S&P cuts ratings for 23 financial institutions

Sharad Jain a Director at S&P Global Ratings talks about why they have lowered the ratings of 23 financial institutions.

Introduction – S&P cuts ratings for 23 financial institutions

Ross Greenwood: Welcome back to Monday News right around Australia. You might be aware that Standard and Poor’s, S&P, Global ratings today, has lowered the ratings of 23 Australian financial institutions. These include AMP, the Bank of Queensland, the Bendigo and Adelaide Bank but many more besides. Let’s say for example you have got some such as Members Equity, you’ve got Liberty Financial, you’ve got Greater Bank, you’ve got Defence Bank, number of others out there. Now the important side of this is actually the first paragraph of this whole report.

This is the thing, in our opinion economic imbalances in Australia have increased due to strong growth in private sector debt and residential property prices in the past four years, notwithstanding some signs of moderation in growth in recent weeks. Consequently, we believe financial institutions operating in Australia now face an increased risk of sharp correction in property prices and if that were to occur a significant rise in credit losses, that’s the case. Now the big banks, the big four banks, they’ve had their credit ratings maintained at this stage so to that of Macquarie.

Now, bear in mind also we’ve told you previously about the government being on very short notice in regard to its own Triple A credit rating and as we just heard if that were to be lost so too would be the credit ratings downgraded of our major banks. Sharad Jain is a director at S&P Global, has done work on this particular issue, that their ratings of 23 Australian financial institutions lowered. Sharad is on the line right now, many thanks for your time.

Interview with Sharad Jain Standard & Poors

Sharad Jain: Hello, how are you?

Ross Greenwood: Good thank you. Can you just explain to me in regards to the risks, the downside risks? You say a sharp correction in property prices would impact these financial institutions. What sort of a sharp downturn are you talking about and what sort of impact would it have on these institutions?

Sharad: Yes. Look, a sharp correction when we talk about it. What we mean is a correction that’s accompanied by a loss of confidence by the investors, by the household sector, by the corporate sector and the one that’s also accompanied by increase in great losses that are incurred by the banking sector as a consequence. What we typically see in a sharp correction, which doesn’t happen as a matter of routine, is it doesn’t occur, when it does, in a vacuum.

It does also then weaken the broader economy as a whole which shows up in slowdown in GDP growth or even contraction in GDP, rise in unemployment and like I said, a significant weakening in the confidence levels on the investment side.

Ross Greenwood: You do also say Sharad in the report that, “Despite our view that the risk of a downside scenario and its impact have increased, we consider the outlook for these Australian banks remain relatively benign by global standards.” We’re just saying, is it the risk that’s increasing of that sharp downturn, not necessarily that it’s imminent or that it will necessarily happen at all because of the actions of the bank regulators and the government authorities?

Sharad: Absolutely. Our best case remains was the risks of this downside scenario have increased. The best case scenario still remains that these things will sort themselves out in an orderly manner. What that means is that there has been this buildup of these risks, they will get lowered over the next few years, to slow down of property price growth or even mild declining property prices without having any impact on the broader economy.

Ross Greenwood: In other words, we talk about a Goldilocks scenario, in other words not too hot, not too cold, just right. That would be the property prices start to unwind, they might even cool down a little bit may ease a little bit around the country without a sharp drop that would therefore, have an economic impact. That’s if you like the scenario that its seems that the Central Bank and also bank regulators are trying to aim for, a cooling of the market without a sharp correction that would have a subsequent economic impact in Australia.

Sharad: That is correct and that is indeed our best case scenario. If you look at our rating too in spite of the rating action we have taken today, we consider that the bank ratings in Australia remain amongst the strongest globally. Certainly, when we look at the banking system as a whole, we consider it amongst the lowest banking system.

Ross Greenwood: Yet notwithstanding that Sharad, what you do make the observation, it is not just the government debt, and I know when we spoke with S&P Global in the past, we talked about the government’s credit rating. The rise in the government state is one issue but it is the rise in household debt and the significant amount of household debt that is held now that is the potential global risk to Australia. If at any stage the world decides not to lend to Australia because it’s worried about the amount of debt that we have, that’s when interest rates start to rise. That’s when, if you like, a more gloomy scenario for Australia’s property and indeed for Australia’s lenders and banks that comes into play.

Sharad: Yes, you’re absolutely right Ross. That the linkage of external imbalances to the household sector that does also heightened risk to the banking sector and the broader economy.

Ross Greenwood: I’ll tell you what, it’s going to be fascinating to just see exactly how all this plays out. Only time will tell perhaps the next two or three years but we’ll no doubt be talking with you in the meantime. Sharad Jain is a director at S&P Global, today has downgraded the ratings of 23 financial institutions based on that scenario. In other words, the risk increasing the property prices could suddenly turn around and that could have an impact on many of those financial institutions. It’s not the best case scenario but the risk is increasing.

Do bear in mind also there’s other reports out today suggesting the number of interest only loans in Australia also could be a fundamental problem for many Australians and also financial institution. Sharad, we appreciate your time here on Money News.

Sharad: Thanks, Ross.

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