Sovereign Debt Ratings Research Articles

Sovereign debt ratings and stock liquidity around the World

Abstract This paper studies the impact of sovereign debt rating changes on liquidity for stocks from 40 countries for the period 1990–2009. We find that sovereign rating changes significantly affect stock liquidity. The impact is stronger for downgrades than for upgrades, and is nonlinear in event size. The loss of investment grade has a particularly strong negative impact on stock liquidity. We also find that some stock characteristics and country legal and macroeconomic environment are important in explaining the differences in the impact of sovereign credit rating changes on stock liquidity across countries.

Sovereign Debt Ratings and Stock Liquidity Around the World

This paper studies the impact of sovereign debt rating changes on liquidity for stocks from 40 countries for the period 1990-2009. We find that sovereign rating changes significantly affect stock liquidity. The impact is stronger for downgrades than for upgrades, and is nonlinear in event size. The loss of investment grade has a particularly strong negative impact on stock liquidity. In the cross-section, firms with smaller size, higher book-to-market ratio, higher fraction of closely-held shares, lower liability/asset ratio, lower liquidity, lower profitability, less transparency, or no political connection tend to experience more negative liquidity effects from downgrades. We also find that the country legal and macroeconomic environment is important in explaining the differences in the impact of rating changes on liquidity across countries. Specifically, stocks from countries with civil law, poorer minority protection, poorer accounting standard, lower market capitalization, lower credibility of financial disclosure, higher level of earnings management, lower transparency, higher foreign institutional ownership, or lower GDP tend to experience sharper drops in stock liquidity in response to an adverse sovereign credit event.

Nigeria’s Iron Lady

On the sidelines of the World Economic Forum (WEF) in Cape Town in March 2013, I chaired a book launch starring Nigeria’s formidable first female finance minister, Ngozi Okonjo-Iweala, resplendent in her trademark African traditional dress and matching head-gear. She talked unpretentiously, without the affected foreign accent of some Nigerians that have spent two decades abroad. She had recently published a book titled Reforming the Unreformable on her time – between 2003 and 2006 – as finance minister of Africa’s largest economy, the world’s eighth most populous state, and its sixth largest oil-producer. She had been the architect of the deal to pay off Nigeria’s $30 billion debt (the second largest such debt deal with the Paris Club of creditors at the time), and led a team of technocratic reformers seeking to tackle corruption, build efficient public and private institutions, obtain Nigeria’s first sovereign debt rating, and transform the country into an emerging economy.

The adverse effects of systematic leakage ahead of official sovereign debt rating announcements

Rating agencies consult with local government officials several days prior to official announcements of sovereign debt rating changes, making information leakage likely. Using cross-country data from 1988 to 2012, we find evidence of information leakage. In particular, we find statistically and economically significant negative daily abnormal stock index returns prior to downgrade announcements. These effects are more pronounced in countries with lower institutional quality, and they persist during times with no downgrade rumors and no concurrent bad news in general. A mild post-announcement reversal consistent with overreaction to pre-event downgrade rumors highlights the adverse effects of such leakage and, thus, should be a policy concern for capital market regulators.

The near-death experience of the celtic tiger

This article narrates Ireland’s recent odyssey from the pride and envy of Europe to kneeling supplicant through the eyes of an econometric model of the government bond market. The exercise suggests that, in essence, two developments triggered and propelled Ireland’s drift towards sovereign default: first, the global financial crisis that drove Ireland into a severe recession with collapsing tax revenues and increasing unemployment; second, a gap between the post-2007 increase in sovereign default risk that can actually be linked to macroeconomic fundamentals and the much bigger increase in perceived risk reflected by high interest rates and communicated by the massive downgrades of Ireland’s sovereign debt rating.

Sovereign Debt Rating Changes and the Stock Market

Rating agencies consult with local government officials several days prior to official announcements of sovereign debt rating changes, making information leakage likely. Using cross-country data from 1988 to 2012, we find evidence of information leakage. In particular, we find statistically and economically significant negative daily abnormal stock index returns prior to downgrade announcements. These effects are more pronounced in countries with lower institutional quality, and persist during times with no downgrade rumors and no concurrent bad news in general. A mild post-announcement reversal consistent with overreaction to pre-event downgrade rumors highlights the adverse effects of such leakage, and thus should be a policy concern for capital market regulators.

PIGS or Lambs? The European Sovereign Debt Crisis and the Role of Rating Agencies

This paper asks whether rating agencies played a passive role or were an active driving force during Europe’s sovereign debt crisis. We address this by estimating relationships between sovereign debt ratings and macroeconomic and structural variables. We then use these equations to decompose actual ratings into systematic and arbitrary components that are not explained by previously observed procedures of rating agencies. Finally, we check whether systematic, as well as arbitrary, parts of credit ratings affect credit spreads. We find that both do affect credit spreads, which opens the possibility that arbitrary rating downgrades trigger processes of self-fulfilling prophecies that may drive even relatively healthy countries towards default.

Pigs or Lambs? The European Sovereign Debt Crisis and the Role of Rating Agencies

This paper asks whether rating agencies played a passive role or were an active driving force during Europe's sovereign debt crisis. We address this by estimating relationships between sovereign debt ratings and macroeconomic and structural variables. We then use these equ-ations to decompose actual ratings into systematic and arbitrary components that are not explained by observed previous procedures of rating agencies. Next, we check whether both systematic and arbitrary parts of credit ratings affect credit spreads. We find that both do, which opens the possibility that arbitrary rating downgrades trigger processes of self-fulfilling prophecy that may drive even relatively healthy countries towards default.

Ordered response models for sovereign debt ratings†

Using ordered logit and probit plus random effects ordered probit approaches, we study the determinants of sovereign debt ratings. We found that the last procedure is the best for panel data as it takes into account the additional cross-section error.

Does Sovereign Debt Ratings News Spill Over to International Stock Markets?

Does Sovereign Debt Ratings News Spill Over to International Stock Markets?

Does sovereign debt ratings news spill over to international stock markets?

The evidence here indicates that sovereign debt rating and credit outlook changes of one country have an asymmetric and economically significant effect on the stock market returns of other countries over 1989–2003. There is a negative reaction of 51 basis points (two-day return spread vis-á-vis the US) to a credit ratings downgrade of one notch in a common information spillover around the world. Upgrades, however, have no significant impact on return spreads of countries abroad. Closeness (e.g., geographic proximity) and emerging market status amplify the effect of a spillover. Downgrade spillover effects at the industry level are more pronounced in traded goods and small industries.

Ordered Response Models for Sovereign Debt Ratings

Using ordered logit and probit plus random effects ordered probit approaches, we study the determinants of sovereign debt ratings. We found that the last procedure is the best for panel data as it takes into account the additional cross-section error.

Fiscal Federalism and International Capital: The Effects of Fiscal Federalism on Foreign Direct Investment and Sovereign Dept Ratings

Although the study of federalism has become one of the most intensely studied areas in economics and political science, no consensus has emerged on the impact of fiscal federalism on macroeconomic performance. I focus on one specific element of the debate- the role of fiscally federal institutions in allowing a country access to international capital markets. In an empirical analysis of 60 countries from 1975-1995 I find fiscal federalism has no clear impact on inflows of foreign direct investment. In an examination of the impact of federalism on sovereign debt ratings for 40 countries from 1980-1998, I find that fiscal federalism is associated with lower levels of sovereign debt risk.

Does Sovereign Debt Ratings News Spillover to International Stock Markets?

The evidence here indicates that sovereign debt rating and credit outlook changes of one country have an asymmetric and economically significant effect on the stock market returns of other countries over 1989-2003. There is a negative reaction of 51 basis points (two-day return spread vis-a-vis the US) to a credit ratings downgrade of one notch in a common information spillover around the world. Upgrades, however, have no significant impact on return spreads of countries abroad. Closeness (e.g., geographic proximity) and emerging market status amplify the effect of a spillover. Downgrade spillover effects at the industry level are more pronounced in traded goods and small industries.

Understanding the determinants of sovereign debt ratings: Evidence for the two leading agencies

An analysis of the possible determinants of sovereign credit ratings assigned by the two leading credit rating agencies, Moody's and Standard and Poor's, is conducted in this paper by using linear, logistic, and exponential transformations of the rating scales. Of the large number of variables that can be used, the set of explanatory variables selected in this study is significant in explaining the credit ratings. Namely, six variables appear to be the most relevant to determining a country's credit rating: GDP per capita, external debt, level of economic development, default history, real growth rate, and inflation rate.

Sovereign Debt Ratings: A Judgmental Model Based on the Analytic Hierarchy Process

The major rating agencies assign quality rating to international security offerings. These ratings serve as indicators of perceived sovereign risk associated with such offerings. A review of the ratings process followed by the major rating agencies (in particular, the Standard & Poor's Corporation) reveals that ratings are assigned with considerable reliance on informal judgment. Informal judgmental systems, however, can induce serious inconsistencies in the relative importance assigned to criteria used in assigning rating and lead to biased ratings. This paper presents a formal judgmental model for assigning sovereign debt ratings that avoids the potential inconsistencies of informal systems. Model use is illustrated by relying on descriptions of the ratings process published by Standard and Poor’s Corporation. While the model proposed in this paper provides a framework for the rating agencies to ensure consistency in their ratings process, we suggest a complementary relationship between multivariate statistical classification models typically used to assess economic and political risk and the proposed model which assigns country risk ratings.