Moody's May Downgrade Wells Fargo's BFSR And Long-Term Debt Ratings

Moody's Investors Service placed the long term ratings of Wells Fargo & Company (senior debt at Aa3) under review for possible downgrade. Moody's also placed the long term ratings of Wells Fargo's subsidiaries including its lead bank, Wells Fargo Bank

By None

Moody’s Investors Service placed the long-term ratings of Wells Fargo & Company (senior debt at Aa3) under review for possible downgrade.

Moody’s also placed the long-term ratings of Wells Fargo’s subsidiaries including its lead bank, Wells Fargo Bank N.A.(bank financial strength of B and long-term bank deposits at Aa1) under review for possible downgrade. The Prime-1 rating on all of Wells Fargo’s entities was affirmed. Moody’s Bank Financial Strength Ratings (BFSR) represents Moody’s opinion of a banks intrinsic safety and soundness and, as such, excludes certain external credit risks and credit support elements.

These actions had no impact on the FDIC-guaranteed debt issued by Wells Fargo, which remains at Aaa with a stable outlook.

Moody’s review of Wells Fargo’s BFSR and long-term debt ratings will focus on two issues. The first is the impact that future credit costs could have on Wells Fargo’s capital ratios. The second is the rating implications of possible systemic support, and how that support could affect various obligations ranging from deposits to non-cumulative preferred stock. The rating agency expects to conclude its review by the end of this month.

The review was prompted by a concern that Wells Fargo’s capital ratios could deteriorate in 2009 from their current levels, which are comparatively low, because of the potential need to take high loan loss provisions in 2009.

Wells Fargo’s tangible common equity ratio was a modest 5.1% at year-end 2008, when adjusted both to give some credit to hybrid capital securities and relate capital to risk-weighted assets. Wells Fargo’s Tier 1 ratio of 7.8% is higher, but lower than many of its peers.

Wells Fargo’s comparatively low capital ratios — especially its adjusted tangible common equity ratio — result from the fact that the equity Wells Fargo raised for its purchase of Wachovia was, in Moody’s view, modest in comparison to the amount and quality of the acquired Wachovia assets.

In evaluating Wells Fargo’s capacity to absorb losses, Moody’s will incorporate other factors in addition to Wells Fargo’s capital. They include marks Wells Fargo has taken against Wachovia’s assets, its loan-loss reserves, and its earnings capacity.

Regarding the currently A1-rated trust preferred securities backed by junior subordinated debt, the rating agency said that the cumulative nature of the distributions on such instruments makes deferral less likely even in the event that additional government support is required.

In contrast with noncumulative preferred stock, deferred payments on cumulative instruments eventually need to be repaid. The degree of capital preservation is therefore more limited, providing less incentive for authorities to impose a deferral. Nonetheless, the rating agency believes this risk cannot be completely ignored, and therefore the downward pressure on these ratings are greater than more senior obligations, but possibly less than on the BFSR and preferred stock ratings.

“We expect that any downgrade of Wells Fargo’s ratings for deposits, senior debt, and senior subordinated debt would be limited to one or two notches,” says Sean Jones, senior vice president, Moody.

However, Moody’s bank financial strength ratings are intended to measure the likelihood that a bank may require external support.

“Given the pressures on Wells Fargo’s capital position, we believe that a multi-notch downgrade is likely for the bank financial strength rating,” continues Jones.

“We expect that the trust preferred ratings are likely to remain investment grade at the conclusion of our ratings review.”