Saturday, August 10, 2013

Competitive Pressures And Not Issuer Shopping For Favorable Credit Ratings Led Credit Rating Agencies To Assign Lower Default Ratings To CDOs

According to the following study, competiton by credit rating companies for rating business and not issuer rate shopping led to credit ratings of lower default risk for collateralized debt securities (mortgage backed secutities).

From The Review of Financial Studies (gated unfortunately), "Rating Shopping or Catering? An Examination of the Response to Competitive Pressure for CDO Credit Ratings" by
Although investors paid a premium for dual ratings, AAA CDO tranches rated by both Moody's and S&P defaulted more frequently than tranches rated by only one of them, which is inconsistent with pure rating shopping. Rating agencies made upward adjustments beyond their model when their competitor had more lenient assumptions.

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