The cost to protect against losses on Morgan Stanley (MS:US) debt fell after Moody’s Investors Service downgraded the owner of the world’s largest brokerage two levels rather than the three that the ratings company previously said were possible.
Credit-default swaps tied to Morgan Stanley dropped 20 basis points after the announcement to a mid-price of 370 basis points, according to market participants familiar with the trades. The contracts, which decline as investor confidence improves, reversed an earlier increase to as high as 400 basis points, according to prices compiled by data provider CMA.
Bonds issued by Morgan Stanley had already dropped to prices implying junk ratings, according to a separate Moody’s unit that analyzes market data. Moody’s had said it might reduce the rating on the New York-based firm by as many as three levels in its industrywide review. Morgan Stanley can manage through any potential cut, Chief Executive Officer James Gorman said June 12 at an investor conference in New York.
Credit-default swaps tied to Goldman Sachs Group Inc. (GS:US) declined 20 basis points to a mid-price of 280 basis points, market participants said. Moody’s lowered the fifth-biggest U.S. bank by assets to A3 from A1, with a negative outlook.
“All of the banks affected by today’s actions have significant exposure to the volatility and risk of outsized losses inherent to capital markets activities,” Moody’s Global Banking Managing Director Greg Bauer said in a statement.
Credit swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.
The Markit CDX North America Investment Grade Index, a credit-default swaps benchmark that investors use to hedge against losses on corporate debt or to speculate on creditworthiness, rose 2.9 basis points to a mid-price of 117 basis points 5:34 p.m. in New York, according to Markit Group Ltd. That’s down from as high as 118 basis points before the Moody’s announcement.
The downgrades may force banks to post additional collateral to trading partners in derivatives deals while boosting the companies’ borrowing costs. Moody’s said when it announced the review that it was seeking to reflect the banks’ reliance on fragile confidence in funding markets and increased pressures from regulation and a difficult market environment.
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