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Moody’s downgrades Lloyds TSB and Bank of Scotland

Moody’s rating agency has downgraded both Lloyds TSB and Bank of Scotland in the wake of HBOS’s £10bn loss revelation on Friday.

The bank financial strength rating of Lloyds was downgraded to C+, from B+ with a negative outlook. The strength rating of Bank of Scotland was also downgraded, to C- from B, and remains under review for further possible downgrade.

Moody’s Financial Institutions Group vice president and senior credit officer Elisabeth Rudman says: “The downgrades reflect the high level of troubled and higher risk exposures within HBOS which Moody’s considers will weaken the profitability and capital adequacy of the overall group, as well as the very significant operational challenge of integrating a larger and weaker bank into the group.”

Moody’s warns that integrating a group of the size of HBOS, with total assets at end of June 2008 of £681bn compared with the £368bn assets of Lloyds during a major market downturn may prove problematic and will be a substantial challenge for the management team.

In addition, Moody’s believes that the forecasted cost savings Lloyds boasted may take longer to generate than would otherwise have been the case. It says while Lloyds’s lower risk appetite into the franchise of HBOS will be beneficial, given the size of HBOS’s loan book, this will not be reflected in the group’s asset quality indicators for some time.

But it does predict that if the Government does not intervene further, Bank of Scotland could be downgraded further.

Moody’s also expects further writedowns will still need to be taken
on HBOS’s £30bn self cert portfolio, due to the ongoing deterioration in these securities. It also says Lloyds TSB’s £20bn of small business lending and £24bn of unsecured lending will see further impairments.

Rudman adds: “All of the above charges will continue to have a negative impact on the profitability and capitalisation of Lloyds. At the bank’s current rating of C+ we consider the tolerance for further impairment charges and losses to be around £16 billion. Losses above this level would increase the downward rating pressure on the ratings of Lloyds TSB and Bank of Scotland”.

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