Term Paper on "Rating Agencies in the International Bonds Market"

Term Paper 5 pages (2017 words) Sources: 1+

[EXCERPT] . . . .

Rating Agencies in the International Bonds Market

The participants of capital market presently are associated with a far wider level of critical decisions than ever before. The entry into international arena through globalization has increased the vulnerability of the participants to risk. The decisions with regard to selection of investment of capital are becoming increasingly discouraging with their soaring number and complexity. On the other hand the potential borrowers in emerging market countries find it crucial to enter into the international capital market. Their capability to find out the funding is significantly improved with their efficacy in securing themselves internationally. The recognized ratings for their debt instruments is acknowledged to be earning of a credit passport specifically in markets where an issuer is not quite well-known and the investors are not fully aware of issuer's language, business culture or accounting conventions. The trustworthiness of a rating from a recognized and globally established rating agency may thus permit the issuers to enter capital markets more economically and at frequent levels. (How International Ratings Strengthen Financial Markets)

Three prominent credit rating agencies are widely acknowledged globally. They are Moody's Investor Service, Standard & Poor's and Fitch Ratings. They accord domestic and external ratings at the request of borrowers. They are present in almost all the countries having a universal rating scale. The Standard & Poor's rating agency was first instituted by Henry Varnum Poor in 1860 with the guiding principle 'the investor has the right to know'. In the year 1906, Standard Statistics Bureau Company was established to entail the financial information on U.S. companies that in 1916 started to assign debt ratings to corporate and sovereign debt. During 1940 it introduced Municipal bond ratings. (International Credit Rating Agencies)

During 1941 the Poor's publishing and Standard Statistics merged to constitute the Standard & Poor's corporation. During 1966, the Standard & Poor's was obtained by the McGraw-Hill Companies, Inc. And presently, the Standard & Poor's constitute a division of Corporation that entails financial consultancy, credit ratings, various analytical materials on securities, companies, banks with its 21 offices and 1200 analysts. Moody's Investor Service was instituted by John Moody in 1900 in New York. The John Moody & Company was initially publishing Moody's Manual of Industrial and Miscellaneous Securities that provided information and statistics on stocks and bonds of financial institutions, government agencies, manufacturing, mining, utilities and food companies. (International Credit Rating Agencies)

The Base of analyzed companies was expanded in 1913 and assessment of industrial companies and utilities were launched making the Moody's ratings a determinant in the bond market. It could cover almost 100% of the U.S. bond market during 1924. The extension of Moody's ratings was made to commercial paper market and to bank deposits during 1970. Moody's Corporation presently operates in 18 nations with two of its subsidiaries Moody's Investors Service and Moody's KMV. Moody's Investors Service is regarded as the most recognized and widely applied sources of credit ratings, research and risk analyzing in the world. The agency Fitch Ratings was instituted during December 24th, 1913 by John Knowles Fitch in the name of Fitch Publishing Company in New York City. Initially it started with publication of financial statistics serving New York Stock Exchange.

Later, it published 'Fitch Bond Book' and the 'Fitch Stock and Bond Manual' to be acknowledged as the leader in extending critical financial statistics to the investment community through such publications. The present day rating scale from AAA to D. has been introduced by Fitch during 1924 that cater to the growing need or independent analysis of financial securities. During 1997, Fitch merged with IBCA Ltd. And become owned by FIMALAC, Paris, which is a holding company. Fitch presently operates in 75 nations from the headquarters of New York and London with its 40 branch offices worldwide and covers 2300 banks and financial institutions, 1000 corporate and maintains surveillance on 17000 municipal bond ratings and on 3300 structured financings in the U.S. tax-exempt market. Universal and open rating methodology has been adopted by all these three rating agencies. The functioning of rating agencies are public and all the necessary information on rating decisions are made available over the Website. (International Credit Rating Agencies)

Irrespective of the existence of many credit rating firms around the world only a few seems to provide a real global credit analysis. Most of the credit rating firms concentrate on a particular region or locality. In the present day capital markets the data for all time zones and currencies are depicted on computer screens simultaneously, investors necessitate a single rating system considered really global. The significance of globally comparable ratings has therefore, increasingly acknowledged to be of pivotal importance. Presently, even the most sophisticated companies are found to be deficient of the adequate resources to analyze the risks of several thousands of debt instruments from which they can choose in order to invest their capital. (How International Ratings Strengthen Financial Markets)

The rating enables investors and trading departments to divert their time on other significant elements of fixed income investing like the currency or interest rate movements. The emerging market enterprises having a global rating for their debt instruments are found themselves at clear advantages of over that of others in attracting investors. Many investors watch ratings as clear benchmarks for setting yes/no or buy/don't buy confinements on fixed income purchases. In developed capital markets many investors apply ratings to assess the risk premium -- the amount of additional yield that compensates for the possible default. Beginning from a risk less benchmark like U.S. treasury bonds, the risk premiums can be quantified for the entire market with comparisons of yields of bonds at each of the rating groups.

The ratings and backup research reports are seen to assist maintaining the confidence of investors particularly when the financial shock waves reverberate across continents. The banks and other financial institutions also often utilize the credit ratings to safeguard decisions on their own corporate lending, corporate treasurers and other derivatives market participants applying ratings to assess the counterparty credit risk of banks, securities firms, and other parties that offer swaps, options or other derivative transactions. Moreover, ratings are used to assess the credit risks associated with bond insurance or the risk level of a guaranteed investment contract offered by insurance company. The sovereign ratings are often applied as 'ceilings' to prioritize the relative quality of debt securities in different nations. The financial intermediaries often find the rated bonds to sell more easily than that of the others. The rating guidelines are often stipulated as criteria for issuance in particular markets or for bond purchases by some institutions. (How International Ratings Strengthen Financial Markets)

Rating agencies opine on varied type of public traded securities, including corporate bonds, commercial paper and municipal bonds. The credit rating is viewed as an assessment of creditworthiness. It is regarded as an opinion "of the future ability, legal obligation, and willingness of a bond issuer or other obligator to make full and timely payments on principal and interest due to investors." (Informational Effects of Regulation FD: Evidence from Rating Agencies) The rating definitions are concerned with long-term debt. Ratings are broadly categorized under Investment Guide and Speculative Grade. The rating assigned for an issue is regarded as an opinion of the creditworthiness of an obligor with regard to a specific financial obligation while the rating assigned for an issuer is regarded as an opinion of an obligor's overall financial capacity to pay its financial obligations. (Informational Effects of Regulation FD: Evidence from Rating Agencies)

The rating agencies are under great criticism in the last few years for not successfully detecting the credit problems that resulted in the collapse of Enron, Worldcom and Parmalat. There are demands for regulation of such Rating Agencies as they argue to have an inherent contradiction in the role of credit rating agencies, since they are alleged to have been paid by the issuers whom they rate. The added conflict has arisen since the agencies have started to offer additional consultancy services that could influence ratings. The scores are assigned by the credit rating agencies after monitoring the debts of bond issuers that indicate the meeting or defaulting of issuers on interest or principal due under the bond. The dominance of international credit rating agencies by three super players reflect the market structures to have the inherent probability of being anti-competitive as price do not decide market share. The collapse of Enron and Worldcom labeled huge criticism against the credit rating agencies since these big three agencies had continued to rate Enron as being suitable for investment up to four days prior to it filed bankruptcy. The Securities and Exchange Commission prescribed certain standards for the Credit Rating Agencies to comply with in order to qualify for the Nationally Recognized Statistical Rating Organizations -- NRSROs. (Rating Agencies let off the hook - for now)

Ever since the inception of the euro, the role of rating agencies have been considered to be very crucial in the development… READ MORE

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