Thursday, October 12, 2017

IOSCO provides insight into non-traditional products offered by credit rating agencies

By John Filar Atwood

The International Organization of Securities Commissions (IOSCO) has published a report on the non-traditional products offered by credit rating agencies (CRAs) that was begun after a 2015 inquiry into possible revisions to the CRA code of conduct. During that consultation, IOSCO received numerous questions about CRA products and was convinced that it should prepare a report to provide a better understanding of other CRA services.

The report covers non-traditional products such as private ratings, confidential ratings, expected ratings, indicative ratings, provisional ratings, preliminary ratings, one-time ratings, regional ratings, national ratings, and point-in-time ratings. It also covers scoring, credit default swap spreads, bond indexes, portfolio assessment tools, credit assessments, fund ratings, data feeds, and research, IOSCO said in a news release.

IOSCO noted that although other CRA products (OCPs) and services are distinct from commonly identified issuer-paid or subscriber-paid traditional credit ratings, they may be used by market participants to make investment and other credit-related decisions. They can also be used by issuers and obligors to make decisions about whether to obtain a traditional credit rating from a particular CRA.

The report describes six groups of OCPs and their current status, as well as business practices and trends within the CRA industry. IOSCO concludes that OCPs should be responsive to the spirit of the four high-level objectives set forth in the Principles Regarding the Activities of Credit Rating Agencies. The principles relate to the quality and integrity of the rating process, independence and conflicts of interest, transparency and timeliness of ratings disclosure, and confidential information.

The report observes that some OCPs share similar processes and features as traditional credit ratings. CRAs develop a number of OCP using the same credit rating analysts who determine traditional credit ratings, and CRAs may also apply methodologies and follow similar rating processes to determine OCPs.

OCPs may be subject to similar regulatory- and compliance-driven policies and procedures as traditional credit ratings, the report notes, and may be expressed by CRAs and identified by the market using similar symbols, scales, and definitions as traditional credit ratings. The OCPs may or may not be described by CRAs as a type of credit rating, and CRAs whose activities are subject to the oversight of regulatory or other government authorities may not treat them as credit ratings subject to the same regulatory oversight as traditional credit ratings.

The report also concludes that CRAs tend to create separate structures or business line organizations. Some CRAs have organized themselves according to a bifurcated legal and/or corporate structure, while others separate all the activities that are subject to regulation, including traditional credit ratings, into regulated entities or business units. The report states that the legal and/or corporate organizational structures chosen by CRAs to engage in an activity or offer a service or product are not indicative of whether they are subject to the code of conduct.

The report notes that common features can be identified among OCPs, which can be categorized into six primary groups. Like traditional credit ratings, OCPs may be used by market participants as part of the process of assessing the creditworthiness of an entity or obligation, while some OCPs may be used by market participants as part of their internal risk assessment analysis.

However, some OCPs differ from traditional credit ratings, according to the report, in that they may emphasize only one aspect of a traditional credit rating. For example, OCPs may focus only on quantitative analysis or qualitative considerations, as compared with a traditional credit rating, which is typically understood to reflect both quantitative and qualitative analysis.

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