Do Firms Obtain Multiple Ratings to Hedge against Downgrade Risk?

European Finance Association Annual Meeting, 2011

53 Pages Posted: 16 Mar 2012 Last revised: 15 Aug 2017

See all articles by Zhihua Chen

Zhihua Chen

School of Finance, Shanghai University of Finance and Economics

Zhen Wang

Shanghai University of Finance and Economics

Date Written: August 7, 2017

Abstract

Utilizing an influential event, the 2005 Lehman index rule change, we examined the role of multiple bond ratings in corporate hedging. We find that U.S. firms exhibit a sharp increase in their demand for a third Fitch rating after the Lehman event, with the pattern particularly significant for investment-grade bonds and for those bonds near a rating downgrade. In fact, firms that acquire a third rating are more likely to experience a downgrade in their existing two ratings in the future. Furthermore, open-ended mutual funds increase their holdings of three-rating bonds after the event, and institutional investors trade three-rating bonds more actively. These findings show that firms use multiple ratings to maintain stable rating status, which helps both firms and investors avoid the costly consequences of rating downgrades.

Keywords: Credit rating agency; Multiple ratings; Corporate hedge; Institutional investor; Bond holding; Bond liquidity

JEL Classification: G14, G23, G24

Suggested Citation

Chen, Zhihua and Wang, Zhen, Do Firms Obtain Multiple Ratings to Hedge against Downgrade Risk? (August 7, 2017). European Finance Association Annual Meeting, 2011. Available at SSRN: https://ssrn.com/abstract=2023380

Zhihua Chen (Contact Author)

School of Finance, Shanghai University of Finance and Economics ( email )

Shanghai, 200433
China

Zhen Wang

Shanghai University of Finance and Economics ( email )

777 Guoding Road
Shanghai, AK Shanghai 200433
China

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