a long time coming” was one way of putting it, with speculation that “Should any major bank be considered investment grade?”  The entire financial system is downgraded at once and it was something like a big yawn.

But there is a story here.  True, it has been moving in slow motion for a long time, so a downgrade by Moody’s is just one event in a long chain.  But it still means something, and the effects of this may ripple for a long time.

The most obvious immediate problem is that with this downgrade, each of these banks will have to increase their capital on hand to bank their various adventures investments throughout the world.  The exact amount is unclear, but at least $100B is a reasonable first guess.  That means that cash will have to be raised quickly, meaning a sell-off of something.  It’s hard to say what, exactly.

Another obvious problem comes not just in the downgrade but in the reaction to it.  No one really cares anymore.  Big banks being in nearly constant trouble is accepted as the state of the world, meaning that markets themselves are going to isolate themselves from this mess as much as they possibly can.  Nearly everyone understands that these banks are fully detached from reality and a fall is inevitable.  That should make it easy to deal with than the fall of Lehman in 2008, but it also means we should be ready.

That’s where the biggest problem of all comes in.  Moody’s made it clear that JP Morgan in particular would have been downgraded to “junk” status had it not been for you and I standing behind them.  According to Bloomberg News:

Without the implied federal backing, JPMorgan’s long-term deposit rating would have been three levels lower and its senior debt would have dropped two more steps, Moody’s said.  

Part of the reasoning behind the low opinion of JP Morgan comes from their ability to lose a few billion bucks with a very simple mistake, but the biggest concern is that overall they are far too highly leveraged.  That’s the technical way of saying that they are playing high stakes games with Other People’s Money.  It’s one Hell of a game, and ultimately it involves your money, too.  How hard would you throw the dice if you were offered a huge pile of chips for nuthin’?

But as we all know, this game has been going on for a while.  The real story lately is the ongoing strength of US Treasury Bills as money seeks out a safe place to be parked.  The 10 year T-Bill yield is continuing its slide, as shown below:
This is the surest sign that investors generally find nothing but risk as they look through the investment world.  Moody’s pronouncement is nothing more than what they already know.  Some have said that the 10yr yield will slide all the way down to 0.5%.  Stay tuned.

What will happen in the near future?  Negative financial news is hardly news anymore, so pronouncements like Moody’s hardly register.  It’s already priced into the market, especially when you look at Treasuries.

That’s where we are today – every major bank is downgraded and it’s rather hum-drum.  Makes you wonder what the headlines will be when one of them fails.

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10 thoughts on “Downgrade (with a yawn)

  1. I for one am appalled that a bailout is taken into account for Morgan. That means that they do get preferential treatment and are required to have less capital on hand than a smaller bank! This is corruption at its worst. They have all the advantages and others do not. They can go off and make complex highly leveraged deals and play games all with taxpayer backing? I am so mad I could scream!

  2. What would happen if they all did fail? Would it really be that bad? I mean if everyone had to do without their credit cards I bet something could be put together to make that system work but the rest of it?

  3. What goes up must come down. When balance sheets go up then people generally consume increasingly more. When balance sheets go down then you consume less. World gdp might go down. Central banks are the lender of last resort, except in Europe. Central banks try to save the day. In addition, not all nations would contract at the same rate, so hopefully some would start rebounding and the upward spiral could start.

    From the standpoint of a nation the currency value and the external debt and the terms of trade are the only things that matter. Domestic debt and unfunded liabilities or cancelled benefits matter as a distributional and political issue.

  4. I calculated $7.8T went outside the US in the last 20 years, summing up our balance of trade deficit. No nation can keep that up forever. It had to come down eventually, and we have to either make more stuff or consume less at some point.

    Nothing else seems to matter. All the debt will have to be forgiven at some point, collapse or not.

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