Fitch Downgrades JP Morgan Chase & Co To 'A+'

Business Wire, Sept 17, 2002

Business Editors

CHICAGO--(BUSINESS WIRE)--Sept. 17, 2002

Fitch Ratings downgraded the short-term (to 'F1' from 'F1+') and long-term debt ratings (to 'A+' from 'AA-'), as well as the long term deposit ratings (to 'AA-' from 'AA') and the individual ratings (to 'B/C' from 'B') for JP Morgan Chase & Co. (JPMC) and its subsidiaries. Please see the complete list of all ratings affected at the conclusion of this release.

This rating action reflects the sustained weakness in the core operating performance of a number of JPMC's key businesses, combined with Fitch's expectation for the challenging conditions to continue during the intermediate term. JPMC's investment banking business, which became the most dominant source of earnings following the YE00 merger between JP Morgan & Co and Chase Manhattan Corporation, has been unable to reach target profitability levels as activity in many businesses (e.g. equity underwriting and mergers & acquisitions) has fallen significantly. Combined with JPMP (JPMorgan Partners, JPMC's private equity business) and Investment Management & Private Banking, a fairly significant portion of JPMC's earnings stream is very market-dependent. During 2001 and thus far in 2002, JPMP has been a negative drag on operating earnings and on 'shareholder value added' (JPMC's primary internal method of measuring business unit profitability) while the investment banking business has been a sporadic and marginal SVA contributor, reflecting the hampered profitability levels. Timely validation of Fitch's concern includes JPMC's announcement earlier today that the pressures on these businesses during the current 3Q02 will help push quarterly earnings even lower. Although JPMC has been diligent and quick to cut expenses, primarily through the reduction of personnel, continued anemia on the revenue side in these businesses can not likely be offset by further expense reductions without beginning to erode the franchise the company has been striving to build.

At the same time, credit costs have escalated as corporate and wholesale credit deterioration has been evident across the industry. For JPMC, problem borrowers in the energy sector (post Enron) and more recently telecom have helped fuel a notable deterioration in asset quality and have driven credit costs upward. Given the continued slow economic situation both domestically as well as overseas, Fitch does not anticipate material improvement in the corporate credit picture over the intermediate term and remains concerned regarding further deterioration or deterioration emanating from other sectors, such as the consumer sector (which to date, has been quite solid). That said, at the present time, both NPAs and NCOs remain at levels that are quite manageable and reserves continue to exceed problem assets. Nevertheless, the added cost of the higher provisions comes at a time when the earnings of some of the company's key businesses are poorly positioned to absorb it.

Because earnings have been below combined year-2000 levels and expectations set at the time of the merger, JPMC's dividend payment each quarter has represented a very high proportion (more than two thirds) of earnings, leaving little in the way of excess profits to build capital or support growth. However, present capital levels are viewed as sufficient to support current business needs and JPMC comfortably exceeds all regulatory capital requirements with Tier I capital of 8.8% as of June 30, 2002. JPMC has been prudently managing liquidity at all legal entities in light of the issues facing the company. JPMC has built the liquidity position of both the parent company and the lead bank considerably during the past year, such that both appear to be well-positioned at the present time.

JPMC's Retail & Middle Market Financial Services business is perhaps its strongest performing business at the present time. Over the past year or so, profitability has been fairly solid (with ROEs ranging from 14% to 26% over the past five quarters) and asset quality has held up quite well, although we are clearly mindful of increased scrutiny on credit card and consumer lending. At the present time, revenues are benefiting from the low interest rate environment and concomitant strong mortgage origination volumes. Treasury and Securities Services has been a steady performer for JPMC with ROEs ranging from 20% to 23% over the same time period, albeit the business typically represents a relatively minor portion (about 15%) of total operating earnings.

Fitch is maintaining a Negative Rating Outlook on JPMC and its subsidiaries. Clearly JPMC's core businesses will continue to face many challenges especially given the outlook that the economy continues weak. Low levels of global activity in its investment banking businesses, weak equity markets, and continued deterioration in the corporate credit quality of its borrowers have directly contributed to this rating action and yet remain potential further constraints on the firm's future financial performance. Other risk factors, particularly related to JPMC's role in Enron, including the many Enron-related lawsuits to which JPMC is a party, while financially unquantifiable, are another significant factor in the Negative Outlook.