The Adjustment of Credit Ratings in Advance of Defaults
University of Ulm - Department of Mathematics and Economics; European Business School (EBS) Wiesbaden - Department of Finance, Accounting & Real Estate
University of Frankfurt - Economics and Business Administration Area
Journal of Banking and Finance, Vol. 31, pp. 751-767
This paper assesses biases in credit ratings and lead-lag relationships for near-to-default issuers with multiple ratings by Moody's and S&P. Based on defaults from 1997 to 2004, we find evidence that Moody's seems to adjust its ratings to increasing default risk in a timelier manner than S&P. Second, credit ratings by the two US-based agencies are not subject to any home preference. Third, given a downgrade (upgrade) by the first rating agency, subsequent downgrades (upgrades) by the second rating agency are of greater magnitude in the short term. Fourth, harsher rating changes by one agency are followed by harsher rating changes in the same direction by the second agency. Fifth, rating changes by the second rating agency are significantly more likely after downgrades than after upgrades by the first rating agency. Additionally, we find evidence for serial correlation in rating changes up to 90 days subsequent to the rating change of interest after controlling for rating changes by the second rating agency.
Number of Pages in PDF File: 24
Keywords: credit rating agencies, credit rating biases, leader-follower analysis
JEL Classification: G15, G23, G33Accepted Paper Series
Date posted: June 6, 2005 ; Last revised: March 14, 2008
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