Do credit rating agencies have credibility?
By Luo Sha (China Youth Daily) 14:47, October 11, 2011 Edited and Translated by People's Daily Online
The U.S. Securities and Exchange Commission recently decided to initiate legal proceedings against Standard and Poor's for violating securities laws and wrongly rating mortgage loan companies. Regulators believe that rating agencies are partly to blame for the ever-escalating housing default rate in the United States in recent years.
When they heard the official explanation, media expressed suspicions and said that this accusation is just the U.S. government’s way of punishing Standard and Poor's for its disobedience. In fact, the case should go back to August 2011, when Standard and Poor's downgraded the debt rating of the Untied States, but the other two of the three major rating agencies did not follow suit. That incident is regarded as the initial cause of this accusation.
It has become possible that if a rating agency does not listen to the U.S. government, it will be punished. Therefore, the independence of rating agencies is being questioned once again.
The three major rating agencies have faced many credibility crises in recent years. Not long ago, Fitch was criticized for frequently downgrading the credit ratings of many countries and regions. It downgraded the sovereign credit ratings of several European countries, and the agency said it might even downgrade the credit rating of China within two years.
It is not hard to understand that a single rating could lead to ―big operations‖ by various countries.
In a capital market that relies heavily on the creditability, the credit rating can directly decide the capital power of an organization or country. As the financial market continues to develop rapidly, the investors are eager to learn about the true situations of the debtors so that they could optimize their investment options based on them to realize the investment safety and obtain more stable returns. Essentially, the sovereign credit rating is a kind of judgment made by a rating agency on a national
government's credit wish and creditability of paying its debt as a debtor.
In this sense, credit rating as a quantitative evaluation standard can not only provide investors with fair and objective information, but they can also be used by executives to check out and make decisions. Furthermore, credit ratings can prove that bond issuers are strong enough to pay back the debt, enabling them to raise funds at low costs.
Investors will be exposed to greater risks when buying bonds issued by countries with low credit ratings. This means that lower credit ratings will likely cause debtors to face financing difficulties. Financing difficulties will worsen their financial conditions and in turn further lower their credit ratings.
Under this circumstance, the credit rating agencies established and controlled by the United States are under fierce criticism for the credit ratings they made. For instance, a credit rating agency said that it is "likely to lower China's credit rating over the next two years," about which each side has yet to reach a consensus. Is this credit rating agency seeking to make the funds flow back to European and American markets by sacrificing China’s national interests? Is China’s economic prospect as bad as it estimated? Can it provide some evidence concerning the credit rating?
As the representatives of the credit rating system, the three major credit rating agencies should unarguably adhere to the principles of fairness and equality. Under the current circumstance, people have appeared to be unable to rely on the current opaque credit rating system to decide how to allocate their money. The media doubted that the U.S. supervision authorities would punish credit rating agencies after they gave the U.S. government low credit ratings. If the doubts prove to be true, the stance of the credit rating agencies based on such a system is questionable. It is unclear whether the credit rating agencies are neutral third-party agencies or representatives of some interest groups. Two French economists once exposed the inside stories about credit rating agencies in articles, claiming that credit rating agencies have long been dependent on the enterprises or countries that they have served.
People used to believe in the objectivity and impartiality of the three major rating agencies in the United States, but the unreliable ratings over recent years have shaken people’s confidence. It is hard to forget that when the global financial crisis occurred, these rating agencies, which were
supposed to help diagnose and treat the economic trauma, unanimously chose to keep silent.
Financial markets need reliable quantitative credit risk assessments because reliable assessments can bring huge returns. These assessments directly determine the direction of cash flows and even the economic prospects of a country or a region.
More importantly, the international financial game does not allow an overwhelmingly dominant player. All players in the game have their own interests and need a relatively fair and transparent credit rating system since there is no absolute fairness.
Credit rating agencies are far less influential and reliable than they were in the past. In order to regain people's confidence, they need to provide sincere assessments and publish objective ratings lists, no matter the black or red lists.
Huge number of Chinese have no credit rating records
Nearly half of the people in China have no personal credit records as a result of inadequate financial knowledge among the public, Jiang Weijun, an official of the People's Bank of China (PBOC), said here Friday. Speaking at a launching ceremony for a campaign to promote public awareness on credit knowledge, Jiang, an inspector of the personal credit management bureau with the PBOC, said that by the end of September this year, the central bank had credit records of 220 million individuals. Though the PBOC has already established files for 710 million people under the personal credit rating system, Jiang said, it needs to further extend the system to cover far more people in the country. Meanwhile, the PBOC has set up credit documents for about 2.11 million small- and mediumsize enterprises (SMEs) and 127 million rural households in a period ended September this year. According to PBOC figures, outstanding loans to China's SMEs totaled 2.582 trillion yuan (389.8 billion U.S. dollars) and outstanding loans to rural households were 1.24 trillion yuan (187.2 billion U.S. dollars) by the end of September this year.
China launches its first network credit rating system
China's first network credit evaluation system was officially launched in Zhejiang Province. The system, named Xinyongbao, is able to monitor website qualifications, payment system details and product information, according to the Zhejiang Administration for Industry and Commerce. Experts believe that a third-party credit certification system is imperative for China's rapidlydeveloping e-commerce to thrive. During the 11th Five-Year Plan period, the number of Chinese Internet users ranked first worldwide and the popularization rate of broadband was close to 100 percent. The Internet construction effectively promoted the changes in economic development, social progress and people's lifestyles. Data from the China E-commerce Research Center shows that by December 2010, the turnover of China's national e-commerce market reached more than 4.5 trillion yuan, an increase of 22 percent compared with 2009. However, Internet fraud, phishing and Internet pyramid schemes also endanger Internet security and socio-economic stability. The China Internet Network Information Center received a total of 23,455 phishing reports and handled a total of 22,573 phishing sites in 2010. Zhejiang, the home to several well-known e-commerce businesses, such as Alibaba and Netsun, has been at the forefront of China's e-commerce field. In order to regulate the online marketing of small and medium-sized enterprises, the Zhejiang Administration for Industry and Commerce launched the first e-commerce credit rating system in China. The Xinyongbao system is based on the Certificate of Authority system and has many functions, such as assessing business qualifications and detecting illicit merchandise. The Xinyongbao icons contain hard-to-counterfeit Internet business licenses. Netizens, clients and consumers
can report fraudulent or other dishonest acts to local administrations for industry and commerce through the Xinyongbao system.
S&P: US facing further downgrade
By Wen Sheng (People's Daily Online) 08:20, August 08, 2011 There's a 1 in 3 chance that the United States' federal credit rating could be downgraded a further notch if its debt troubles erode over the next 6 to 24 months, a Standard & Poor's official said. The credit rating agency's Managing Director John Chambers told ABC's "This Week" that if the fiscal position of the U.S. deteriorates further, or if political gridlock tightens even more, a further downgrade is possible. Chambers also said that it would take "stabilization and eventual decline" of the federal debt as a share of the economy as well as more consensus in Washington for the U.S. to win back a top rating. S&P downgraded the US rating last Friday, from AAA to AA+, for the first time. Former Federal Reserve Chairman Alan Greenspan said he expects the stock market slide to continue in the wake of the S&P decision. Appearing on NBC's "Meet the Press" yesterday, Greenspan said markets will take time to bottom out and that he expects a negative reaction today to the S&P action. But Greenspan also said he doesn't see any risk in investing in the US, adding that the S&P's downgrade won't change that. He said the downgrade "hit a nerve" and was damaging to the psyche of the country. But he couldn't foresee a scenario in which the US would default on its debts. Global policymakers held an emergency conference call yesterday to discuss the twin debt crises in the US and Europe that are causing market turmoil and stoking fears of the rich world sliding back into recession. After a week that saw US$2.5 trillion wiped off global stock markets, political leaders are under mounting pressure to reassure investors that Western governments have both the will
and the ability to reduce their huge and growing public debt loads. South Korea said finance deputies from the Group of 20 major economies discussed the European debt crisis and US sovereign rating downgrade yesterday. A Japanese government source said finance leaders from the Group of Seven big developed economies would also discuss the crisis today and may issue a statement afterwards. The European Central Bank was due to hold a rare Sunday afternoon conference call. Washington's Asian allies rallied round the battered economic superpower, with Japan and South Korea both saying their trust in US Treasuries remained unshaken. However, China, the largest foreign holder of U.S. debt, urged the Untied States to work harder to reduce its debts and clean up its house. "The US government has to come to terms with the painful fact that the good old days when it could just borrow its way out of messes of its own making are finally gone," China's Xinhua news agency said in a commentary that criticized U.S. government for its "debt addiction."
Why S&P downgrades US credit rating
(Xinhua) 12:26, August 07, 2011 The credit rating agency Standard & Poor's on Friday cut the United States' credit rating to AA+ from AAA, citing three fundamental reasons for the downgrade, the first ever in US history.
Debt burden worry
According to S&P's judgment, the debt situation of the United States doesn't satisfy the requirement of an AAA rating.
S&P compared US debt with the other four countries with AAA ratings: Canada, France, Germany and Britain.
It estimated the five countries will have net general government debt to GDP ratios this year ranging
from 34 percent of Canada to 80 percent of Britain, with the US debt burden at 74 percent.
S&P predicted the net public debt to GDP ratios will range between 30 percent of Canada and 83 percent of France, with the US debt burden at 79 percent.
Although the US ratio of net public debt to the GDP was not the highest among the five countries, the rating agency projected that the net public debt burden of the other four countries will begin to decline, either before or by 2015.
Fiscal plan "not enough"
On August 2, US President Barack Obama signed legislation designed to reduce the fiscal deficit by $2.1 trillion over 10 years.
However, according to S&P's calculations, a good "down payment" on fixing the country's finances would be at least $4 trillion.
"The downgrade reflects our opinion that the fiscal consolidation plan that Congress and the administration recently agreed to falls short of what, in our view, would be necessary to stabilize the government's medium-term debt dynamics," S&P said.
The rating agency believed the prolonged controversy over raising the statutory debt ceiling and the related fiscal policy debate indicated that further near-term progress containing the growth in public spending, especially on entitlement, or on reaching an agreement on raising revenues is less likely than previously assumed and will remain a contentious and fitful process.
Lose faith on policy makers
S&P questioned US policy makers' eagerness to solve the debt problems by bipartisan efforts. Also, the rating agency blamed Democrats and Republicans for ignoring its earlier warnings.
On April 18, S&P assigned a negative outlook to US then-AAA rating, warning the debt ceiling should be raised to avoid a default. However, the action didn't draw much attention from policy
makers who had decisive power to take quick measures.
The US debt would reach its ceiling of 14.3 trillion on August 2. If the debt ceiling was not raised, the United States would face an unprecedented default.
Through long, testy negotiations between the two parties in Congress, the plan was finally passed just before the August 2 deadline. However, patience and trust in US policy makers diminished as time went by.
"The effectiveness, stability, and predictability of American policymaking and political institutions have weakened at a time of ongoing fiscal and economic challenges to a degree more than we envisioned," S&P said.
Also, as the difficulties behind the debt problems still loom ahead, S&P worried that US policy makers could not react properly and effectively to the "government debt dynamics" any time soon, given their recent performance on dealing with the debt ceiling.
Credit Rating Agencies and Their Credibility Problem
1 Crystal Detamore 8 December 2011 Credit Rating Agencies
When the dust cleared after the worldwide financial crisis, credit rating agencies (CRAs) emerged in some quarters as Public Enemy No. 1 for masking the risk of mortgage-related securities leading up to meltdown. Although we’re concerned that selective amnesia over the financial crisis — and its chief culprits — has settled in, credit rating agencies aren’t getting off the hook so easily. A recent survey of CFA charterholders in Canada conducted by the Globe and Mail and CFA Institute found that 71 percent of respondents say the major credit rating agencies — Moody’s Investors Service, Standard & Poor’s, Fitch Ratings, and DBRS — contributed to the global crisis. And when asked about the credibility of debt ratings provided by CRAs, only 2 percent rated them ―very credible.‖ Survey takers were asked to assess solutions for creating a better system for CRA performance and accountability, and here’s how they responded:
85 percent said CRAs should disclose their process for evaluation and details about each individual rating 70 percent supported the creation of an oversight body or SRO for the industry 58 percent said CRAs should be paid by investors for their ratings (rather than relying on the issuer-paid model that currently dominates the industry) 57 percent said the industry should launch a task force to investigate the system 50 percent said CRAs should be defendants in class action lawsuits Survey respondents were divided on the issue of removing rules and laws requiring credit ratings: 39 percent were opposed compared with 37 percent supporting such a move. For their part, regulators on both side of the Atlantic are rethinking regulation of CRAs in response to the crisis and its continuing fallout on the financial markets. Canadian securities regulators have published for comment a proposal that would introduce securities regulatory oversight of credit rating agencies. The European Union has centralized oversight of credit rating agencies and is mulling over additional reforms, including enhanced competition in an industry dominated by the ―big three‖ (S&P, Moody’s, and Fitch). Meanwhile, the U.S. Dodd– Frank Act contains numerous provisions aimed at improving the oversight and accountability of credit rating agencies, with the SEC leading the charge to wean the industry off its dependence on ratings. For the time being, the rating agencies are as powerful as ever (look no farther than the U.S debt downgrade and the European sovereign debt ratings for proof of their continuing influence). But now that CRAs have found themselves in the crosshairs of regulators, amid waning investor confidence, they could soon see the end of business as usual.
Credibility of credit rating is a must: DR Dogra MD & CEO Credit Analysis & Research Ltd
Paramita Chatterjee, ET Bureau Jun 27, 2011, 05.24am IS
Rating companies across the world are reassessing business models to restore their credibility that may have dented after the subprime mess in 2008. However, firms operating in this space in India are relatively more robust as the country was by and large insulated from the global financial tsunami. India has always been more conservative when it comes to rating of structured products that created problems in the West, says D R Dogra, MD & CEO at Credit Analysis & Research Ltd, a firm engaged in rating corporate equity and debt instruments. "There is a lot to learn from any crisis as it helps us reevaluate our systems and processes. Following the global financial meltdown, rating agencies globally have tended to be a bit more stringent with their ratings and at the sovereign level we have seen ratings lowered for some countries". So, how does he perceive credit rating companies in India? Has CARE become more
stringent in its rating system? "We have always been stringent with ratings as we believe that in our business the biggest differentiating factor is credibility. The market is fast expanding and with growing competition, any agency has to ensure that the industry views the rating as being credible. Some may say that the Indian agencies have been a bit conservative, but to my mind, that is better than being extravagant. The fact that we have a multistage rating process — starting from the analyst to the ratings head to the internal ratings committee to the external rating committee — provides the required filters to keep the system unbiased," says Dogra. The firm's rating teams have distinct sector heads with expertise in their re domains who oversee their own groups. Besides, it also has a rigorous quality control team that reviews in depth all rating proposals and acts as an independent filter in the rating process. Further, the criteria development team continuously reviews the methodologies and processes. "The basic idea is to ensure that the rating systems are ever evolving and synchronous with the developments taking place around us," he says. Credit rating agencies in the country have performed quite creditably over the years and the regulation too has been proactive all through. "We have also been able to bring new products to the table and added value to investors and helped in decision-making. Besides, our default studies also show that we have done well even during the crisis years. But, now we are definitely more alert to the developments taking place around us and are continuously monitoring the enterprises that we rate to pick up early warning signals." What are the credit rating companies doing in the wake of several scams, including the 2G spectrum scandal? Dogra says all internal irregularities have the potential to affect credit ratings of the concerned companies. "The rating agencies are following these developments and are re-assessing their options while evaluating any of these companies in the surveillance process. We do evaluate how the company's prospects may be affected by different scenarios emerging from such developments," he says. CARE plans to go public by the end of next year to give an exit route to its existing investors. It is reportedly looking to raise over Rs 500 crore, offloading at least a 25% stake. Currently, the company has no foreign shareholding. IDBI Bank, with an over 26% stake, is the largest shareholder in the rating firm. Canara Bank holds a 23.67% stake in the company, while SBI has a 9.97% equity stake. Other shareholders in CARE are Federal Bank, IL&FS and ING Vysya Bank. "The basic idea of the IPO is to unlock value and hence the divestment would be of the shareholders to the general public," says Dogra, declining to share details. Since the second half of last year, a host of private equity firms have invested in CARE through secondary sales from its previous shareholders.
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While Milestone Religare Investment Advisors acquired about 5% stake in CARE for around Rs 75 crore in August 2010, Aditya Birla Private Equity and Bajaj Holdings & Investment picked up about 10% stake in the rating agency for about Rs 150 crore in September. Industry trackers say the PE investors are unlikely to exit during the proposed IPO. The firm is reportedly valued at Rs 2,000 crore, that makes it the second most valued financial ratings firm. Standard & Poor-backed Crisil has a market cap of Rs 4,940 crore, while Moody's-backed ICRA has a market cap of Rs 1,046 crore. As per the firm's website, CARE Ratings has completed over 8,488 rating assignments having aggregate value of about Rs 26,60,900 crore (as on September 30, 2010). It has seven offices across the country located in Mumbai, Delhi, Kolkata, Chennai, Hyderabad, Bangalore and Ahmedabad. The firm's revenue currently stands at around Rs 170 crore