Credit rating culture

Credit ratings are commonly observed, discussed and used by investors, even do-it-yourself retail investors. They are part of mass media communications on a daily basis, and are an increasingly important issue in bank-customer relations, even when small and medium size firms are concerned, as banks have started to assign “internal ratings” to almost all types of borrowers. Credit ratings are a key issue in trials triggered by single investors, class actions or public prosecutors, in case of default by the borrowers or, in some cases, of the sole downgrading of the borrower. A credit rating culture is essential for at least three reasons: firstly, financial markets attract an increasingly amount of investors with different financial literacy levels. Secondly, depositors face a higher bank default risk due to the bail-in requirements of new bank resolution regulations and lastly, bank borrowers realize that the amount and price of bank lending depend on their credit ratings. I present a recent inquiry on rating culture involving banks branch officers, professionals and managers of a sample of banks. It confirms that the misleading messages of mass media are prevailing even among financial industry operators. At a broader level, with regard to Masters’ students, many are surprised by the simple acknowledgment that for a given borrower a large set of different and non-aligned ratings can be available at the same time, while definitely obscure is the relation among “implied ratings” (those derived from prices and interest rates in the bond, equity and credit derivatives markets), “external ratings” (those issued by the dozens of credit ratings agencies), and “internal ratings” (those assigned by individual banks, using proprietary data, models and processes). In general, it is rare to find an adequate knowledge of the true and critical basic concepts behind credit ratings, as well as an adequate minimum knowledge of the key processes of rating assignment, quantification, and validation.