Commercial Credit Rating Companies
Enterprises of commercial credit valuationEvery available corporate rating (25 million in Europe) is free and operational. Credit scores are described in a three-colour scale: grün for sound companies, gelb for fair companies and rot for companies at risk.
Rating agencies (1 March 2012)
This investigation by the Treasury Committee into Credit Rating Agencies (CRAs) is welcomed by the ACT. Rating agencies have been criticised in recent years, not only for their part in the credit crunch, but also in connection with government ratings being downgraded in the context of the EU economic downturn. A rating in its most simple sense is a formally and independently assessed assessment of a borrower's capacity to meet the indebtedness normally owed by the borrower. Borrowers are required to pay a certain amount of money in order to meet their creditworthiness.
Not only do companies publish rating tools or have general company credit assessments from rating agencies, but they are also actively using credit assessments from rating agencies. You may be exposed to significant credit risk from your trading partners, such as bank deposit balances, investment in MMFs and in-the-money derivative products with either a bank or a CCP.
You can also use the commercial and tactical aspects of your deal to evaluate the position of your vendors, clients, joint ventures, etc. when making important commercial decision. Indeed, anyone dealing with a firm will be interested in its rating or the rating of its primarily uncollateralised debts.
What we find is that credit rating is about the past and that it is rooted in incomplete past and present cognition. Evaluations other than those of a mere statistic are about significant judgment. It is unavoidable and one of the reasons why emitters and investors must be able to select the credit rating agencies they use.
ACT considers that the diversity of methods used by credit rating agents is a good thing and that the introduction of a single method by all credit rating agents would diminish the information included in credit rating. ACT strongly endorses the need for regulatory authorities not to interfere with the contents and methods of credit rating.
A " formal " or " authorised " rating methodologies would make the supervisor participating in the rating a more important/reliable entity than it is. ESMA's part should only be process and should not slow down the implementation of a new method. Of course, it is highly biased because of the resource requirements of such an organization, but also because of the needs of consumers and emitters.
ACT considers that compulsory rotating of credit rating agents is not possible only with two to three large rating agents. ACT considers that it is important that credit rating firms are not seen as trustees vis-à-vis customers so that credit rating is available at a fair price. While welcoming the move to reducing dependence on credit rating where this is not strictly necessary, the ACT acknowledges that this will not be easily achieved.
ACT is a highly qualified organisation for those working in the areas of Credit Management, Credit Management and Credit Management and offers the broadest range of credit ratings. We have 4,200 members and 2,400 undergraduates working in companies of all size in the industrial, commercial and services sectors. Recognising the important roles that CRAs are playing in the world' financial market, the ACT, together with the US ('AFP'[2]) and French ('AFTE'[3]) treasury federations, already in 2003 issued a Credit Rating Agency Compliance Statement which covers practices relating to disclosure, privacy and conflict[4], and includes a section on the responsibility of the issuing or rated entity to be open in supplying information to the agencies[5].
Agent issues of the code were actually integrated into the IOSCO coding principals and thereafter into national/regional coding or rules. Q1: Is the methodologies used by CRAs robust and clear? Methodologies used by the three major rating firms are largely similar and focus on two major risks: commercial versus pecuniary.
However, each of them has methodologically evolved separately from the others so that they are not the same and may differ in terms of approaches to specific sector or product. ACT considers that a wide range of methods is a good thing and that the introduction of a single method by all rating agencies could lead to a reduction in the information included in them.
Credit rating agencies give an outline of their rating methods in detail on their web sites. In our past experiences, rating agencies have provided cross-market advice and explained all changes to their method directly. But even if we try to keep up, sometimes we are not made attentive to changes, and the notification of the method is concealed behind the large number of news reports issued by the rating agencies.
Our proposal is for a subscriber services where all method changes are push-based rather than pull-based by each agent, which would be a useful operational complement to visibility. ACT strongly endorses the need for regulatory authorities not to interfere with the contents and methods of credit rating. User (and issuer) are interested in the actual view of the credit rating agencies, not in what it would be like if the agencies applied a method established by someone else.
A " formal " or " authorised " rating method would implicitly involve the supervisor in the rating and make it more important/reliable than it is. It may be appropriate for ESMA arrangements to make sure that credit rating agencies have been duly advised when a new credit rating method is changed or introduced. The Commission must not postpone the introduction of a new method.
The obligation for an authority to continue to use a method which it considers inadequate is unacceptable. Q2: Do rating firms have the right incentive to do their jobs well? Are there any conflicting interests on the company or state side? Does the Commission consider that the Commission is not aware of this?
By representing both credit rating obligors and credit rating holders, the ACT supports enhanced competitiveness as the level of services can be enhanced at any time and cost lowered. Of course, it is highly biased because of the resource requirements of such an organization, but also because of the needs of consumers and emitters.
It can take many years for a new credit rating agency to gain creditworthiness in a particular industry, and during this time it faces the challenges of earning enough income from an investor or issuer to finance itself. Although Fitch has extended and questioned the Moody's and Standard and Poor's duo, it still doesn't fully span the rating area.
A supplementary rating agent has only a marginally high or low value for the equity markets. At the same times, an investor needs to understand their methods by industry, types of exposure, etc., and become familiar with their credibility and reputations. The issuer must also invest considerable administrative resources and resources to inform credit rating agencies of their commercial and pecuniary exposures.
However, we are aware that during the credit crunch there was a conflicting interest in structuring the product due to the small number of donors in this new area. Amendments to the new EU legal framework suggest obligatory rotating of credit rating institutions. That is not practicable with only two to three large agency.
Indeed, compulsory rotating would reinforce the Standard & Poor's/Moody's dichotomy by ensuring that an agent is "in power" for six years. Should rotations be implemented, the result could be that an emitter was compelled to appoint an agent with little expertise in its field. It would be of dubious rating terms and reliable so that the user could ignore their opinions.
ACT is not in line with the EU proposals for a rating index and mean credit assessments as it focuses on the rating quality and not on the detailed reporting and analyses of credit rating agencies. Moreover, the method of rating meanings is not logical. Example: Not only are the credit assessments used by different methods, but in the case of lower credit assessments, one rating firm may also "score" the PD credit assessments to take the "loss on default" into consideration, while another rating firm may give the "loss on default" credit assessments separately.
Where a CRA would provide to make available for publication enhanced credit assessments for a charge, this should be done under standard anti-corruption and/or abusive pricing legislation and should not be a reinvented criminal offense. Q3: How responsible are the large rating firms? How does independence play a key roles?
Are the Big Three agents getting too big? Rating consultancies are neither credit underwriters nor asset managers. CLA increases the risks for rating firms and would involve much more money to create a cushion of risks or the costs of purchasing insurances which, if they were available in adequate quantities, which we question, would significantly raise the costs of rating.
In any case, this would act as a further obstacle to access by new agents and would jeopardise competitiveness. ACT considers that it is important that credit rating firms are not seen as trustees vis-à-vis customers so that credit rating is available at a fair price. Credit rating institutions should nevertheless face the possibility of imposing disciplinary measures for misuse or, in the case of more serious acts (market misuse, etc.), the usual penal measures.
Rating that is only the opinion of rating firms can have an enormous impact on companies, the work of banking institutions and the reputation of a state. Credit assessments that are incorporated into the regulative regime for regulators may promote general overconfidence in credit rating institutions. Q4: What influence do rating firms have on the effective allocation of funds?
What influence do rating changes have on investors' behavior? In the light of other information, companies may reassign their investments or request credit assistance if a credit rating agency upgrades one of its credit rating gauges or changes the credit rating or credit rating outlooks ( positively, stably, negatively or evolving). Therefore, by broadening the information available to decision-makers, credit rating agents should have a significant impact on the reallocation of funds, which reflects the associated risk.
Rating changes may, however, result in a large number of depositors simultaneously reallocating assets outside the Downgraded Company. In particular, this applies to an individual whose policies or regulations impose creditworthiness limitations. Assessed entities will consider the measures they will take and the possible attitude of the credit rating agency towards the measure.
Given that the firm is susceptible to its own rating, one could argue that rating agencies may be influencing a more cautious and conservative one. Rating changes have different effects according to credit rating, as the lower the credit rating, the lower the risk appetite is. As the credit worthiness of the borrower decreases, the greater the importance of each of the issuer's eventualities becomes, which is mirrored in a broader dispersion of interest rate across the rating, as shown in Figure 1 below.
It is important to follow the rating comments and other information about the debtor in order to make informed decisions for all types of user. In addition, many rating holders are quite unaware of what certain rating means and do not look for details. As an example, most public credit assessments are credit assessments, but the anticipated effect on the investor is affected by the anticipated losses in the event of credit defaults.
Standard & Poor's credit assessments, for example, are geared to the risk of non-payment. In the case of lower rating classes where defaults are more likely, a discrete non-performing loan is disclosed. Moody's credit scores are also predicated on the PD, but the rating can be "scored" if the credit losses are significant at lower credit scores.
Q5: How are rating agencies integrated into domestic and foreign regulations? With a view to reducing the "herd effect[6]" of credit assessments, supervisors should refrain from establishing rating thresholds for regulative implications, and CBs should refrain, as far as possible, from establishing credit assessments for the determination of suitability for assets or the type of security they will buy.
The US regulatory system (e.g. Dodd Franks) is shifting away from explicitly being dependent on rating and EU regulations are going in the same vein. While the ACT appreciates the move to decrease dependency on credit rating where this is not strictly necessary, the ACT does not see this as an absolute necessity. Nevertheless, credit rating is often a useful abbreviation and is widespread and relatively commercially available, and attention should be paid that its use is not unduly restricted as this may have unanticipated outcomes.
In particular, this applies to companies that are often unable to finance the costs of significant internal credit analyses and supervision of their respective credit counterparts and instead use creditworthiness as a proxy. However, this is not always the case. Q6: Are the European Commission's proposed credit rating agency measures built on the right targets?
It is the general aim of the European Commission's proposed Directive to help reduce risk to the financial sustainability and restore investor and other stakeholder trust in and credit rating qualities in those countries. - Reduce the effect of "clipping" factors on FIs and FIs by decreasing their dependence on outside credit assessments; - Reduce the risk of infectious effect associated with changes in government credit assessments; - Enhance rating policy as there is little selection and competitiveness in the rating process to enhance the rating environment; - Enhance the rating environment by strengthening the rating agencies' autonomy and fostering robust rating techniques and practices.
Currently, the sovereignty of CRAs may be eroded due to conflict of interest due to the issuer-pay approach, owner mix and long duration of relationships with the same CRA. ACT does not consider it possible to mitigate the effect of clip impacts by making it less dependent on outside credit assessments.
The majority of bankers and large institutional buyers have their own in-house rating scale, which is generally much more mechanically than that of agency firms and therefore more susceptible to overlycycling. Nearly all financial institutions use Moody's KMV or similar service to adjust their rating scale to anticipated probabilities of failure or losses.
In addition, the breadth of analytical coverage for the separate identification of higher Tier Credits, let's say Lower Middle Debtors (BB), is greater than at Middle Debtor Tier (BBB) and only specialized issuers are willing to do so, and even then only for large issuances. Reducing the exposure to credit rating changes by States should not be achieved by reducing or limiting the spread of opinions, in particular those of aninformed nature, as expressed by credit rating agents and other analytical firms.
The contagional impact of changes in public credit perception is likely to be greater without sound opinions (as in 3.6. 3, above). The ACT' s observations on legal protection can be found in the section. ACT has found no proof that the major rating agencies are anything but independents. Our view is that there is generally a lever effect for fee-paying emitters to unduly affect credit rating.
It is our belief that the work of the major rating companies is well respected in company credit assessments. Second, CRAs must make sure that the compensation of their employees is such that individual employees are not remunerated in a way that could affect them.
Exceptions were structural credit assessments, where a small number of donors accounted for a significant portion of agent revenue. Accordingly, the main sponsor companies accounted for a significant part of the Agency's revenue and the rating hopping seems likely to have been a plausible menace to the rating companies. There are new, smaller rating firms known to us that offer unrequested credit assessments (i.e. credit assessments not yet funded by the issuer) in mainland Europe that have supposedly provided credit assessments to be "upgraded" against funding.
Q7: The method of rating sovereign positions of agents involves an evaluation of domestic and foreign policy-makers. Does the policy making affect the policy making in any way? Which are the appropriate boundaries for the rating agency's policy clout? Does rating, for example, have an effect on the financial and budgetary cycle at each country level and thus possibly on the path of the economy?
Q8: Have the recent ratings agency deleveraging (e.g. the ratings of the United States and a number of eurozone countries) highlighted any of the questions arising from this mandate? Credit rating agents should assess the policy impact on domestic creditworthiness and other entities affected by their creditworthiness, as this can be a critical one.
Rating agencies would be mistaken to intentionally terminate a rating notice in order to harm a policy maker or policymaker. Notifications should be given at a time defined by the information flows and standard procedures of the organisation itself. As we are aware, it is difficult to assess policy risks. Our understanding is that, just as a business can be frustrated and feels furious and hurt when it has a worse rating than anticipated, this youthful response must be overcome and more calm arguments predominate.