Moody's has raised a potential problem for banks, which is having to pay higher rates to customers for deposits than what they receive in returns from loans. This growth in higher rates did not remain long-term for the banks, and in the first quarter of 2021, there was a decrease in bank profitability due to the failure of some banks and a decrease in net interest margin. When looking at the specific reports that Moody's has released, they have called for a review of U.S. Bank for a downgrade due to the "rising deposit costs and increased use of wholesale funding."
This week's downgrades and outlook warnings from Moody's on a range of U.S. banks highlight the fact that the industry is still facing challenges after the demise of Silicon Valley Bank.The second quarter data had indicated that most banks had managed to hold their deposits in spite of the acute regional banking crisis in March, leading to some relaxation in the concerns around the sector.However, a fresh concern is emerging for small and mid-sized banks: They have been compelled to pay more to customers for their deposits, at a much higher rate than their returns from loan products.Moody's global co-head for banking, Ana Arsov, who co-authored the downgrade report, observed that the banks had succeeded in holding their deposits, though at a cost. She added that it is an issue affecting profitability as deposits continue to leave the system.Usually, banks benefit when interest rates rise, as they can increase their lending margins by charging higher rates for credit-card loans and other items, while raising the payment they make to depositors slowly.
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This quarter, the outcome of increased interest rates was transient. This was demonstrated when bank collapses shook depositors awake and caused the net interest margin to decrease. Arsov stated, "Bank gains have temporarily reached their peak. One of the main advantages U.S. banks possess when compared to other banking systems - their above-average profitability - is not as noticeable due to weak loan growth and a lack of ability to make a return." Lowering profit margins - along with lower capital levels than rival regional banks and worries of commercial real estate default - all served as grounds for Moody's to reassess bank ratings after prior actions. As a result, in March, Moody's put six banks, First Republic included, into consideration for downgrading and revised their outlook for the banking industry from stable to negative.
Moody's expressed concern this week about falling margins impacting U.S. Bank and Fifth Third's credit considerations. Its review for U.S. Bank was attributed to increasing deposit costs and utilization of wholesale funding while Fifth Third's outlook was downgraded to negative due to elevated deposit costs. Arsov noted, however, that the analyst does not believe the U.S. banking system is in disarray and that all the banks remain rated investment grade, signalling a small danger of default. He added, "We are not implying that the banking system has fallen apart; there is just an expectation that profitability, regulation, and credit costs will climb in the next 12-24 month period."
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