Wednesday, March 17, 2010

US Financials Financial Regulatory Reform, Round 2 $SPY

  •  The potential end of “too big to fail” — The revised Senate bill on financial regulatory reform would end the “too big to fail” doctrine and require that unsecured creditors incur losses in a liquidation of an insolvent financial institution, using the same language as the House bill passed last November, based on our reading of the draft legislation.
  •  Potential rating downgrades — When the House bill was passed last year, Moody’s and Standard & Poor’s expressed concern about its provisions mandating losses for unsecured creditors. The agencies said that if the Senate passed similar legislation, they might have to reconsider the “ratings uplift” they gave certain institutions based on their assumption regarding government support. The companies in our coverage universe that could be at risk of a downgrade include Bank of America, Goldman Sachs, Morgan Stanley and Wells Fargo.
  •  Possible mitigating considerations for the rating agencies — There are some considerations that might temper the rating agencies’ concerns. Unlike the House bill, the Senate bill does not mandate losses for secured counterparties, such as repo lenders. The new Senate bill contains several procedural safeguards that, in our view, express its view that a liquidation of a large financial institution by the government would be an extraordinary step. Both agencies have noted that the creation of a systemic risk council, which could order large financial institutions to take remedial measures (higher capital, better liquidity), would be a positive step.
  •  But cannot predict agencies’ reaction — At this point, we cannot predict how the rating agencies are likely to react, although we think that the firms still face a risk of downgrade... if the Senate passes the bill. However, it is not clear, at present,
  • if the bill will garner sufficient support to be passed by the full Senate. We do not expect the rating agencies to take definitive actions until and unless the full Senate passes the bill.
  •  The return of the Volcker rule — The revised bill would allow the Federal Reserve to retain its supervisory authority over large financial institutions, which is a positive development, in our view. Surprisingly, the revised bill resurrects the “Volcker
  • rule”, but the rule would not go into effect for a least two and a half years

US Financials

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