Capital Markets

Moody’s Sours on Goldman, Morgan Stanley

The long-term debt ratings of the two big investment banks may be in for a tumble.
Stephen TaubOctober 10, 2008

The badly bruised, hyper-jittery capital markets were dealt another blow Thursday when Moody’s Investors Service warned it may cut the long-term debt ratings of Morgan Stanley and Goldman Sachs and many of their units.

The rating agency placed the long-term debt ratings of Morgan Stanley and its subsidiaries on review for downgrade. All short-term ratings were affirmed at Prime-1. The bank’s senior debt is rated A1.

Moody’s also assigned a negative outlook to the long-term ratings of Goldman Sachs (senior debt at Aa3) and its subsidiaries. All short-term ratings were affirmed at Prime-1.

In both cases, Moody’s explained, its review is based on its expectation that an extended downturn in global capital market activity will reduce Morgan Stanley’s and Goldman Sachs’ revenue and profit potential in 2009, and perhaps beyond.

“In addition to the depressed market environment,” Morgan Stanley and Goldman “will need to adapt the firm’s business activities and balance sheet to operate in a bank holding company structure,” Moody’s said. This could limit profit opportunities for both firms, though their risk profile could be lowered, thus mitigating this concern, Moody’s added.

Moody’s also said that in addition to the depressed market environment, Goldman Sachs will need to adapt the firm’s business activities and balance sheet to operate in a bank holding company structure. “This could limit profit opportunities, though the firm’s risk profile could be lowered, thus mitigating this concern,” Moody’s said.

It also stressed that Goldman Sachs’ Aa3 long-term ratings remain anchored on superior performance, proven risk management discipline, the reduction of leverage, a conservative liquidity profile, and a level of systemic support that is factored into the rating.

Moody’s pointed out that customer and investor concerns regarding wholesale investment banks have also put pressure on Morgan Stanley. “Investor, counterparty and customer confidence is critical to the funding and profit generation of the firm, especially in a hostile market environment,” the rating agency elaborated.

During its review, Moody’s said, it will focus on the success of the actions that both firms’ managements take to alleviate these confidence pressures and maintain customer franchises, while retaining key producers in a difficult environment.

Moody’s did say it believes Morgan Stanley’s recent performance has been relatively solid, that it has acted to solidify its capital base, maintained a good liquidity profile, and benefited from a level of systemic support that is factored into the rating.

However, pressure seems to be building for Morgan Stanley. The Wall Street Journal reported that hedge-fund clients have pulled about one-third of their money from the firm in recent weeks. The paper also noted that the firm can’t issue new debt.

The hope is that the company’s stock — down 77 percent this year to a 10-year low — could get a boost once Japanese bank Mitsubishi UFJ Financial Group closes on its planned $9 billion investment in the firm, scheduled for Tuesday.

The big concern is that Mitsubishi’s purchase price of $25 a share now is roughly double Morgan Stanley’s closing price on Thursday. So, suddenly the Japanese bank’s $9 billion commitment just two weeks ago to buy 21 percent of the firm will give it a 65 percent stake.