Rating agencies are powerful market forces, for better or for worse

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Overdependence on credit rating agencies has resulted in ‘financial market turmoil’, says BoC

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You may not know much about credit rating agencies, but the decisions these institutions make have a direct impact on your investments.

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Credit rating agencies are companies that assess and rate the debt securities of major issuers of debt securities, such as governments, corporations and special trusts.

These agencies were first established in the United States in the early 1900s to issue ratings on bonds.

Since bonds are a collection of debts, their risk levels can vary widely. Rating agencies assess the likelihood that borrowers will default on these loans and then assign that credit a rating, usually on a scale of “AAA” to “D”.

Agencies also rate a country’s overall credit rating based on its overall fiscal health, which can impact its ability to access international bond funds as well as foreign direct investment.

As with your personal credit score, country credit scores help lenders determine the likelihood that the borrower will be able to repay the loan. These ratings reflect a country’s national debt level, its growth prospects, the types of debt it carries, and investor confidence in the country.

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Credit Rating Agencies in Canada

The major rating agencies in Canada are DBRS Limited, S&P Global Ratings Canada, Moody’s Canada Inc. and Fitch Ratings, Inc. Each has been recognized as a designated rating agency under Canadian securities laws.

Canada held a triple A rating for years until Fitch Ratings downgraded it to “AA +” in June 2020, a move it explained due to the country’s deteriorating public finances, increasing public spending and increasing debt ratios.

However, Moody’s, S&P and DBRS maintained their highest rating for the country throughout the pandemic.

The role of agencies in the 2008 financial crisis

In a 2011 survey of chartered financial analysts reported by the Globe and Mail 71 percent of those polled said that credit rating agencies played a major role in the 2008 financial crisis.

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The major rating agencies faced the heat of their role in the credit crunch, assigning high ratings to financial products based on US mortgages that presented a high risk of default. And when those subprime mortgages defaulted, debt markets around the world were ravaged.

the World The survey showed that most respondents were in favor of greater oversight of credit rating agencies and their obligation to provide greater disclosure.

In one report published in 2008 by the Bank of Canada, the federal agency acknowledged that over-reliance on credit ratings from rating agencies was causing “continuing turmoil in financial markets.”

Going forward, the Bank and the government said these ratings would not be “given undue weight as summary risk statistics”. He also noted that credit ratings would continue to be just one of the many tools the Bank uses to manage credit risk.

In other words, because they did not warn investors of the difficulties in the US mortgage market, the credit rating agencies no longer have the same authority as they once did. And in the future, they are unlikely to enjoy the same level of authority again.

This article provides information only and should not be construed as advice. It is provided without warranty of any kind.

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