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Moody's bank downgrade threat: Yawn!

COMMENTARY As a barometer of the financial markets, it is no secret that the credit rating agencies are a key lagging indicator. Moody's (MCO) has proved that again by threatening to downgrade the ratings of Bank of America (BAC), Citigroup (C), Goldman Sachs (GS), JPMorgan Chase (JPM), Morgan Stanley (MS), and more than 100 other U.S. and European financial institutions.

Said Moody's late Wednesday in announcing the ratings review:

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.

In short, it's harder for banks to make money than it used to be. Surprise! Seriously, it's tough out there, people. Consumers aren't borrowing. Once dozy financial regulators are rubbing the sleep out of their eyes. Pesky attorneys general are closing in over bum mortgages. The global financial system remains dangerously interconnected and sensitive to light. Then there's this continent out there -- Europe, they call it -- that's so in hock to itself that the Germans are preparing to foreclose on the Parthenon (wonder how much the Champs-Elysees might fetch?).

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Even more shocking -- and steel yourselves here -- some large financial institutions are poorly managed. As a result, Moody's may take Morgan Stanley's credit down by three notches; Citi, Goldman, and Chase could fall two places; and Bank of America could drop one.

Shocked by this sudden development, traders could be seen edging out onto ledges all along Wall Street. Kidding! Investors appear to be taking the Moody's scoop largely in stride. Morgan Stanley shares hit a speed-bump in morning trade, but the other big banks facing a downgrade barely wobbled (In general, "pure-play" securities firms like Morgan and Goldman face greater profit challenges than commercial banks like B of A and Chase because the former are heavily dependent on underwriting, advising companies on mergers and acquisitions, and other traditional investment banking businesses that are slowing down.) The KBW Bank Index, which tracks large-cap banks, hardly budged.

Of course, just because investors may be expecting a downgrade for big financial firms doesn't mean that it wouldn't have potentially serious implications. For investors, that is the great unresolved conundrum of the credit agencies: Rating changes matter, but the ratings themselves typically contain little new information.

As University of San Diego law and finance professor Frank Partnoy, an expert on the ratings firms, has written, "Credit ratings do not help parties manage risk, yet parties increasingly rely on ratings. Credit rating agencies are not widely respected among sophisticated market participants, yet their franchise is increasingly valuable."

As a result, Standard & Poor's can still roil the markets by snipping America's debt rating, as the ratings firm did last year, even as investors waggle their tongues at such pronouncements by flooding into U.S. Treasuries. Three years after the rating firms whiffed on the greatest credit debacle in the history of capitalism, they're still wagging the dog. Where's that leash?

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