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Morgan Stanley Spreads to Narrow After Moody’s, Sterne Agee Says

Morgan Stanley credit spreads may narrow after a brief widening once Moody’s Investors Service announces its downgrades for the largest banks, said Donald Jones, a Sterne Agee & Leach Inc. analyst.

The most likely outcome expected by bond investors is a three-grade rating cut for New York-based Morgan Stanley, Jones wrote in a June 19 note. Moody’s is likely to announce ratings decisions for the largest global banks today, according to two people with knowledge of the plans who asked not to be named because the information is private. Moody’s officials in London declined to comment.

Morgan Stanley faces the largest potential downgrade among U.S. banks as Moody’s reviews ratings of 15 companies with global capital-markets businesses. Jones, who said in May that a two-level downgrade was the most likely result, said JPMorgan Chase & Co.’s $2 billion trading loss and the recent turmoil in Europe will prompt Moody’s to be more severe in its cuts.

“We think there will be short-term pressure on MS spreads upon Moody’s release, but that will be followed by a steady rally in spreads,” Jones wrote, referring to Morgan Stanley’s stock ticker.

Mary Claire Delaney, a Morgan Stanley spokeswoman, declined to comment on Moody’s decision.

Mike Mayo, an equity analyst at CLSA Ltd., wrote in a note yesterday that the banks’ stock prices already reflect expectation of the downgrades. The shares of the five U.S. banks included in the Moody’s review have fallen an average of 9.3 percent since Feb. 15, the day Moody’s announced its review, led by a 25 percent decline for Morgan Stanley.

The cost to insure five-year senior Morgan Stanley debt has fallen 18 percent since June 4, dropping to 372.62 basis points as of yesterday. Still, that’s 15 percent higher than Feb. 15.

The downgrades will probably have little impact on banks’ borrowing costs, Mayo said. The bigger effect may be a reduction of trading business for lower-rated banks, he wrote.

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