Moody's warns bank 'ringfencing' could spark ratings downgrade

BONDHOLDERS will suffer from the Chancellor's proposals to ring-fence banks' retail businesses from their investment divisions, credit ratings agency Moody's warned yesterday, increasing the likelihood of ratings downgrades in the sector.

George Osborne used Wednesday night's Mansion House speech to endorse ring-fencing plans recommended by the Independent Commission on Banking (ICB), a move Moody's described as "credit negative" for UK lenders.

Any entity outside the ring-fence would be less likely to qualify for government support in a future crisis, Moody's noted, meaning these could be allowed to fail while retail activities are protected. The agency said: "We consider the principle of ring-fencing to be negative for existing bondholders if, as we expect, they are largely placed outside the ring-fenced entity."

Moody's has already warned it could downgrade 14 lenders because regulators appear less willing to bail out banks in the future.

The greatest negative impact on creditors would be felt at Barclays, Royal Bank of Scotland and HSBC, Moody's added, as they have UK retail and wholesale banking within the same legal entity.

The ratings agency added that greater clarity was still needed on how exactly the proposals would work.

The ICB - led by Sir John Vickers, pictured right, the former Bank of England chief economist and ex-director general of the Office of Fair Trading - will publish its final recommendation in September.

Its interim report in April recommended that major banks should keep 10 per cent of their capital set aside to cover potential losses, as well as the ring-fencing of retail deposits.

The ICB also severely criticised Lloyds TSB's takeover of Halifax Bank of Scotland (HBOS), forced through by Gordon Brown's Labour government at the height of the 2008 financial crisis.

Lloyds is already being forced to sell 632 branches by the European Commission as the price for accepting state aid but Vickers called for more sites to be sold off, adding that it was too late to split HBOS and Lloyds.

RBS chief executive Stephen Hester warned the Treasury select committee earlier this month that ring-fencing different banking operations may backfire by making UK retail banks "too adventurous" in their lending.

Hester cited the collapse of Northern Rock and Bradford & Bingley, and the difficulties faced by the Irish banks and the Spanish "caja" regional banks, whereby a perceived taxpayer guarantee allowed them to go on a spree with cheap money.

The Chancellor also used his Mansion House speech to announce Northern Rock, which was nationalised in 2008, would be returned to the private sector.Nic Clarke, a banking analyst at Charles Stanley, said the industry would have to wait for more details of the ring-fencing proposals in the ICB's final report.

Clarke said the Chancellor's speech was "just the hors d'oeuvres" and "the main course will be served in September".

He added: "The problem is that the devil is in the detail, which we just do not know at the moment.

"Banks are operating under radically different conditions than they were four years ago.

"They need to hold significantly more capital under the Basel III regulations, they are responding much more rapidly to any issues having a negative impact on their brand such as PPI insurance and they are now going to have to implement potentially the biggest structural change for decades."