Why are we rating? Standard & poor's recent downgrade of the US has put the power and methods of credit rating agencies into sharp focus. How do they work? To whom are they accountable? And how can your company manage its relationship with them effectively?
| Author | Hodge, Neil |
| Position | Economics |
The financial crisis has shattered the myth that the judgement of credit ratings agencies is impeccable and has brought the dangers for investors of being "blindly" and "uncritically reliant" on their findings to the forefront.
Regulators on both sides of the Atlantic have taken aim at the agencies, threatening to curb their power and improve their governance. In fact, a US congressional panel described them as "essential cogs in the wheel of financial destruction". The industry itself has attempted to mollify critics by beefing up its own self-regulation and transparency. Yet while the failings of the big three agencies - Standard & Poor's (S & P), Moody's, and Fitch - have been laid bare, governments and corporates still rely on their views to attract investment and raise capital.
The role of a credit rating agency is to gauge the creditworthiness of organisations issuing debt instruments - such as corporate and government bonds - so that investors, banks, regulators and other market operators can use them to measure relative credit risk. Billions of dollars-worth of debt is issued and borrowed based on their analysis. If a company or government is "downgraded", investors either feel compelled to dump their investments, or force the organisation to change tack - quickly.
Many companies, governments and public sector organisations have fallen out of love with credit rating agencies when they have either not achieved the rating they think they deserve, or have been downgraded. As ratings can influence banks' willingness to lend credit and suppliers' payment
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At the beginning of August S & P downgraded the US's credit rating to AA+ from its top rank of AAA, i saying that the deficit reduction plan passed by the US Congress did not go far enough. Greece, the UK and Japan have also suffered ratings downgrades within the past year.
In August, Los Angeles, which had recently seen its $7bn investment portfolio downgraded by S & P, fired the rating agency after it cut its rating of LA's general investment pool to AA from AAA. "We have really lost faith in S & P's judgement," interim treasurer Steve Ongele said. Following its downgrade of US debt weeks earlier, S & P also downgraded dozens of other municipalities with large investments in US Treasury notes. One of them, northern California's San Mateo County, decided not to renew its contract with S & P, while Florida's Manatee County also dropped its contract with the company.
Edward Lampert, the US billionaire majority shareholder and...
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