By Stephanie Jacob
The Big Three credit rating agencies – Fitch, Moody’s and S&P – can be extremely quick in condemning a country sovereign ratings the minute there are concerns over its financial health. But with a trail of questionable ratings and investment advice in the past, how much credence should they be actually given?
On Jan 20, 2015, Fitch rating maintained its negative outlook on Malaysia’s sovereign rating. It said its negative outlook indicates that Fitch is more likely than not to downgrade the rating of the sovereign.
Fitch said their issue was “the lack of convincing fiscal reform and over-dependence of the government on oil revenue”.
But just over a week later, Moody’s Investors Service affirmed the government’s bond and issuer ratings of the Malaysian government at A3 and said the country’s outlook remained positive.
Moody’s statement said “continued fiscal consolidation, underpinned by relatively strong economic growth and favourable funding conditions for the government, potentially supports a higher rating level”.
It noted the concern of whether Malaysia could “maintain strengths in its external payments position, given sharply lower commodity prices, rising external debt, and possible global credit market volatility once the US Federal Reserve begins normalising interest rates”.
But it concluded that “Malaysia is likely to sustain a structural current account surplus, and that foreign currency reserve adequacy will remain”.
If you are confused, you are not alone.
What is interesting is that every day investors all over the world depend on what these two, along with Standard & Poor’s Rating Agency (S&P), say when making their investment decisions. It is worth emphasising the substantial clout these so-called Big Three rating agencies have in the global financial markets.
Around the world investment guidelines, banking rules and securities regulations dictate that these credit ratings must be taken into consideration before an investment can be made. The majority turn to these Big Three agencies. The question is, should they?
2008 Financial crisis
Conflicting and confusing outlooks aside, are these rating agencies trustworthy enough to be depended upon to come up with holistic and unbiased outlooks for countries and companies all over the world?
If one were to cast their mind back several years ago to the subprime crisis in the US and the Global Financial Crisis (GFC) in 2008, the answer to that questions would be “no”.
For example, consider that at the time of the GFC crisis both Fannie Mae and Freddie Mac had AAA bond ratings. Ask any of the investors who got burned when the two crashed and they are unlikely to lend much credence to any of the Big Three agencies.
And in case you think it was a one-off, they also had a favourable rating on Lehman Brothers. In fact in 2001, they gave Enron an investment grade rating just a short time before it filed for bankruptcy. Critics say that the core issue is that the three are paid by the same people they are rating.
More recently, questions were raised over the decision by the agencies to issue a negative outlook or downgrade Russia’s sovereign rating as a result of economic sanctions stemming from its conflict with Ukraine and in view of falling oil prices. But critics suggested that such actions were premature or even unfair, and were possibly politically influenced given that all the three big agencies are American companies.
In fact a China-based rating agency, Dagong Global Credit, called Russia’s problems “short term” and that there was no reason to downgrade it as its fundamentals remained strong.
The numerous questions on the accuracy and fairness of ratings from the Big Three are concerning, not in the least because of the effect it can have on companies and even countries. The effect of downgrades on Greece significantly accelerated and increased the crisis there.
Here at home, the importance the government places on the rating agencies has been seen in the past, primarily at how quickly any threats of a downgrade is addressed – including fast tracking fiscal consolidation plans. Some even say that Fitch’s warning in January was the push the government needed to release a revised budget.
To be fair, much of what the rating agencies advocate for are important to developing strong economies. Things like fiscal consolidation, managing government debt and the danger of over-dependence on commodities are key factors for a county’s financial health.
But based on the examples provided throughout this article, it is clear that rating agencies also need to clean up their act. Given the significant amount of clout they hold throughout the global financial markets, the Big Three and indeed all ratings agencies need to start holding themselves to the same high standards they hold everyone else to.
GRRRRR!!!
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