Rating agencies-also known as rating agencies-analyze the creditworthiness and repayment capacity of both public and private debtors, especially when issuing bonds.
Societies such as these are a benchmark when it comes to assessing the creditworthiness of issuers or securities.
The very name“rating” means, precisely,“rating,” and it is precisely the rating assigned that is related to the associated credit risk. This is the probability that the issuer in question cannot honor payment commitments.
Standard & Poor’s, Moody’s and Fitch Ratings, each with their own rating systems, are among the best-known rating agencies internationally.
1. The bond rating
Generally, agency ratings -which are expressed on a scale: from the highest rating (most often referred to as “AAA” or “Aaa”) to the lowest (“D” or “C”-are divided into several categories.
Summarized as Investment Grade (Investment Grade) and Speculative Grade (Non-Investment Grade).
While the former are considered mostly safe, as they indicate a relatively low risk of default, the latter have a higher risk of default. As a result, higher interest rates are demanded by investors in the latter case.
It can safely be said that rating agencies influence bond prices since the very rating that is assigned has, inevitably, a direct impact on the price and yield of the bond.
Closely related to rating agencies is a very important term as far as financial markets are concerned: yield, or yield. Moreover, while rating agencies play a central role in determining the credit risk associated with bonds, they also condition yields and prices.
What does a change in rating entail? Without a shadow of a doubt, it can lead to significant fluctuations in bond prices. This, consequently, affects investors and issuers.
No wonder, then, how such assessments are constantly and closely watched by financial markets. It goes without saying that the activities of these agencies have a worldwide impact on bond performance.
2. The role in markets
By providing independent assessments of the creditworthiness of debt issuers, in the context of international financial markets, rating agencies play a decidedly crucial role, so much so that they affect an issuer’s ability to access those markets.
It is easy to see that the score assigned by the agencies may contribute to access to financial markets with lower interest rates than the issuer that, on the other hand, has been given a lower rating and for which, therefore, investors believe there is a higher investment risk.
As a result, these agencies are equally crucial to the stability of markets because it is precisely on the basis of the information they provide that financial stability depends on them.
3. Supervisory institutions
Are there bodies or institutions that oversee these processes? Absolutely, they are regulators, for example, the Federal Reserve (in the United States) or the ECB (European Central Bank).
However, let us not forget that “with great power comes great responsibility…” This means that in the past, even for rating agencies, there has been no shortage of criticism and challenges to the ratings they have provided.
Once we have ascertained the extent to which the ratings issued by rating agencies are absolutely binding on bond prices, it is good to focus on the ratings themselves, that is, the price at which a bond is traded on the secondary market. They are expressed as percentages of the bond’s value.
4. What influences the quotations ?
What does a bond listing depend on?
Not only by its yield, but also by the issuer’s rating and market interest rate.
Also not to be underestimated are general economic conditions, as well as market supply and demand. This is why bond prices are influenced by rating agencies and their ratings.
It could be summarized that the measure of the credit quality and creditworthiness of the bond issuer underlies the whole process and that certain assessments have a more or less direct impact on the market price of both a bond and its liquidity.
From the perception of risk to the effect on yield, from the impact on financing costs for the issuer to the transition between rating categories, through the liquidity factor and market reactions to rating updates, it is important in this industry to always evaluate multiple factors at once, always thinking about what the next move might be.
Stasis, after all, is the sworn enemy of a field like finance, and nothing is allowed to be left to chance.
