Tuesday, May 29, 2012

The spike in ratings downgrades is driven by banks

Fitch has been on a downgrade "war path" recently. The latest downgrade vs upgrade statistics are showing a "mini spike" in the number of downgrades. It's not nearly as bad as the 2008/2009 cycle, but is clearly visible. This spike is coming entirely from rating actions in the developed markets.

Drilling down further reveals what is actually driving the downgrades. The chart below compares the rating actions for industrials versus financials. Clearly Fitch has been aggressive in downgrading banks.

Source: Fitch; click to enlarge

The equity market seems to agree with this assessment. Financials have underperformed considerably over the past year (covering the period of these downgrades).

Financials (white) vs. the SP500 (green) performance over the past year

The other rating agencies have also been active in downgrading financials - particularly last year. At this rate it is only a matter of time before many banking institutions will lose their investment grade standing. It will be interesting to see how the high yield and the crossover markets handle this inflow of new names.

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