Bankroll: Credit Rating Agencies
June 21, 2009 by Dana Truro · Leave a Comment
The giant financial rating agencies are Standard & Poor’s (S&P) and Moody’s.
Standard & Poor’s (S&P) is a financial services company that rates stocks and corporate and municipal bonds according to risk profiles. It’s parent company is McGraw-Hill, a publishing company.
Moody’s Investors Service is an independent, unaffiliated research company that assigns ratings on the basis of risk and the borrower’s ability to make interest payments. Moody’s backs its ratings with exhaustive financial research and unbiased commentary and analysis.
Both of these rating services have dedicated followers. There are, of course, smaller credit-rating services with modest staff that are dwarfed by Moody’s and S&P. The ratings are generally released during industry cycle changes and not at specified intervals like quarterly and annual reports.
However, any discussion of these services would not be complete without reference to a 10-month review conducted by the Securities and Exchange Commission (SEC). The review, “Summary Report of Issues Identified in the Commission Staff’s Examinations of Select Credit Rating Agencies,” was released in July 2008.
The SEC report found that some analysts at Moody’s, S&P and Fitch Ratings gave unjustified high ratings to mortgage and related securities. These phoney “high” ratings turned out to be much riskier and lower than their ratings would have actually implied. In many cases, credit raters were paid by investment banks selling the securities. This in turn prompted the SEC review to question improperly managed conflicts of interest and their rating independence.
The SEC report concluded by saying that “Each credit rating agency was cooperative in the course of these examinations and has committed to taking remedial measures to address the issues identified.”
Having said this, you will often see media references to S&P or Moody’s. For an understanding of the ratings, listed below are the rating profiles and definitions for each service.
S&P – Long-Term Rating Definitions
AAA: Extremely strong capacity to meet its financial commitments.
AA: Very strong capacity to meet its financial commitments.
A: Strong capacity to meet its financial commitments
BBB: Adequate capacity to meet its financial commitments.
BB, B, CCC, and CC: regarded as having significant speculative
characteristics
BB: Adverse business, financial, or economic conditions could lead to the bank’s inadequate capacity to meet its financial commitments.
B: Adverse business, financial, or economic conditions will likely impair the bank’s capacity or willingness to meet its financial commitments.
CCC: Currently vulnerable, and is dependent upon favorable business, financial, and economic conditions to meet its financial commitments.
CC: Highly vulnerable to meet its financial commitments.
R: Under regulatory supervision owing to its financial condition.
Moody’s Long-Term Rating Definitions
Aaa: Highest quality, with minimal credit risk.
Aa: High quality and are subject to very low credit risk.
A: Upper-medium grade and are subject to low credit risk.
Baa: Moderate credit risk and may possess certain speculative characteristics.
Ba: With speculative elements and are subject to substantial credit risk.
B: Speculative and are subject to high credit risk.
Caa: Poor standing and are subject to very high credit risk.
Ca: Highly speculative and are likely in, or very near, default, with some prospect of recovery of principal and interest.
C: Lowest rated class and are typically in default, with little prospect for recovery of principal or interest.
Note: Moody’s adds numerical modifiers 1, 2, and 3 to each rating classification from Aa through Caa.
Modifier 1: higher end of its generic rating category.
Modifier 2: mid-range ranking.
Modifier 3: lower end of that generic rating category.
When S&P and Moody’s release ratings for the bank holding companies that underwent stress testing, they will be posted under “Bankroll.”
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Having lived in New England for 40 years (college, graduate school and work), I like simplicity and clarity in my daily life. This helps avoid ambiguity, especially important when dealing with complex issues. My goal, therefore, is to provide my readers with accurate information about topics of financial importance to help you make informed choices.