Limited support for bank sub-debt behind Moody's downgrade

“As a consequence of the increasing international trend of selectively imposing losses on holders of junior-ranking securities [creditor ‘bail-in’] as a precondition for an ailing bank to receive public-sector support, we now assume that support for subdebt [subordinated debt] will only be available on an exceptional basis,” said Jean-Francois Tremblay, a Moody’s associate managing director, based in Singapore.

   Tremblay was speaking following Moody’s announcement on Thursday of rating downgrades for the legacy subordinated debt (Basel I/II Lower Tier II) for 40 of the 43 banking groups it had reviewed across eight banking systems in the region, excluding Japan.

   The 43 banking groups are domiciled in India (11), Australia and South Korea (eight each), Hong Kong (six), Thailand, the Philippines and Singapore (three each) and Taiwan (one).

   Moody’s followed the rating actions with its release of a special report, authored by Tremblay and titled “The World Has Changed: The Support Probability for Bank Subordinated Debt in Asia-Pacific Has Significantly Diminished”.

   

Key catalyst 

The report states that the willingness to support the subordinated debt of distressed banks has evolved, with initiatives implemented by the European authorities acting as a key catalyst behind the shift. 

And, because of fiscal strains, there has been a strengthening in the willingness of governments to impose losses on subordinated creditors outside of bankruptcy.

   In crisis-hit countries, this willingness was explicitly demonstrated via the introduction of laws or regulations allowing authorities to impose losses on subordinated debt through bail-in or resolution regimes. 

   In other cases, governments were able to convince investors to voluntarily enter into distressed exchanges without any such legal powers. To capture the risk that these precedents could be repeated elsewhere in the world, including in Asia-Pacific, Moody’s baseline assumption is that subordinated debt will no longer benefit from systemic support and their ratings will be positioned one notch below the adjusted baseline credit assessment. 

   The latter is Moody’s stand-alone assessment of banks’ credit strength, adjusted to incorporate parental support.

   Nevertheless, Moody’s revised approach also allows for the consideration of exceptional circumstances that might warrant including some systemic support in subordinated-debt ratings. 

   It is the balancing of all those factors and their weightings relative to each other that guided the review and led to the subsequent downgrades.