Do Security Analysts Discipline Credit Rating Agencies?
Kingsley Y. L. Fong
University of New South Wales - School of Banking and Finance; Financial Research Network (FIRN)
Harrison G. Hong
Princeton University - Department of Economics; National Bureau of Economic Research (NBER)
Marcin T. Kacperczyk
New York University (NYU) - Leonard N. Stern School of Business; National Bureau of Economic Research (NBER); New York University (NYU) - Department of Finance
Jeffrey D. Kubik
Syracuse University - Department of Economics
November 21, 2012
AFA 2013 San Diego Meetings Paper
We test the hypothesis that security analysts discipline credit rating agencies. After all, analyst reports about a firm’s equity would no doubt be informative about its debt default probability and calibrate its credit ratings. We use brokerage house mergers, which eliminate redundant analysts, to shock analyst following so as to identify the causal effect of coverage on credit ratings. We find that a drop in one analyst covering increases the subsequent ratings of a company by around a significant half-rating notch. This effect is coming largely from firms with low initial analyst coverage and hence where the loss of one analyst is a sizeable percentage drop in market discipline. Our effect is stronger for firms close to default and hence where firm debt trades more like equity. The higher ratings due to fewer analysts following also result in lower bond yields.
Number of Pages in PDF File: 43
Keywords: credit rating agencies, rating bias, competitionworking papers series
Date posted: December 12, 2011 ; Last revised: November 22, 2012
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