Global Investing

Cassandra’s curse?

November 11, 2010

It ain’t easy being an oracle.

Pilloried for going too easy on the mortgage-backed securities that eventually sparked off the global financial crisis, credit rating agencies have been accused more recently of being trigger-happy on euro zone sovereign ratings downgrades that have roiled global markets.

The likes of Moody’s, Standard & Poor’s and Fitch are now in the cross-hairs of government regulators, with the G20 set to endorse reforms aimed at curtailing investors’ reliance on these ratings.

But other than credit ratings, do investors have alternatives to assessing credit risk?

Not many, argues ING in a recent report.

Internal rating-based models used by investors and banks are hardly better at predicting credit events, ING finds in a study of 55 bond defaults among 448 rated emerging-market companies over a five-year cycle.

OverĀ a three- to 12-month range, however, investors appeared more prescient than the rating agencies but this edge may have more to do with investor herd behaviour ahead of any default event.

“Market versus ratings differences in the final 12-month period (before the credit event) suggest that herd behaviour was not ratings driven, even in the speculative-grade space,” writes ING’s Global Head of Emerging Markets Strategy, H. David Spegel.

Reducing the market’s over-reliance on rating agency risk assessmentsĀ  may appear to bring benefits but eliminating the use of credit ratings could create new problems, Spegel warns.

Credit rating agencies are often “the only external lever available to ensure that creditor-friendly government policies are pursued”. Their cross-border reach and influence on borrowing costs means they have greater leverage compared to individual investors in ensuring basic levels of transparency from borrowers.

“Rating agencies may therefore be said to pose some threat to a government’s sovereignty. It is therefore little wonder why so many are now keen to eliminate them. If the market clout of the agencies is diminished too far, their ability to serve investors in this capacity will also be reduced,” Spegel concludes.

The predicament that credit rating agencies face evokes the ancient Greek mythical figure of Cassandra.

The most beautiful of daughters of the king and queen of Troy, Cassandra was blessed with the gift of prophecy by Apollo. But when she spurned Apollo’s advances, the angry god placed a curse on her so she was doomed to be right but never believed.

Comments
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What you say about the rating agencies would be ok, if they had the 1) transparency of auditing companies 2) the responsibility of ombudsmen.

They have proven however to be dirty-dealers and actors in the financial crisis – profiting from transactions that were obviously close to being criminal – receiving commissions on the property deals – actively supporting over speculation if it is in their interest. They have also in their reach proven to be used as a tool of US foreign policy (what are the separation of powers?). Their influence over a country’s economy is beyond their remit. Moreover, as they say it is a bit rich for these agencies to assess and rate other countries when their own is in debt to what figure? Trillions? How many trillions. That the Europeans wish to emulate this system is ridiculous. It needs to be overhauled – and alternatives are possible.

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