Fayval Williams, Guest Commentator
fayvalw@gmail.com
Credit rating agencies have become an integral part of modern capital markets. The United States has produced three major world players: Moody's, Standard & Poor's (S&P) and Fitch Ratings.
India has the regional giant CRISIL, which is part-owned by S&P. Asia has an Association of Credit Rating Agency in Asia (ACRAA) that was organised in 2001 by 15 Asian credit rating agencies from 13 countries.
By 2007, membership had increased to 25 members from 14 countries.
In Latin America, Pacific Credit Rating (PCR) has been operating since 1993 through its subsidiaries in Bolivia, Costa Rica, Ecuador, El Salvador, Panama and Peru. It is also currently expanding to other countries of Latin America.
In 2004, the Caribbean joined the rest of the world and launched the Caribbean Information and Credit Rating Services Limited (CariCRIS), a regional credit rating agency. The launch happened with much enthusiasm and anticipation of the possibilities for accelerating the region's capital markets. Jamaica was seen as an important torch bearer. Yet, approximately four years later, a vibrant market for corporate credit ratings is noticeably absent in Jamaica.
For background, the shareholders of CariCRIS include the central banks of Barbados, the Organisation of Eastern Caribbean States, and Trinidad and Tobago; the Caribbean Development Bank; several financial institutions from across the Caribbean; and CRISIL.
CariCRIS' mission is to foster and support the development of regional debt markets in the Caribbean. Its ratings provide a regionally relevant risk assessment of entities and the debt that they issue within a wider context of an analysis of economic trends and financial developments.
The rating agency's geographic reach spans 19 countries - including The Bahamas, Barbados, Belize, Costa Rica, The Dominican Republic, Guyana, Haiti, Jamaica, Panama, Suriname, Trinidad & Tobago and a number of OECS countries.
Ratings not widespread
CariCRIS has rated 20 entities over the last three years across the Caribbean. Yet, corporate ratings for Jamaican corporations are not widespread, thus limiting the chance of developing a vibrant secondary market for corporate bonds.
Typically, a credit rating indicates to a lender or investor the probability of the company being able to pay back a loan. A poor credit rating indicates a high risk of defaulting on a loan, and thus leads to high interest rates, or the refusal of a loan by the creditor.
A strong credit rating indicates the opposite, that is, low risk of defaulting on a loan. A sovereign credit rating indicates the risk level of the investing environment of a country and is used by investors looking to invest abroad. It takes political risk into account.
Research has found that credit ratings generally increase the efficiency of the market, and lower costs for both borrowers and lenders. This, in turn, increases the total supply of risk capital in the economy, leading to stronger growth. It also opens the capital markets to categories of borrowers who might otherwise be shut out altogether, such as start-up companies.
Just an idea
In Jamaica, banks are the primary source of loans to corporations, utilising their own proprietary credit rating system. To date, the idea of a vibrant secondary market for corporate debt remains just that, an idea.
Market acceptance and recognition of a credit rating depends on the credibility of the opinions of the credit rating agency issuing the credit rating, not only with issuers and investors, but also with bankers, financial intermediaries and securities traders.
According to the Central Bank of Trinidad and Tobago, "credit rating agencies have been a part of the infrastructure of the financial market of developed countries for several decades. One of the fundamental problems that financial markets must overcome is the presence of asymmetric information between savers and investors in real assets - essentially between the provider of funds and the user of these funds. In the case of commercial bank loans, for instance, the banks bridge this information asymmetry; the banks in effect protect our deposits by assessing the creditworthiness of those to whom they lend. In the case of financial markets, the investor is more exposed; he does not have similar protection and he needs to rely on his own judgment or that of information vendors. Credit rating agencies are one of a range of information vendors available to investors."
The central bank also noted that in the Caribbean the names of the three global rating agencies (Standard and Poor's, Moody's and Fitch) are fairly well known. It then asked a pointed question. Why is there a need for CariCRIS?
By its own observation, the Central Bank concluded that "the simple answer is that currently the coverage of firms by these global agencies, particularly for non sovereigns, is very thin. Moreover, most of these ratings are for foreign currency borrowings calibrated on a global frame of reference. On this basis, the ratings of countries and corporations across the Caribbean tend to be pegged at the bottom end of the rating scale, when compared with stronger and larger economies and global corporations. For most Caribbean investors, the relevant frame of reference may be limited to a country or the Caribbean region. For the Caribbean investor, what would be useful is a benchmark of how credits compare with one another, either within the Caribbean or within a particular country. CariCRIS, our regional credit rating agency, is ideally positioned to serve this end."
Going forward, Trinidad's central bank sees a catalyst for the use of credit ratings in the adoption of Basel II whose committee on bank supervision has proposed the use of credit ratings to differentiate credit risk for the purpose of capital adequacy guidelines.
Under this regime, a change in the rating of a bond could impact on the regulatory threshold and trigger increased capital requirements for the financial institutions concerned. This is already happening in the mature markets. It's just a matter of time before it is adopted by jurisdictions in the Caribbean.
Fayval Williams is a partner in Williams & Associates Investment Limited, which provides consulting services to CariCRIS.
Taken from the Financial Gleaner, Friday June 27, 2008.
