Do Rating Agencies Confirm or Surprise the Market?

Abstract

This paper examines the impact of the Big Three (i.e. Standard & Poor’s, Moody’s and Fitch) announcements on sovereign bond indexes. Credit rating agencies (CRAs) have frequently been accused by the press and political leaders for deepening the financial crisis, by surprising the market with rating downgrades and/or negative outlooks of sovereign debts (Boninghausen and Zabel, Journal of International Finance and Money 2015). The idea is that if assessment models used by CRAs employ available information better than the market does, rating announcements provide “new” information (Cavallo et al., http://web.mit.edu/rigobon/www/Robertos_Web_Page/int_-_credrate. html. 2008). But, CRAs could also use this power to drive the market up or down and many downgrades in the Eurozone were considered “destabilizing” and “excessive,” feeding belief in a conspiracy theory. On the other hand, many financial economists believe that the market is relatively efficient and assessment of sovereign debts cannot surprise financial investors. This is due to the absence of asymmetric information between the market and CRAs. Differently from private companies, all the information used in assessing sovereign debts are publicly available and assigned free of charge by at least two major CRAs. Thus efficient markets price this information immediately after news occurs (Hirsch and Bannier, https://www.ifk-cfs.de/fileadmin/ downloads/publications/wp/08_02.pdf. 2007). It implies that CRAs simply “certify” what the market has priced already and are not able to drive the market as suggested by conspiracy theory. We employ an event-study methodology to a sample of 43 bond indexes from Bloomberg over the period 1962 to 2013 to test if the market anticipates the news, or if CRAs can shock the financial market with their rating announcements. In particular, we propose four separate hypotheses. The first hypothesis (H1) tests for the overall significance of announcements by CRAs. The second hypothesis (H2) checks Atl Econ J (2016) 44:133–134 DOI 10.1007/s11293-016-9486-6