An update on sub prime exposures of US investment and commercial banks

August 03, 2007 -- The sub prime exposures of the major US investment banks and institutionally active commercial banks do not have negative rating implications at this time, says Moody's Investors Service in a new report. These various exposures relating to the turmoil in the sub prime mortgage markets remain limited relative to the diversified earnings power of the firms.

"The firms' overall net position sizes in the sub prime sector are modest relative to each firm's capital and liquidity," says Moody's Senior Vice President Peter Nerby. "The diversification of each firm's business is also allowing them to post solid firm-wide results, despite write-downs resulting from the severe decline in prices and evaporation of liquidity within the sub prime sector."

Among the US commercial banks, Moody's is primarily concerned about wholesale banks building up sub prime-related trading or financing positions. Discussions with the four large US commercial banks most active in the sub-prime market have led Moody's to conclude that exposures are manageable relative to earnings capacity. These banks are Bank of America, Citigroup, JP Morgan Chase, and Wachovia.

Among the commercial banks and investment banks, risk management has helped them navigate the sub prime turmoil. Several market indicators are currently implying wide rating gaps relative to Moody's current ratings. This may be explained by the opacity of disclosures regarding sub-prime risks and positions, which creates investor uncertainty, Moody's says.

"A key factor underlying our stable ratings at these major wholesale firms is the day-to-day effectiveness of risk management, "says Nerby. "Our evidence suggests that risk management is working effectively during this stress period."

As for the spreading of risk aversion to leveraged loans, Moody's acknowledges that if market conditions stay weak, there will be additional mark-to-market losses on some over-hold positions, which would hurt third quarter results. With several large loan syndications recently failing, Moody's says discussions on deals between private equity sponsors and arranging banks are ongoing, and the situation remains fluid.

"We are still analyzing the impact of the leveraged loan market situation on the liquidity position and concentration risks of each firm, and we will provide further updates on any potential rating implications it may have," says Nerby. "On balance, we see this as a bigger issue for the investment banks, given their tiny base of core deposit funding and less diversified earnings, compared to the biggest US commercial banks."

Moody's is maintaining an active dialogue with the five large US investment banks that it rates: Bear Stearns, Goldman Sachs, Lehman Brothers, Merrill Lynch, and Morgan Stanley. All have stable rating outlooks, except for Lehman Brothers, which has a positive outlook.

The title of this Moody's Special Comment is "Update on Sub-Prime and Related Exposures at US Investment and Commercial Banks."

(This is the press release of Moody's Investors Service)

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