1. Crisis – Spotlight on Credit Score Agencies
“Credit-rating agencies use what they can control of knowledge to fool investors into believing that the pig is really a cow along with a rotten egg is really a roasted chicken. Collusion and misrepresentation aren’t aspects of a genuinely free market ” – US Congressman Gary Ackerman
The graceful functioning of worldwide markets depends, partly, upon reliable assessments of investment risks, and Credit Score Agencies play a substantial role in boosting investor confidence in individuals markets.
The above mentioned rhetoric, although harsh, beckons us to concentrate our lens around the functioning of credit score agencies. Recent debacles, as enunciated below, allow it to be even more vital that you scrutinize the claim of Credit Score Agencies as fair assessors.
i) Sub-Prime Crisis: Within the recent sub-prime crisis, Credit Score Agencies came under growing fire for his or her covert collusion in favorably rating junk CDOs within the sub-prime mortgage business, an emergency that is presently getting world-wide implications. To provide some background, loan originators were responsible for packaging sub-prime mortgages as securitizations, and marketing them as collateralized debt obligations around the secondary mortgage market. The companies unsuccessful within their duty to warn the financial realm of this malpractice via a fair and transparent assessment. Shockingly, they gave favorable ratings towards the CDOs for reasons that should be examined.
ii) Enron and WorldCom: These businesses were rated investment grade by Moody’s and Standard & Poor’s 72 hours before they went bankrupt. Credit Score Agencies were purported to have favorably rated dangerous products, and sometimes put these dangerous products together for any fat fee.
There might be other over-rated Enron’s and WorldCom’s waiting to visit bust. The companies have to be reformed, to allow them pin-point such cancer well-in-advance, therefore growing peace of mind in the markets.
2. Credit Scores and Credit Score Agencies
i) Credit score: is really a structured methodology to position the creditworthiness of, generally speaking, a business, or perhaps a credit commitment (e.g. an item), or perhaps a debt or debt-like security as also of the Issuer of the obligation.
ii) Credit Score Agency (CRA): is definitely an institution, focused on the task of rating the above mentioned. Ratings by Credit Score Agencies aren’t recommendations to sell or buy any security, but simply an indication.
Ratings can further be split into
i) Solicited Rating: in which the rating is dependant on a request, say of the bank or company, and that also participates within the rating process.
ii) Unrequested Rating: where rating agencies claim that they can rate a company within the public interest.