The changing face of ratings

Yu-Tsung Chang, head of Asia-Pacific ratings at Standard and Poor’s, talks about the role of rating agencies in Asia’s credit markets.
Yu-Tsung Chang, S&P
Yu-Tsung Chang, S&P

What does the market want from ratings?
A rating has always been an independent opinion about credit risk and the market expects ratings to perform effectively as a benchmark of credit risk. This means that ratings should be relatively stable, especially at higher levels. While most investors accept that ratings can and will change over a cycle, they don't expect sudden and dramatic changes. Second, people expect ratings to be broadly comparable across asset class, geography and time. Finally, ratings should be transparent, which means that the market should be able to understand the criteria and reason for a rating, and what might cause a rating to change. 

How close are we to seeing an international regulatory framework for credit ratings being established?
The G20, including many countries in Asia, has committed to a globally coordinated approach to registering and overseeing credit rating agencies in all major markets. This is important to market participants who want a consistent approach to regulation and ratings. If consistently applied, regulation will help strengthen market confidence in ratings. In practice, this is not easy to achieve given that regulation must be developed at the national level and in some cases, regulatory proposals in different countries do vary significantly. We have been meeting regularly with regulators and legislators around the world to discuss these differences and the practical implementation of the regulations so markets can function as smoothly as possible. It's important to note that rating agencies are already regulated in many countries and regions including the US, Europe, Australia, and soon in Japan. 

What role did the credit agencies play pre-crisis? How is this changing?
The fundamental role of credit rating agencies is unchanged. And that is to provide an independent opinion on creditworthiness. Recent events, however, have encouraged better understanding of ratings and a more appropriate use of them in the future. We've met with hundreds of stakeholders around the world to discuss the role of ratings and have also worked harder to provide greater transparency in our analysis. We have made many changes to our analytics, our governance and the information we provide to the market, drawing on lessons from the crisis.

Moving forward, ratings and ratings research will increasingly compete on their quality and value as analytical tools and not because investors feel mandated by regulation to use them. We have urged policymakers to revisit how ratings are used in regulation, to avoid the risk of investors using them for purposes they weren't designed for or to the exclusion of other analysis. We have never advocated regulatory use of independent ratings.

Can Asia stave off the ripple effects from Europe's ongoing sovereign credit problems?
In large part, Asian sovereigns are unlikely to be hard hit by the problems in Europe although financing costs could rise somewhat. Most governments in the region are much less indebted and are running smaller fiscal deficits than the European governments that are now in the spotlight. Importantly, thanks to higher savings rates here, most governments finance their borrowing needs locally. Even governments with large debt burdens (such as Japan and India) can count on steady domestic demand for their paper. This contrasts with the heavy reliance of some European governments on foreign funding.

Rating agencies were accused as one of the major causes of the global financial crisis & the reputability of the "issuer-pays" revenue model was brought into question. How has S&P responded to this? 
We have acknowledged that many of the assumptions we used in our analysis of recent US mortgage-related securities did not hold up, and that the performance of our ratings in this area has been disappointing. We regret that. However, it's important to note that the performance of the bulk of our ratings has been broadly in line with historic norms during this credit cycle. For instance, the long-term track record of our global corporate and government ratings (in terms of their correlation over time with defaults) remains strong.

We have been working hard to help restore market confidence in what we do, including a comprehensive series of actions focusing on quality, independence, transparency and accountability. We also understand concerns about the issuer-pays model. While there are potential conflicts, the key issue -- as various official reviews have concluded in recent months -- is how a credit rating agency takes steps to preserve its independence, which for Standard & Poor's is our core asset. And we believe that our rigorous policies protect the integrity of the ratings process. The issuer-pays model also enables us to make our ratings freely available to investors in real time, which in turn maximises the public scrutiny of our opinions.

You took over your role in 2007 amid the heat of the crisis. What were your observations of the organisation and the Asia markets then and how has this changed over the past three years? 
I took over my role at a challenging time in the financial markets. But it was also an important opportunity to help shape the future and the role of ratings moving forward, including the big changes that took place in 2008/2009 to improve our ratings transparency and quality which is helping restore confidence in ratings. It's also been an exciting time for the Asia-Pacific region, having become the economic growth engine of the world and an important and increasingly inter-connected regional player. 

S&P celebrates its 150th anniversary this year. It's interesting to see how our history closely parallels the history of modern financial markets. But I'm particularly excited about what the future holds as I believe that it will be rooted in the Asia-Pacific region.

On January 25, S&P released a negative outlook on Japan, which resulted in Asian stocks falling across the board in what was already a volatile market. Again, there were whispers that rating agencies have too much influence over market conditions. Do you have any comment on this and what is being done to educate investors and issuers? 
Credit ratings are one of many factors that influence market behaviour -- they are not the only one. It's important to understand that ratings, while they can and do change as our view of creditworthiness changes, are much more stable than market prices. In fact, evidence suggests that ratings over the long-term are a stabilising factor in the market.

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