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Rating Action:

Moody's downgrades subordinated and hybrid debt issued by RBS and Lloyds

03 Apr 2009

London, 03 April 2009 -- Moody's Investors Service has today downgraded the subordinated and hybrid debt instruments issued by the two large banking groups in the UK with government shareholdings: Royal Bank of Scotland Group (RBS) and Lloyds Banking Group (Lloyds).

The subordinated or hybrid instruments of the following banks have been affected by this action:

• Royal Bank of Scotland: Subordinated debt rating downgraded to Baa3 from A1, and hybrid debt to Ba1 from A2, except the National Westminster Ba1 rated non cumulative preference shares with voting rights which is downgraded to Ba2; ratings are under review for further possible downgrade pending the completion of the review on the bank's C- BFSR

• Royal Bank of Scotland Group: Subordinated debt rating downgraded to Ba1 from A2, and hybrid debt to Ba2 from A3, except the Ba2 rated non cumulative preference shares with voting rights which are downgraded to Ba3; ratings are under review for further possible downgrade pending the completion of the review on RBS' C- BFSR

• Lloyds TSB Bank: Subordinated debt rating downgraded to A3 from A1 (negative outlook), and hybrid debt to Baa1 from A2 (remains under review for possible downgrade)

• Lloyds Banking Group: Subordinated debt rating downgraded to Baa1 from A2 (negative outlook), and hybrid debt to Baa2 from A3 (remains under review for possible downgrade)

• Bank of Scotland: Subordinated debt rating downgraded to Baa1 from A1, and hybrid debt to Baa2 from A2; ratings are under review for further possible downgrade pending the completion of the review on Bank of Scotland's C- BFSR

• HBOS: Subordinated debt rating downgraded to Baa1 from A2, and hybrid debt to Baa2 from A3; ratings are under review for further possible downgrade pending the completion of the review on Bank of Scotland's C- BFSR

The rating action was prompted by the rating agency's concern that systemic support may not be extended to these instruments in the case of financial distress. The 2009 Banking Act explicitly provides a broad remit to allow the restructuring of financial institutions with losses to subordinated and hybrid debt holders, and this has increasingly been the practice in the recent restructuring of a number of financial institutions in the UK. Therefore, it is Moody's opinion that the ratings of subordinated and hybrid instruments should be closely aligned to the bank's BFSR and no longer benefit from the support that is expected for senior creditors and depositors of these two large, systemically important institutions.

In its Special Comment entitled "Moody's Assesses Bank Hybrid Securities in the Context of the Current Credit Crisis", dated December 2008, Moody's began a dialogue with market participants regarding a potential change to its bank hybrid notching practices. The proposal explored the possibility of removing systemic support from bank hybrid ratings and considered wider notching based on the hybrid's risk characteristics. This process continues for banks generally, but as Moody's noted in its Special Comment, subordinated and hybrid ratings will be adjusted as appropriate should circumstances warrant as is the case for the subordinated and hybrid debt of these two banks.

Moody's current ratings on banks' subordinated and hybrid securities generally reflect the assumption that if a government extends financial support to a bank in difficulty, that support would also benefit subordinated and hybrid investors. Moody's has observed that UK systemic support to banks has recently been limited to senior debt and deposits only. In the restructuring of the Dunfermline, Bradford & Bingley, and Northern Rock none of the subordinated or hybrid debt instruments benefit from government support measures, resulting in possible losses to investors; furthermore, the 2009 Banking Act has specifically provided a legal framework that enables such differentiating measures. Moody's therefore believes that the risk to such instruments is more closely aligned to the banks' other unsupported obligations, as indicated by the Bank Financial Strength Rating ("BFSR") which maps into the alphanumerical Baseline Credit Assessment ("BCA").

Until now, Moody's has notched the ratings of these banks' subordinated and hybrid debt from the supported senior debt rating by one and two notches, respectively. Due to the potential lack of systemic support for these instruments, the anchor for subordinated and hybrid debt ratings issued by these institutions will be the BCA which maps from the intrinsic strength of the bank as indicated by our published BFSR. Notwithstanding, in its rating of these subordinated and hybrid debt instruments Moody's continues to include the benefit of parental support for Bank of Scotland and HBOS.

The actual notching for subordinated and hybrid debt relative to the anchor will remain unchanged reflecting the characteristics of the instruments, i.e. their relative subordination vis-a-vis each other in

case of bankruptcy, apart from the non-cumulative preference shares with voting rights discussed below.

The subordinated debt and hybrid issuance of Royal Bank of Scotland plc (and its holding company Royal Bank of Scotland Group), and Bank of Scotland plc (and its holding company HBOS plc) remain on review for further downgrade pending the completion of the review of the BFSRs of these entities, as the ratings will move in line with the BFSR.

DOWNGRADE OF NON-CUMULATIVE PREFERENCE SHARES WITH VOTING RIGHTS

Moody's has downgraded the non-cumulative preference shares with voting rights of the Royal Bank of Scotland Group from Ba2 to Ba3 at the holding company level, and from Ba1 to Ba2 at the operating bank level. The preference shares of Lloyds Banking Group were downgraded from A3 to Baa2 at the holding company level, and from A2 to Baa1 at the operating company level. These securities remain under review for possible downgrade, and the securities that are identified as non-cumulative preference shares with voting rights in certain circumstances and those that can get voting rights through a substitution for non-cumulative preference shares, will most likely be downgraded to Ba2 at the holding company level and Ba1 at the main operating company level. The lower rating of the RBS instruments reflects the higher percentage of government ownership and lower BFSR of RBS than Lloyds.

As reflected in our earlier downgrade of these instruments of RBS on 11 March 2009, Moody's considers that whereas the nationalisation of these instruments is not our central scenario, the potential loss to investors in such a situation, would be very high. Furthermore, we are also concerned about the possibility of a distressed exchange -- whereby the bank would stop making coupon payments and offer to exchange these instruments into equity so that hybrid investors would share the risk of recapitalizing the bank with taxpayers.

Moody's considers that the announcement by both banks of their participation in the UK Government's Asset Protection Scheme and the issuance of B-shares to the government, confirms our core assumption that the UK government will try to avoid full nationalisation of these banks. In addition, we consider that the larger than expected scope of the APS will provide protection for holders of debt and hybrid instruments.

Nevertheless, given the possibility of the UK government increasing its economic interest in both banks to high levels, the risk of full nationalisation in the future has increased. The Treasury has not provided guidance on its approach to potential losses for hybrid debt holders in case of 100% government ownership, but ultimately we would expect to see a very high level of loss for holders of non-cumulative preference shares with the above voting right features in the case of the nationalisation, such as we observed at Northern Rock.

A full list of the securities affected by the rating action on the non-cumulative preference shares will be published separately.

Downgrades:

..Issuer: Bank of Scotland Capital Funding L.P.

....Preferred Stock Preferred Stock, Downgraded to Baa2 from A2

..Issuer: Bank of Scotland plc

....Junior Subordinated Regular Bond/Debenture, Downgraded to Baa1 from A1

....Multiple Seniority Medium-Term Note Program, Downgraded to Baa1 from A1

....Preference Stock Preference Stock, Downgraded to Baa2 from A2

....Subordinate Regular Bond/Debenture, Downgraded to Baa1 from A1

..Issuer: Cheltenham & Gloucester plc

....Junior Subordinated Regular Bond/Debenture, Downgraded to A3 from A1

....Multiple Seniority Medium-Term Note Program, Downgraded to A3 from A1

..Issuer: HBOS CAPITAL FUNDING NO. 3 L.P.

....Preferred Stock Preferred Stock, Downgraded to Baa2 from A3

..Issuer: HBOS Capital Funding No. 1 L.P.

....Preferred Stock Preferred Stock, Downgraded to Baa2 from A3

..Issuer: HBOS Capital Funding No. 4 L.P.

....Preferred Stock Preferred Stock, Downgraded to Baa2 from A3

..Issuer: HBOS Group Euro Finance (Jersey)

....Preferred Stock Preferred Stock, Downgraded to Baa2 from A3

..Issuer: HBOS Group Sterling Finance L.P.

....Preferred Stock Preferred Stock, Downgraded to Baa2 from A3

..Issuer: HBOS plc

....Junior Subordinated Regular Bond/Debenture, Downgraded to Baa1 from A2

....Multiple Seniority Medium-Term Note Program, Downgraded to Baa1 from A2

....Subordinate Regular Bond/Debenture, Downgraded to Baa1 from A2

..Issuer: Halifax plc

....Junior Subordinated Regular Bond/Debenture, Downgraded to Baa1 from A1

....Subordinate Regular Bond/Debenture, Downgraded to Baa1 from A1

..Issuer: Leeds Permanent Building Society

....Junior Subordinated Regular Bond/Debenture, Downgraded to Baa1 from A1

....Subordinate Regular Bond/Debenture, Downgraded to Baa1 from A1

..Issuer: Lloyds Banking Group plc

....Preference Stock Preference Stock, Downgraded to Baa2 from A3

....Subordinate Regular Bond/Debenture, Downgraded to Baa1 from A2

..Issuer: Lloyds TSB Bank Plc

....Junior Subordinated Regular Bond/Debenture, Downgraded to a range of Baa1 to A3 from a range of A2 to A1

....Multiple Seniority Medium-Term Note Program, Downgraded to A3 from A1

....Preferred Stock Preferred Stock, Downgraded to Baa1 from A2

....Subordinate Regular Bond/Debenture, Downgraded to A3 from A1

..Issuer: Lloyds TSB Capital 1 L.P.

....Preferred Stock Preferred Stock, Downgraded to Baa1 from A2

..Issuer: Lloyds TSB Capital 2 L.P.

....Preferred Stock Preferred Stock, Downgraded to Baa1 from A2

..Issuer: National Westminster Bank PLC

....Bank Financial Strength Rating, Downgraded to C- from B

....Junior Subordinated Conv./Exch. Bond/Debenture, Downgraded to Baa3 from A1

....Junior Subordinated Regular Bond/Debenture, Downgraded to Baa3 from A1

....Multiple Seniority Shelf, Downgraded to a range of (P)Ba1 to (P)Baa3 from a range of (P)A2 to (P)A1

....Preference Stock Preference Stock, Downgraded to a range of Ba2 to Ba1 from a range of Ba1 to A2

....Subordinate Regular Bond/Debenture, Downgraded to Baa3 from A1

..Issuer: RBS Capital Trust A

....Junior Subordinated Regular Bond/Debenture, Downgraded to Ba3 from Ba2

..Issuer: RBS Capital Trust B

....Preferred Stock Preferred Stock, Downgraded to Ba3 from Ba2

..Issuer: RBS Capital Trust C

....Preferred Stock Preferred Stock, Downgraded to Ba3 from Ba2

..Issuer: RBS Capital Trust D

....Preferred Stock Preferred Stock, Downgraded to Ba3 from Ba2

..Issuer: RBS Capital Trust I

....Preferred Stock Preferred Stock, Downgraded to Ba3 from Ba2

..Issuer: RBS Capital Trust II

....Preferred Stock Preferred Stock, Downgraded to Ba3 from Ba2

..Issuer: RBS Capital Trust III

....Preferred Stock Preferred Stock, Downgraded to Ba3 from Ba2

..Issuer: RBS Capital Trust IV

....Preferred Stock Preferred Stock, Downgraded to Ba3 from Ba2

..Issuer: Royal Bank of Scotland Group plc

....Junior Subordinated Regular Bond/Debenture, Downgraded to a range of Ba2 to Ba1 from a range of A3 to A2

....Multiple Seniority Medium-Term Note Program, Downgraded to Ba1 from A2

....Multiple Seniority Shelf, Downgraded to a range of (P)Ba2 to (P)Ba1 from a range of (P)A3 to (P)A2

....Preference Stock Preference Stock, Downgraded to a range of Ba3 to Ba2 from a range of Ba2 to A3

....Preferred Stock Preferred Stock, Downgraded to a range of Ba3 to Ba2 from a range of Ba2 to A3

....Subordinate Regular Bond/Debenture, Downgraded to Ba1 from A2

....Senior Subordinated Regular Bond/Debenture, Downgraded to Ba1 from A2

..Issuer: Royal Bank of Scotland plc

....Junior Subordinated Regular Bond/Debenture, Downgraded to Baa3 from A1

....Multiple Seniority Medium-Term Note Program, Downgraded to Baa3 from A1

....Subordinate Regular Bond/Debenture, Downgraded to Baa3 from A1

..Issuer: Royal Bank of Scotland plc, Australia Branch

....Multiple Seniority Medium-Term Note Program, Downgraded to Baa3 from A1

..Issuer: Scotland International Finance No. 2 B.V.

....Multiple Seniority Medium-Term Note Program, Downgraded to Baa1 from A1

....Subordinate Regular Bond/Debenture, Downgraded to Baa1 from A1

On Review for Possible Downgrade:

..Issuer: Bank of Scotland plc

....Bank Financial Strength Rating, Placed on Review for Possible Downgrade, currently C-

Outlook Actions:

..Issuer: Bank of Scotland Capital Funding L.P.

....Outlook, Changed To Rating Under Review From Stable

..Issuer: HBOS CAPITAL FUNDING NO. 3 L.P.

....Outlook, Changed To Rating Under Review From Stable

..Issuer: HBOS Capital Funding No. 1 L.P.

....Outlook, Changed To Rating Under Review From Stable

..Issuer: HBOS Capital Funding No. 4 L.P.

....Outlook, Changed To Rating Under Review From Stable

..Issuer: HBOS Group Euro Finance (Jersey)

....Outlook, Changed To Rating Under Review From Stable

..Issuer: HBOS Group Sterling Finance L.P.

....Outlook, Changed To Rating Under Review From Stable

..Issuer: HBOS plc

....Outlook, Changed To Rating Under Review From Stable

..Issuer: Halifax plc

....Outlook, Changed To Rating Under Review From Stable

..Issuer: Lloyds Banking Group plc

....Outlook, Changed To Rating Under Review From Stable

..Issuer: Lloyds TSB Bank Plc

....Outlook, Changed To Rating Under Review From Stable(m)

..Issuer: Lloyds TSB Capital 1 L.P.

....Outlook, Changed To Rating Under Review From Stable

..Issuer: Lloyds TSB Capital 2 L.P.

....Outlook, Changed To Rating Under Review From Stable

..Issuer: RBS Capital Trust A

....Outlook, Changed To Rating Under Review From Negative

..Issuer: RBS Capital Trust B

....Outlook, Changed To Rating Under Review From Negative

..Issuer: RBS Capital Trust C

....Outlook, Changed To Rating Under Review From Negative

..Issuer: RBS Capital Trust D

....Outlook, Changed To Rating Under Review From Negative

..Issuer: RBS Capital Trust I

....Outlook, Changed To Rating Under Review From Negative

..Issuer: RBS Capital Trust II

....Outlook, Changed To Rating Under Review From Negative

..Issuer: RBS Capital Trust III

....Outlook, Changed To Rating Under Review From Negative

..Issuer: RBS Capital Trust IV

....Outlook, Changed To Rating Under Review From Negative

..Issuer: Royal Bank of Scotland Group plc

....Outlook, Changed To Rating Under Review From Negative

..Issuer: Scotland International Finance No. 2 B.V.

....Outlook, Changed To Rating Under Review From Stable

The last rating actions on the above banks' subordinated and hybrid debt ratings are: • Royal Bank of Scotland, 11 March 2009, non-cumulative preference shares downgraded to Ba1 • Royal Bank of Scotland Group, 11 March 2009, non-cumulative preference shares downgraded to Ba2 • Lloyds TSB Bank, 16 February 2009, subordinated and hybrid downgraded to A1/A2, stable outlook • Lloyds Banking Group, 16 February 2009, subordinated and hybrid downgraded to A2/A3, stable outlook • Bank of Scotland, 16 February 2009, subordinated and hybrid downgraded to A1/A2, stable outlook • HBOS, 16 February 2009, subordinated and hybrid downgraded to A2/A3, stable outlook The principal methodologies used in rating the entities are "Bank Financial Strength Ratings: Global Methodology" and "Guidelines for Rating Bank Junior Securities", which can be found on www.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 the issuers can also be found in the Credit Policy & Methodologies directory. All the banks are headquartered in the United Kingdom.

London
Elisabeth Rudman
VP - Senior Credit Officer
Financial Institutions Group
Moody's Investors Service Ltd.
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454

London
Johannes Wassenberg
Managing Director
Financial Institutions Group
Moody's Investors Service Ltd.
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454

Moody's downgrades subordinated and hybrid debt issued by RBS and Lloyds
No Related Data.
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