Undoubtedly the events linked to the subprime crisis damaged the reputation of the CRAs, at least in the short and medium term. In this paper we want to gauge the extension of this reputation damage by looking at the market’s reaction to rating actions. Through a standard event-study methodology, we measure the abnormal return of stock prices in the three-day window centered on the announcement day during the period November 2003 – November 2013. Our thesis is that the market reaction to downgrades, upgrades, credit watches and outlooks should be lower – after the crisis – than it used to be, due to a lack of trust in the neutrality and reliability of the rating agencies. The evidence strongly supports the thesis. The abnormal returns in event window of a rating action are significantly lower after the crisis than they used to be before, after considering various explicative factors relating to the features of the announcement and the market conditions in terms of volatility. In line with previous literature on the topic, we find that – as a consequence of the “certification” role that many regulations recognize to rating agencies – the abnormal return is stronger when the valuation is near to the border between investment and speculative grade. As a consequence, where the certification role is prevalent, there is no difference in the market reaction to announcements before and after the crisis. On the contrary the cumulative abnormal return is significantly lower after the crisis when there is no “regulation-induced” trading and the market investors’ behavior is prominently guided by the faith put in the rating’s informative content. The reputation damage appears to be more severe for the major rating agencies who were directly involved in the subprime scandal. However a lower reaction to rating actions emerges also for minor rating agencies due to a general decrease in the trust over private credit worthiness assessment.
Does the market trust credit rating agencies after the subprime crisis? A comparison between major and minor rating agencies
DE VINCENTIIS, Paola;PIA, Patrizia
2014-01-01
Abstract
Undoubtedly the events linked to the subprime crisis damaged the reputation of the CRAs, at least in the short and medium term. In this paper we want to gauge the extension of this reputation damage by looking at the market’s reaction to rating actions. Through a standard event-study methodology, we measure the abnormal return of stock prices in the three-day window centered on the announcement day during the period November 2003 – November 2013. Our thesis is that the market reaction to downgrades, upgrades, credit watches and outlooks should be lower – after the crisis – than it used to be, due to a lack of trust in the neutrality and reliability of the rating agencies. The evidence strongly supports the thesis. The abnormal returns in event window of a rating action are significantly lower after the crisis than they used to be before, after considering various explicative factors relating to the features of the announcement and the market conditions in terms of volatility. In line with previous literature on the topic, we find that – as a consequence of the “certification” role that many regulations recognize to rating agencies – the abnormal return is stronger when the valuation is near to the border between investment and speculative grade. As a consequence, where the certification role is prevalent, there is no difference in the market reaction to announcements before and after the crisis. On the contrary the cumulative abnormal return is significantly lower after the crisis when there is no “regulation-induced” trading and the market investors’ behavior is prominently guided by the faith put in the rating’s informative content. The reputation damage appears to be more severe for the major rating agencies who were directly involved in the subprime scandal. However a lower reaction to rating actions emerges also for minor rating agencies due to a general decrease in the trust over private credit worthiness assessment.File | Dimensione | Formato | |
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