Credit Rating
By- Rahul Jain
What is a credit rating?
A credit rating is an opinion on the
relative degree of risk associated
with timely payment of interest and
principal on a debt instrument. A
simple alphanumeric symbol is
normally used to convey a credit
rating.
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Credit rating is an input for
decision making
A credit rating is not a recommendation to buy,
hold or sell a debt instrument. A rating is one of
the inputs that is used by investors to make an
investment decision.
Investors also look at the returns being offered on
the debt instrument. Normally investors expect
higher returns for lower rated instruments to
compensate for the increased risk profile. Rating
agencies do not comment on the return being
offered on a debt instrument. Also, investors use
several other factors like level of portfolio
diversification and liquidity levels of the
instrument etc. in making investment decisions.
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Need of Credit
rating
SOURCE OF FUNDS
Depositors
USE OF FUNDS
Bank
Borrowers
Bank provides liquidity
 Bank assumes credit risk
 Bank undertakes credit assessments

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Need of Credit
rating
SOURCE OF FUNDS
Investors



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MARKET
USE OF FUNDS
Issuers
Market provides liquidity
Investors assume credit risk
Credit rating service provides measure of credit risk
5
Asian Debt Market Activity - 2002
Aggregate of Cross-Border Bond, Domestic Bond and
Loan Market
US$ (m)
40,000
35,000
Total Debt Market
Domestic Bonds
30,000
25,000
20,000
15,000
10,000
5,000
0
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Source Thomson Financial
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Issues
1. Transparency and disclosure
2. Protection of creditor rights
3. Global scale vs National scale
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SEBI-Regulator
The capital market regulator regulates
rating agencies in most regions. In
India, the capital markets regulator,
the Securities and Exchange Board of
India (SEBI), regulates the rating
agencies in the country. SEBI laid
down an extensive set of regulations
for rating agencies in 1999.
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Why do ratings change?
Ratings are assigned based on certain expectations and
assumptions about variables that impact the issuer’s
performance.
These variables are either company-specific factors or factors
relating to the business environment. Rating agencies use
their best professional judgment on these factors while
assigning the rating. However, these variables can change
significantly over a relatively short time-frame, especially in
emerging markets, causing the rated entities’ performance
to deviate materially from expectations. This changes their
future debt repayment capabilities and is reflected in their
changed ratings.
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Rating Process
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Global Vs. National Rating
Scales
National Scale
Global Scale
•
Include relevant sovereign
and country risk
considerations
•
•
Creditworthiness based on a
global comparative analysis
•
•
Both foreign and local
currency credit options
•
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Exclude direct sovereign
risks of other country risk
factors that affect all local
obligators
Relative creditstanding
within a given country
Local currency credit
opinions
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Standard & Poor’s Asia-Pacific Network – 2003
Standard & Poor’s *
Hong Kong
Melbourne
Seoul
Singapore
Sydney
Tokyo
* Staff - 320
Affiliates
CRISIL (Mumbai)
PEFINDO (Jakarta)
PhilRatings (Manila)
TRC (Taipei)
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Average Cumulative15-Year Default Rates
(%)
70
60.70
60
50
27.83
40
30
24.51
20
4.27
10
0.67
1.30
2.30
0
AAA
Source: Standard & Poor’s
AA
A
BBB
BB
B
CCC