Beruflich Dokumente
Kultur Dokumente
IN INDIA 9
Structure
13.0 Objectives
13.1 Introduction
13.2 Meaning of Credit Rating
13.3 Determinants of Credit Rating
13.4 Rating Methodology
13.5 Credit Rating Agencies in India
13.6 Credit Rating Symbols
13.7 Benefits of Credit Rating
13.8 Rating and Default Risk
13.9 Ratings and Yields
13.10 Limitations of Credit Ratings
13.11 Let U s Sum Up
13.12 Key Words
13.13 Useful Books
13.14 AnswersIHints to Check Your Progress
13.0 OBJECTIVES
After going through this Unit, you will be able to :
13.1 INTRODUCTION
The removal of strict regulatory framework in recent years.
has led to a spurt in the number of companies borrowing
directly from the capital markets. There have been several
instances in the recent past where the "fly-by-nightn
operators have cheated unwary investors. In such a situation,
it has become increasingly difficult for an ordinary investor
to d i s t i n g u i s h between 'safe a n d good i n v e s t m e n t
opportunities' and 'unsafe and bad investments'. Investors
find that a borrower's size or name are no longer a sufficient
guarantee of timely payment of interest and principal.
Investors perceive the need of a n independent and credible
agency, which judges impartially and in a professional
manner, the credit quality of different companies and assist
investors in making their investment decisions. Credit Rating
Agencies, by providing a simple system of gradation of
corporate debt instruments, assist lenders to form an opinion
on -the relative capacities of the borrowers to meet their 5I
Financial and Investment obligations. These Credit Rating Agencies, thus, assist and
Institutions in India
form an integral part of a broader programme of financial
disintermediation and broadening and deepening of the
debt market.
ii) The strength of the security owner's claim on the issue, and
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2 ) . Identify the determinants of rating.
Not all bonds are rated by the agencies. Small issues and
those placed privately are generally not rated. For those
bonds that are rated, the competing services generally rank
the same bond in the same rating category; seldom do they
disagree by more than one grade. The research has shown
that there is a high degree of correlation between bond-
quality ratings and actual defaults. Large number of firms
with low rationgs usually default. This suggests that
knowledge about credit rating does help in assessing the
financial risks that can lead to default.
i) debt ratios,
ii) earnings-levels,
I iii) earnings-variability,
iv) interest coverage, and
II
r
v) pension obligations.
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t
Since about 75% of yield spread and ratings variability are
explained with these variables, other subjective factors may
i
play a n important role. The yield-spread pattern also
changes in magnitude over the business cycle; yield spreads
I widen (narrows) during recessions (prosperous periods). A
reasonable explanation of expanding and contracting yield
spreads is that during recession, default risk rises more
~ h a nproportionally for lower-quality firms because of reduced
cash flows. Also, investors may become risk-averse as their
wealth decreases during recessions.
Financial and Investment
Institutions in India 13.10 LIMITATIONS OF CREDIT RATINGS
There are several limitations of credit ratings. First, credit
ratings are changed when the agencies feel that sufficient
changes have occurred. The rating agencies are physically
unable to constantly monitor all the firms in the market.
The opinions of rating agencies may turn wrong in the
context of subsequent events that may have an adverse
impact on asset quality of the issuer.
Once the corporate agrees with the first rating, the rating
agency is obliged to assess the debt issue till its maturity
and publish the rating a s part of its surveillance system. It
has been observed that rating agencies have miserably failed
in predicting the brewing crisis and have continued to give
investment grade rating to companies, which have eventually
defaulted. It has been argued that CRB scam would not
have taken place if we had a better credit rating agency that
would have cautioned in time on the status of the company.
After the crisis, rating agencies became overcautious and
resorted to drastic downgrades of ratings in respect of specific
companies.
efault or is likely to be
tes :
CCPS : Cumulative Convertible Preference Shares; FD : Fixed Deposits;
CD : Certificates of Deposit; SO : Structured Obligations; CP : Commercial
Paper; 1CD : Inter-Corporate Deposits.
A s instrument characteristics or debt management capability could
cover a wide range of possible attributes whereas rating is expressed . .
payment of debt