Deal with Commerzbank could raise UniCredit’s junior debt ratings, says Moody’s By Reuters

MILAN (Reuters) – UniCredit’s acquisition of Commerzbank ( ETR: ) could prompt Moody’s ( NYSE: ) to consider raising the rating on the Italian bank’s riskier debt, the credit rating agency said on Wednesday.

Moody’s affirmed UniCredit’s long-term senior unsecured debt rating at ‘Baa1’ – two notches above Italy’s ‘Baa3’ rating and already as high under Moody’s methodology.

But the agency added that it would review whether the bank’s stand-alone rating of “baa3”, currently aligned with Italy’s rating, would merit an upgrade to “baa2” in the event of a deal.

Analysts said Commerzbank’s higher credit rating and the prospect of UniCredit reducing its exposure to Italian debt were among the reasons for the Italian bank to pursue a deal.

An upgrade to UniCredit’s stand-alone rating would lead to an upgrade in the ratings that Moody’s assigns to riskier debt than the bank’s senior unsecured loans – potentially reducing funding costs.

These include senior non-preferred debt, which Moody’s calls “junior senior”, other subordinated debt and the riskiest type, additional tier 1 (AT1) bonds, which are a hybrid debt-equity financing instrument.

In its most recent fixed income filing, UniCredit said its senior unsecured debt accounted for 37% of the total, with subordinated debt accounting for a further 10% and AT1 bonds 4%.

UniCredit has built up a nearly 21 percent stake in Commerzbank, pending regulatory approval, and says it is keen to explore a full takeover.

The move angered the German establishment and Commerzbank said its strategy was based on independence. An acquisition would be Europe’s first major cross-border banking transaction since the global financial crisis.

Any upgrade “would depend on the degree of international diversification of the combined group, exposure to Italian sovereign risk and post-acquisition capitalization, asset risk, funding and liquidity,” Moody’s said.

Italy’s poor creditworthiness has traditionally posed a challenge to Italian lenders’ international expansion plans.

On Wednesday, Moody’s affirmed Commerzbank’s ‘A2’ long-term senior unsecured debt rating, which is two notches above UniCredit’s ‘Baa1’.

Before courting Commerzbank, UniCredit underwent a lengthy restructuring and raised billions in capital above the minimum target.

In the event of a deal, a stronger footprint in triple-A-rated Germany, more diversified funding channels and less direct exposure to Italian debt to equity would “weaken the intrinsic links and correlation” between UniCredit’s and Italy’s ratings.

“We would expect UniCredit’s currently very strong capitalization to be diluted in the event of a Commerzbank acquisition, but remain solid and at least in line with management’s stated target range for a minimum CET1 of 12.5%-13% Moody’s said, referring to to a key capital indicator.

“While any acquisition would likely reduce profitability in the short term given restructuring and other costs, in the medium term it would enable higher profits through cost synergies in Germany and provide a stronger combined franchise,” it added.