On Monday, August 7, Moody’s cut the credit ratings of 10 small and midsized banks by one notch and put six of the nation’s biggest lenders on notice, creating a tidal wave of concern over the health of the nation’s banking industry. In its evaluations, the credit rating agency highlighted three significant issues that reflect the challenging backdrop created by elevated interest rates and the banking rules that emerged after this year’s banking crisis.
To learn more about the reasoning behind Moody’s downgrades and what it may tell investors about the banking industry’s health, The National Desk spoke with Eric Gerster, CFA, chief investment strategist at AlphaCore Wealth Advisory, for insight.
“The first is that funding costs for banks have increased,” says Gerster. “The second is – the new regulatory rules will require some of these banks to hold more capital, and at a time when capital is more expensive…it’s then harder for them to do that.”
To complete the perfect rating storm, Gerster tells the network that concerns over banks’ exposure to the commercial real estate market also played a role in these downgrades.
“Many areas of commercial real estate fund themselves through floating rate loans, so loans that adjust upwards, similar to if individuals own an adjustable-rate mortgage,” he explains. “So, as the Fed’s been raising rates, the cost of debt on that commercial real estate’s gone up.”
According to analysts at Moody’s, these risks could worsen if there’s a recession, and they believe a mild one could begin in early 2024. However, despite these actions causing bank stocks to dip on Tuesday, Gerster does not expect much immediate fallout, characterizing Moody’s evaluations as somewhat responsive in nature.
“I suspect that they’ve been looking at a downgrade potentially for these banks since the Silicon Valley Bank failure earlier this year and wanted to get a better sense for exactly where the banks sat with their earning potential, with their deposit base, and they waited for the second quarter earnings period for that to happen,” Gerster concludes.
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