Australian banks facing A$24b hybrid downgrade

Australian banks face having the credit ratings of A$24 billion in hybrid securities slashed as regulators in Australia and around the world take a tougher view of the shares that now make up a key part of bank balance sheets.

The Moody's ratings agency is reviewing the way it assesses hybrid shares following actions by governments aimed at stabilising the global banking system.

It believes hybrids are now more vulnerable to being hit by defaults, and has warned it could be forced to cut the ratings of securities issued by some of the nation's biggest banks to just a notch above junk.

Any ratings downgrade could trigger a sell-off by some institutional investors, while banks may be more cautious about future issues of hybrid shares.

Of most concern to Moody's is the prospect that regulators such as the Australian Prudential Regulation Authority could order banks to halt interest payments on hybrid securities to ensure the capital base of banks is protected in the face of rising lending losses.

Proposals to build up capital buffers to protect banks against bad times could also pressure hybrid interest payments.

''We have seen a global trend during the financial crisis of regulators being increasingly willing to impose losses on hybrids outside of liquidation,'' a Moody's senior vice-president, Patrick Winsbury, said.

''These actions have been contrary to historical precedent and have increased the loss probability.'' Mr Winsbury said the review could result in downgrades averaging about ''three notches'' for the hybrid securities that banks used for their tier-1 capital.

Moody's stressed that the review had no effect on the underlying credit rating of the banks - that is, their deposit and senior debt rating would not be affected. Hybrid securities have characteristics of debt and equity, and trade on the Australian Securities Exchange.

The Moody's review comes as ANZ markets a $1.7 billion hybrid issue, although a spokesman for the bank insisted it would not be affected by the review. ''ANZ's current offer of convertible preference shares is not rated by Moody's and is not impacted by the change,'' the spokesman said.

Still, in the prospectus with the convertible preference share issue, ANZ noted that any material downgrade of hybrid securities could ''adversely affect the market price and liquidity''.

Some fund managers could be affected given that they may be limited to investing in securities that have specific credit ratings.

Hybrid shares usually make up less than 10 per cent of most credit market funds. But they are popular among retail investors. Moody's said possible downgrades covered more than $24 billion of outstanding Australian bank hybrid securities. Globally there is about $US450 billion ($A484 billion) in hybrid and subordinated debt that could be affected.

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