Asymmetric Trading Responses to Credit Rating Announcements from Issuer- versus Investor-Paid Rating Agencies

37 Pages Posted: 18 Feb 2020 Last revised: 24 Jun 2020

See all articles by Quan M. P. Nguyen

Quan M. P. Nguyen

Massey University

Hung Xuan Do

Massey University, Albany campus; University of Technology, Sydney

Alexander Molchanov

Massey University

Lily Nguyen

The University of Queensland - UQ Business School

Nhut H. Nguyen

Auckland University of Technology

Date Written: June 24, 2020

Abstract

Credit rating industry business model has traditionally been based on an ‘issuer-pays’ principle. Issuer-paid credit rating agencies (CRAs) have recently faced criticism regarding untimely releases of negative ratings adjustments, which is attributed to conflict of interest of their business model. A recent model based on ‘investor-pays’ principle is arguably free of such conflict. We examine how institutional investors respond to changes in credit ratings issued by these two types of CRAs. We find that investors react asymmetrically: they abnormally sell equity stakes around rating downgrades by investor-paid CRAs, while abnormally buying around rating upgrades by issuer-paid CRAs. Further, a dynamic trading strategy based on such trading behavior generates significant abnormal returns. Our study suggests that, through their trades, institutional investors capitalize on value-relevant information provided by both types of credit rating agencies.

Keywords: credit ratings, institutional investors, trading strategy

JEL Classification: G11, G24

Suggested Citation

Nguyen, Quan M. P. and Do, Hung Xuan and Molchanov, Alexander and Nguyen, Lily and Nguyen, Nhut H., Asymmetric Trading Responses to Credit Rating Announcements from Issuer- versus Investor-Paid Rating Agencies (June 24, 2020). Available at SSRN: https://ssrn.com/abstract=3524019 or http://dx.doi.org/10.2139/ssrn.3524019

Quan M. P. Nguyen

Massey University ( email )

Private Bag 11 222
Palmerston North, Manawatu 4442
New Zealand

Hung Xuan Do

Massey University, Albany campus ( email )

Auckland
New Zealand
+64 92136160 (Phone)
+64 92136160 (Fax)

HOME PAGE: http://www.massey.ac.nz/massey/expertise/profile.cfm?stref=972450

University of Technology, Sydney ( email )

PO Box 123
Broadway, 2007
Australia

Alexander Molchanov (Contact Author)

Massey University ( email )

Auckland
New Zealand

Lily Nguyen

The University of Queensland - UQ Business School ( email )

St Lucia
Brisbane, Queensland 4072
Australia

Nhut H. Nguyen

Auckland University of Technology ( email )

55 Wellesley St East
Auckland, Auckland 1010
New Zealand
+64 9 921 9999 (Phone)

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