* UK banks have access to cheap funding from BoE
* Ring-fencing will reduce need for state bailouts
* RBS, Lloyds borrowing costs broadly stable
By Matt Scuffham
LONDON, Feb 25 The borrowing costs of
part-nationalised British banks were unaffected on Monday by
Britain's loss of a triple-A rating due to measures that had cut
their dependence on the bond market and may reduce their need
for bailouts in future.
On Friday Moody's Investors Service stripped Britain of its
coveted triple-A rating by one notch. The state owns 82 percent
of Royal Bank of Scotland and 41 percent of Lloyds
after stepping in to rescue them during the financial
Since then, the banks have shifted their focus to more
traditional lending and away from the high-flying, more risky
trading that got them into trouble.
"The reality is that the total level of senior bond issuance
from all the UK banks has been declining as they shrink the
non-core and increase deposits within the mix, so the direct
impact is pretty limited," one of RBS's 10 largest shareholders,
who declined to be named, said.
RBS has shed around 700 billion pounds ($1.1 trillion) in
assets in the wake of the financial crisis, while Lloyds has
targeted the sale of 200 billion pounds worth of unwanted loans
Helping that shift, the Bank of England's Funding for
Lending Scheme allows lenders to access cheap funding for making
loans to small businesses and households and has reduced their
need to tap wholesale funding markets.
Investors also cited prospects for new laws that would
ring-fence deposits held by individuals and small businesses
from riskier activity, so that they are unaffected if the risky
side of a bank fails, putting less pressure on the government to
jump to the rescue.
"In theory, this should reduce the correlation between banks
and the sovereign," said Andrew Coombs, an analyst at Citi.
EVEN MORE VULNERABLE TO ECONOMY
The fortunes of RBS and Lloyds are becoming more closely
linked to the British economy, however, as they retrench from
"The risk remains that economic conditions could deteriorate
more severely, leading to reduced levels of activity and higher
impairment losses," Coombs said.
Lloyds Chief Executive Antonio Horta-Osorio has warned of a
"long and difficult recovery" for the British economy.
James Carrick, an economist at Legal & General Investment
Management, said Britain's banks were already rated three
notches below the sovereign, so he is not expecting an automatic
follow-up change in their ratings.
"This downgrade is bad news for the government, because they
are going to have to reconsider the fiscal tightening they are
going to have to do, but I wouldn't have expected a massive
shock to the funding costs of banks at this stage," he said.
Moody's has an negative outlook on both banks, meaning that
future downgrades are possible.
At the close of trading on Monday, shares in Royal Bank of
Scotland were up 2.8 percent, boosted by news the bank
plans to sell off part of its U.S. business, while Lloyds
Banking Group was up 0.1 percent.
Markit, a firm that provides data on financial markets
including credit derivatives, said the downgrade had already
been factored in and the constraints on Britain's growth
prospects were already well known.
"This captured lots of headlines, but had a negligible
impact on stock and credit markets. The downgrade was more or
less priced in," it said.
On the bond markets, the European subordinated financial
index was 9 basis points tighter at 246 basis points and the
senior financials index was 4 basis points tighter at 146.5
"We don't expect any ratings impact from the UK downgrade,"
a bank analyst said. "In countries like France where the
sovereign has been downgraded, we've seen covered bonds issued
by the country's banks maintain their triple-A rating, which
shows that in some cases investors are more comfortable with
bank debt than government bonds."
Moody's changed its outlook on the UK to stable after the
downgrade, meaning any further change is unlikely for the next
year or so. Standard & Poor's and Fitch still have the country
on a top-notch rating but their outlook is negative.