Fitch Ratings’ Outlook for The Bear Stearns Companies Inc. remains negative following the announcement of its fiscal year (FY) earnings for 2007, which included a loss of $854 million for the latest quarter.
On 14 November 2007, Fitch affirmed Bear Stearns’ long-term credit ratings, along with its subsidiaries. Fitch also downgraded the short-term rating to ‘F1’ from ‘F1+’, and Individual rating to ‘B/C’ from ‘B’.
Total long-term debt of $68.5 billion was outstanding as of 30 November, 2007. Unsecured short-term debt was $12.8billion. Fitch also revised Bear Stearns’ rating outlook to negative from stable last month.
Bear Stearns’ full year’s income was $233 million, a decline of 89% from FY 2006. Fitch’s negative outlook anticipated a material departure in performance for Bear Stearns. The loss for the quarter and the sources of profit were consistent with Fitch’s expectations. Importantly, these results did not exhibit material contagion into Bear’s other businesses.
Bear Stearns’ solid franchises in global clearing, equity sales and trading and prime brokerage and their earnings contributions are key to maintenance of the current ratings. In addition, the expected increase in capital from the announced partnership agreement with CITIC securities and its more limited market and credit risk appetites relative to peers are also highly relevant.
Near term profitability is expected to be pressured given Bear Stearns’ franchise exposure to the total US mortgage market and global securitization markets. Fitch believes financial performance in 2008 will remain challenging given Bear Stearns’ scale of its fixed income business and more limited international scope.
Future adverse rating actions will be dictated by several factors, including: continued interim earnings declines, severe negative valuation adjustments, an increased risk profile, diminished liquidity, rising leverage and/or tangible equity erosion. Litigation and adverse results from investigations of asset management may also weigh on earnings as well as the ratings. Long-term ratings would not be expected to be downgraded by more than one notch.
Fitch believes restoration of sustained earnings growth may be hampered by limited opportunities in key business lines including securitization and CDO/CLO underwriting.
The mortgage origination and securitization businesses will focus on the less profitable prime and agency backed businesses. Bear Stearns is focused on maintaining its equity sales and trading franchise and global expansion. Prospects for near-term growth in asset management revenues and assets under management have been dampened by the liquidation of two sponsored MBS hedge funds this past summer.
Liquidity has been managed well and is ample, while the operating environment may limit Bear Stearns’ financial flexibility. Bear Stearns continues to maintain cash and unencumbered securities well in excess of 110% of unsecured debt maturing in one year. Like its U.S. peers, leverage has increased steadily over the past three years. Term debt maturities have been extended, however, and are fairly well-laddered.
Fitch expects capital management to focus on increased retention rather than share buybacks. Buybacks are expected to occur in tandem with earnings and capital generation, so that leverage is contained and the capital structure is unimpaired.