Outlook grim for midcap banks

New York : The proposed US Treasury's bailout plan will do little to solve credit problems facing mid-sized banks, said analysts at Morgan Stanley, who downgraded two banks and recommended investors to sell midcap banks in the current market rally.

"We do not view the Treasury's plan to improve liquidity as a meaningful positive for the midcap banks. The problems facing the midcaps relate more to credit than liquidity," analysts led by Ken Zerbe wrote in a note to clients.

Zerbe cut his rating on Comerica Inc to "underweight" from "equal weight" and Cullen/Frost Bankers to "equal weight" from "overweight".

Strained capital

The better-capitalised banks may benefit from the plan by selling certain troubled parts of their loan portfolios, but many of the weaker-capitalised midcap banks may not be able to use it given the potential hit to their already strained capital positions, he said.

The analyst upgraded East West Bancorp and Sover-eign Bancorp to "overweight" from "equal weight" saying they have taken appropriate steps to remove risks from problem assets.

Zerbe said he expects midcap banks to trade lower in the next few months as the ban on short selling expires and the market realises that the Treasury's proposal will not benefit the fundamentals of midcap bank balance sheets.

However, he said the midcap banks could benefit indirectly as the plan stabilises the housing market and, potentially, mitigates the decline in home prices from current levels.