Bank of America: Downgrade Threat Loser (Update 3)

Updated with market close information, credit ratings downgrades from Moody's Investor Service for Morgan Stanley, Bank of America and Citigroup, and reactions to the downgrades from Citi and Morgan Stanley.

NEW YORK (TheStreet) -- Bank of America (BAC) was the loser among the largest U.S. financial names Thursday, with shares sliding 4% to close at $7.82.

The broad indexes all saw 2% declines, as investors reacted to several reports indicating slowing economies in China and the eurozone, and anticipated a slew of bank downgrades from Moody's Investor Service.

Markit Economics said on Thursday that its U.S. Manufacturing Purchasing Managers' Index signaled the "weakest manufacturing expansion in 11 months," with a preliminary "flash" reading of 52.9 for the period of June 12 to June 20, falling from 54.0 in May. A PMI index reading above 50 indicates expanded activity.

Meanwhile, the HSBC Flash China Manufacturing PMI hit a seven month low for the period of June 11 to June 19, with a reading of 48.4.

The Market Flash Eurozone PMI Composite Output Index for the period of June 12 to June 20 came in at 46.0, which was "unchanged on May - which had seen the steepest contraction since June 2009," according to Markit Economics, which also said that "with the exception of a marginal increase in January, the survey has recorded continual contraction since last September, with the rate of decline having gathered significant momentum in the second quarter," which "has seen the steepest downturn for three years."

Morgan Stanley (MS) was among the banks expected to face significant ratings downgrades, previously disclosing in its first-quarter 10-Q filing that according to the company's stress tests of its March 31 trading positions, it could face total calls for "additional collateral, termination payments or other contractual amounts" from counterparties and "increased collateral requirement at certain exchanges and clearing organizations" totaling $9.6 billion in the event of a three-notch ratings downgrade.

Moody's announced late Thursday afternoon that it had "repositioned the ratings of 15 banks and securities firms with global capital markets operations," with a two-notch downgrade for Morgan Stanley to Baa1 from A2, with a negative outlook, while cutting its short-term rating for the firm to P-2 from P-1.

Based on Morgan Stanley's liquidity stress tests, the company faces additional collateral requirements of $6.8 billion, based on its March 31 trading positions.

Investors expecting a three-notch downgrade for Morgan Stanley reacted by sending the shares up more than 3% in aftermarket trading, to $14.42.

Morgan Stanley released a statement saying that "While Moody's revised ratings are better than its initial guidance of up to three notches, we believe the ratings still do not fully reflect the key strategic actions we have taken in recent years."

The firm also said that the acknowledgement by Moody's of Morgan Stanley's "long-term partnership with[Mitsubishi UFJ Financial Group ] as well as our industry-leading capital and liquidity highlight some of the transformative steps we have taken," adding that "with our de-risked balance sheet, stable sources of funding, diverse business mix and strong leadership team, we are well positioned to deliver for clients and shareholders."

UBS Analyst Brennan Hawken said earlier on Thursday that Morgan Stanley expected that a Moody's downgrade would "not have an outsized impact on the firm," and that "the primary revenue impact" from a downgrade would be "in its long-dated, uncollateralized interest rate derivatives, which MS has already de-emphasized."

Hawken rates Morgan Stanley a "Buy," with a $19 price target, saying the shares "are cheap, even when we assume very negative outcomes from some of the exogenous issues facing the firm."

The KBW Bank Index (I:BKX) was down over 2% to close at 44.49, with all 24 index components showing declines.

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