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Rating Action:

Moody's continues review of E*TRADE's ratings following capital plan

17 Jun 2009

Approximately $1.1 billion of rated debt affected

New York, June 17, 2009 -- Moody's Investors Service is continuing to review for possible downgrade the ratings of E*TRADE Financial Corporation ("E*TRADE"; long-term issuer rating at B3), and its thrift subsidiary, E*TRADE Bank (deposit rating at Ba3). E*TRADE's outstanding bonds, which were downgraded to Caa3 on May 14 in anticipation of a possible distressed exchange, also remain on review down.

Today, E*TRADE announced a capital restructuring plan intended to bolster the capital base of E*TRADE Bank and to provide financial relief to the holding company in the form of substantially reduced debt interest expenses and the lengthening of the maturity profile of its long-term debt.

The most important components of the plan include: 1) the issuance of $400 million in new common equity, most of which will be downstreamed into the thrift, and 2) contingent on the successful issuance of the equity, as well as shareholder approval, a par-for-par exchange of $1 billion or more in existing senior bonds (out of a total of $3.2 billion in outstanding bonds) for new zero-coupon, 10-year convertible bonds. E*TRADE plans to complete the equity raise and debt exchange by the end of August.

Citadel Investment Group LLC, as E*TRADE's largest creditor and a major stockholder, has agreed to participate in the equity offering (subject to certain price-related conditions) and has also committed to exchange no less than $800 million in the debt exchange, pending approval from the Office of Thrift Supervision.

During the review, Moody's will focus on the degree to which E*TRADE is successful in executing the critical components of its capital restructuring plan. "If successfully executed, the recapitalization should be beneficial to E*TRADE's credit profile and, consequently, would increase the likelihood that its B3 rating would be confirmed," said Moody's Vice President, Alexander Yavorsky. "However, given the magnitude of the task, and the company's unstable financial condition, there is substantial execution risk. This is the main reason why we are continuing our review for a possible downgrade"

If the capital plan is unsuccessful, and E*TRADE is not able to substantially reduce its debt burden and strengthen its ability to keep E*TRADE bank well-capitalized under adverse scenarios, the ratings would likely be downgraded.

Moody's recent scenario testing of E*TRADE Bank's mortgage portfolio suggests that pre-tax lifetime credit losses could be as high as $2.5 billion, net of existing allowance. If realized, this level of losses would necessitate substantial capital injections from the parent to keep the thrift's leverage ratio above the 5% "well-capitalized" level. Eventually, these capital injections would be incompatible with ongoing interest service requirements on E*TRADE's substantial holding company debt.

"This basic conflict of essential needs -- keeping the bank well-capitalized while servicing holding company debt -- highlights why the current capital structure is unsustainable. E*TRADE is trying to address this issue with this capital restructuring plan," said Yavorsky.

Moody's also noted that the ratings on E*TRADE's currently outstanding senior bonds continue to be Caa3 (on review for possible downgrade) reflecting material losses faced by bondholders as a result of the proposed debt exchange. Upon the completion of the ratings review, and assuming that Moody's would not anticipate any further distressed exchanges, the ratings on any outstanding bonds would likely be aligned with the holding company's issuer rating

The last rating action on E*TRADE was on May 14, 2009 when its issuer rating was downgraded to B3 from B2 (negative outlook) and placed on review for further downgrade. Also as part of this rating action, the ratings on E*TRADE's senior unsecured bonds were lowered to Caa3 from B2 (negative outlook) reflecting the increased probability of material credit losses for E*TRADE's senior bondholders as a result of the company's stated strategy to employ debt-for-equity exchanges as the principal deleveraging strategy. Finally, at the same time, E*TRADE Bank's deposit rating was lowered to Ba3 from Ba2 (negative outlook).

The principal methodology used in rating E*TRADE was the Global Securities Industry Methodology, which can be found at moodys.com in the Credit Policy & Methodologies directory, in the Ratings Methodologies subdirectory. Other methodologies and factors that may have been considered in the process of rating this issuer can also be found in the Credit Policy & Methodologies directory.

For additional information about Moody's approach to evaluating distressed exchanges, please see March 2009 special comments "Moody's Approach to Evaluating Distressed Exchanges" and "Distressed Exchanges: Implications for Probability of Default Ratings, Corporate Family Ratings and Debt Instrument Ratings."

E*TRADE is a major online retail brokerage firm that reported a pre-tax loss from continuing operations of $470 million on $1.9 billion in net revenue in 2008.

New York
Alexander Yavorsky
Vice President - Senior Analyst
Financial Institutions Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

New York
Robert Young
Managing Director
Financial Institutions Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Moody's continues review of E*TRADE's ratings following capital plan
No Related Data.
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