Why A GE Downgrade By Moody's Would Be Wrong Now (GE)

General Electric Co. (NYSE: GE) has been trying to do everything it can to make its balance sheet better.  It has sold units through time and has limited its acquisitions to bolt-on deals.  The conglomerate has also shown that it will spin-off or divest certain operations if they fall out of the nearly 20% return on capital, and it was shrinking its finance portfolio during and after the recession until recently.  So news that Moody’s is considering a downgrade this far into the recovery seems frankly a bit suspect and perhaps very out of place.

You have to recall that Moody’s, along with S&P and other ratings agencies, missed the pressures building up ahead of the recession and the property bubble’s impact on mortgage and asset backed securities.  They blew it.  In fact, both S&P and Moody’s used to rate GE as Triple-A.  That ended, and frankly it should have.  Still, this newest review does not feel right at the current time.  The economy is not falling as much as many were worried about at the end of 2011 and the calls for a double dip recession (or really just another recession) have diminished even if anything is still possible.

The big takeaway seems to be pertaining to the financial operations.  That was shrinking, but now the company is returning to a normal state of outlook and the company is even somewhat looking for opportunities.  The move for a negative review places the ratings of the “Aa2” rating under review for a downgrade.  This may not occur for months, and it may not even occur at all.  The real issue is on the financial operations, where Moody’s warned that a split of the ratings could come up between General Electic’s parent and its financial operations.

Moody’s did note that GE’s financial operations were still stronger than most outfits.  Still, these businesses rise and fall with the economy and they tend to be leveraged in those moves.  Maybe Moody’s is correct that GE and GE Capital should not have an equalized rating.  It actually makes sense if you just consider economics during growth and recession.  That being said, a downgrade of “GE Capital” does not have to imply a downgrade of the parent.

If GE’s parent company is downgraded by Moody’s, then there are probably going to be many more reviews announced regarding negative outlooks.  The end result is that this call made here could ultimately create another wave of corporate credit downgrades if the parent company of GE is cut.  Maybe this sort of downgrade implies that Uncle Sam needs another rating cut.

GE shares are down 0.6% at $20.10 and the consensus price target is $21.93.  GE has signaled that it will raise its dividend as earnings grow.  If the news was a true worry, GE shares would be down several percentage points rather than just 0.5%.  Stay tuned.

JON C. OGG