Do Moody’s downgrades matter?

April 14, 2009

Can anybody tell the difference between a level and a direction any more? Not at the FT, it would seem, which ran a story yesterday under the headline “Credit quality of global groups at 25-year low”. Here’s how it begins:

The credit quality of global companies has deteriorated to levels not seen for more than a quarter of a century, according to Moody’s Investors Service.

The ratings agency said the ratio of companies having their credit ratings cut versus the number of companies being upgraded – an indicator of declining credit quality – had reached its highest level since 1983.

Of course, just because the rate of decline of ratings is at a 25-year low does not mean that the absolute credit quality of global companies is at a 25-year low.

And even the rate of decline doesn’t seem to be all that bad, once you read on:

During the first quarter of 2009, the rate at which borrowers were having their ratings cut reached 13.8 per cent, highlighting the negative credit climate in the first part of the year, analysts at Moody’s said.

“This downgrade rate is higher than pre-economic crisis figures,” said Jennifer Tennant, Moody’s analyst. For the whole of 2006, the downgrade rate was 10.2 per cent, and the average rate from 1983-2009 was 12.5 per cent per year.

All of these numbers seem to be annualized rates, and if the downgrade rate was 10.2% in 2006, at the height of the Great Moderation, then a rise to just 13.8% today seems positively modest — especially when the long-term average is 12.5%.

But the story is confusing: it goes on to say that the long-term upgrade rate is just 7.9%, which would seem to imply that on a net basis, credit quality has been deteriorating steadily for a quarter of a decade at least, with downgrades nearly always outnumbering upgrades. Is that really true? After its first two paragraphs, I don’t trust this FT story to enlighten me on such matters.
And more to the point, does anybody even care what Moody’s thinks any more? Wouldn’t it be better to just look at default rates and credit spreads, rather than ratings, which are horribly lagging indicators even at the best of times?


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