TAILIEUCHUNG - The Quality of Corporate Credit Rating: an Empirical Investigation

In Japan, credit ratings issued by Designated Rating Agencies (DRA) are used to estimate market risks and counterparty risks for the purpose of calculating the capital adequacy ratios for securities companies. 12 Japan also noted that for calculating the capital adequacy ratios for banks and other deposit-taking institutions, credit ratings issued by ECAIs are used subject to the Financial Services Agency (JFSA) ordinance under the Banking Act. In the United States, which features the most widespread use of credit ratings in LRSPs that establish capital requirements in the securities and banking sectors, the use of credit ratings for capital purposes is. | The Quality of Corporate Credit Rating an Empirical Investigation Koresh Galil Berglas School of Economics Tel-Aviv University Center for Financial Studies Goethe University of Frankfurt October 2003 Abstract The quality of external credit ratings has scarcely been examined. The common thesis is that the rating firms need for reputation and competitiveness in the rating industry force rating agencies to provide ratings that are efficient with respect to the information available at the time of rating. However there are several reasons for doubting this thesis. In this paper I use survival analysis to test the quality of S P corporate credit ratings in the years 1983-1993. Using sample data from 2631 bonds of which 238 defaulted by 2000 I provide evidence that ratings could be improved by using publicly available information and that some categorizations of ratings were not informative. The results also suggest that ratings as outlined in S P methodology were not fully adjusted to business cycles. The methodological contribution of this paper is the introduction of proportional hazard models as the appropriate framework for parameterizing the inherent ratings information. Keywords Credit Risk Credit Rating Corporate Bonds Survival Analysis JEL classification G10 G12 G14 G20 Eitan Berglas School of Economics Tel-Aviv University Ramat-Aviv Tel-Aviv Israel. koresh@ . This paper is part of my PhD dissertation under the supervision of Oved Yosha and Simon Benninga. I would like to thank Hans Hvide Thore Johnsen Eugene Kandel Jan Peter Krahnen Nadia Linciano Yona Rubinstein Oded Sarig Avi Wohl Yaron Yechezkel and seminar participants at Tel-Aviv University Goethe University of Frankfurt Norwegian School of Economics and Business Administration CREDIT 2002 ASSET 2002 and EFMA 2003 for their helpful comments. My thanks also go to the board of the capital division of the Federal Reserve for providing a database on corporate bonds. Considerable part of this .

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