More Bank, Brokerage Writedowns, Ratings Cuts Inevitable
Further subprime-mortgage related writedowns are likely at big US banks and brokerages, leading to downgrades by the debt rating agencies, according to CreditSights, and Citigroup’s writedowns could extend well beyond the $8-11 billion recently identified.
CreditSights acknowledges the difficulty in assessing the potential losses in Collaterized Debt Obligations, due to the lack of disclosure and the lack of liquidity in the markets for “new age finance” instruments.
CreditSights took the CDO issuance from 2007 and applied a hit in-line with its estimate of the decline in the ABX index that tracks prices of mortgage pools for the period since September 30.
The results reflect potentially sizable hits, led by Citigroup at close to $14 billion, which equates to about 11% of equity and 64% of FY06 earnings.
CreditSights says “if we layer in potential write-downs of SIVs, total write-downs could be as high as $21 billion assuming the company brings on balance sheet and marks-to-market Structured Investment Vehicle assets.”
Writedowns at the other two big banks are estimated at $5.4 billion for Bank of America and $4.1 billion for JPMorgan Chase.
CreditSights said it made these estimates “on the very conservative side without factoring in any potential offsets from dynamic hedging and/or proprietary trading positions. For example, in its 3Q07 results, Goldman Sachs noted “significant” mark-downs that were more than offset by sizable short positions across mortgage related assets. If we further layer-in risks from off balance sheet variable interest entity exposures, mark-downs could move substantially higher, although again isolating CDOs within the VIE bucket is nearly impossible across the various players given lacking disclosure.
CreditSights is lowering its own ratings on several banks and brokerages (Citigroup, Bear Stearns, Lehman, Merrill Lynch and Morgan Stanley) and expects the rating agencies to do so as well:
We believe the agencies have underestimated the revenues and credit impacts of the new age finance and are just coming to the realization that rating changes are in order.
“With their rapid reassessment of 2007 CDO ratings and draconian downgrades, it may be a matter of time before they reassess their brokerage ratings.”
CreditSights says that amongst the three Big Banks’ capital ratios, Citigroup could be the most impacted, followed by Bank of America and JPMorgan, respectively. Citi’s Tier 1 ratio could decline below the 6% threshold if the company is forced to write-down assets in its SIVs.
“However, we believe that while both BofA and JPMorgan could incur significant CDO related write-downs, the companies’ regulatory capital ratios would be above “well capitalized” limits.
The full report U.S. Banks/Brokers – CDOs Top The Hit Parade; Where’s The Bottom? Can be purchased here.
Charles Peabody, partner at New York-based research firm Portales Partners LLC, expects more writedowns from Citigroup. He said there also may be writedowns at Goldman Sachs, which posted a 79% increase in third-quarter profit in September. He said banks like Goldman and Lehman Brothers may not have hedged their mortgage exposure sufficiently to avoid writedowns.
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