Government-controlled Lloyds could see its rating cut by Moody's Investors Service

Moody's Investors Service may cut the credit grades of several UK banks Thursday as part of a pre-announced overhaul of its European financial sector ratings process, according to media reports.

Sky News reported earlier today that Moody's will release the final tally of its ratings changes after stock markets close, citing sources close to the decision. A previous statement from Moody's in February, when the overhaul was first announced, indicated several UK banks, including HSBC, Barclays and state-controlled lenders Lloyds Banking Group and RBS were under review.

A concurrent review, also announced in February, has Moody's considering lowering the credit ratings of 17 global investment banks, including HSBC, Barclays and RBS.

"Capital markets firms are confronting evolving challenges, such as more fragile funding conditions, wider credit spreads, increased regulatory burdens and more difficult operating conditions. These difficulties, together with inherent vulnerabilities such as confidence-sensitivity, interconnectedness, and opacity of risk, have diminished the longer term profitability and growth prospects of these firms," Moody's said.

No decision as to the timing of the changes has been taken.

Conflicting reports from other media outlets suggest the Moody's decision, if it comes today, will likely afftect the UK banks with global capital markets operations and not those with a domestic focus. Moody's was not able to comment on either report when contacted by the IBTimes UK.

The 114-bank review has seen Moody's make ratings changes in Germany, France, Spain, the Netherlands, Italy, Cyprus and Denmark over the past two months, with varying degrees of market reaction.

Overall, the broadest measure of European banking share performance, the Euro STOXX Bank Index, has risen 8.05 percent since 1 June but is down 13.7 percent since the changes were first flagged by Moody's on 15 February.

Britain's banks were told last week that they needed to prepare to split their retail and investment divisions in order to give savers more protection and to hold more capital against bad bets as part of a far-reaching overhaul of the country's financial system.

Chancellor George Osborne's "White Paper" was drafted as part of a consultation process with the Independent Commission on Banking, a group appointed by the Treasury and led by former Bank of England Chief Economist John Vickers.

"We've got to stop problems here in the City of London from spilling onto our high streets and putting taxpayers' money at risk," the Chancellor said in remarks released before his Mansion House speech this evening.

The separation or so-called "ring-fencing" of retail banking from the more risky investment banking - with separate boards for each - has been long assumed by the banking lobby. It's expected that as much as a third of UK bank assets - around £2.3tn - will be included in the ring-fencing.

However, the Vickers report also sought tougher rules on how much capital banks needed to hold in reserve to protect against potential losses on loans or other bets in the market.

The White Paper published last week, takes most of Vickers' recommendations and calls for a 17 percent capital buffer - the sternest of any country in the world apart from Switzerland. Government estimates suggest the rules, which won't apply until 2019 at the earliest, will cost the industry as much as £7bn a year. Banks with larger international operations that don't put Britain's financial system at risk, such as HSBC, will be exempt from portions of the new capital rules.

Banks will likely need an extra £19bn to meet compliance, the government said, and it the legislation will be in place by 2015.

Britain was forced to spend or commit more than £1tn to rescue its banking sector at the peak of the credit crisis in 2008 and saw the collapse of one of its banks, Northern Rock, and the sale of another HBOS, to rival Lloyds Banking Group. It still holds an 82 percent stake in RBS and a 40 percent holding in Lloyds.