Shadow boxing by ratings agencies takes a toll on the Indian stock market

What we are witnessing today is a classic case of shadow boxing by two international rating agencies which is causing an upheaval in the Indian stock markets. Is our government to remain a helpless spectator to the butchery of investors in a civilized world?

On 9 November 2011, Moody’s Investors Service revised its outlook for India’s banking system to ‘negative’ from ‘stable’, thereby downgrading our entire banking sector. Moody’s cited an increasingly challenging operating environment for Indian banks due to high inflation and rising interest rates that could adversely affect their quality of assets, capitalisation and profitability.  Banking stocks on both national bourses were hammered down on 10th November, after the downgrade. The Bank Nifty fell 2.64% while BSE Bankex declined 2.62% in a clear example of how rating agencies can create havoc in the capital markets.  

Earlier on 3  October 2011, Moody’s had downgraded State Bank of India’s (SBI) bank financial strength rating (BFSR) or that is the bank’s standalone rating from  ‘C-’ to ‘D+’ on account of SBI's  low tier–1 capital ratio and deteriorating asset quality. This downgrade by a notch indicated “modest intrinsic financial strength”, while ‘C’ had denoted “adequate intrinsic financial strength”—a subtle difference it would seem.  

However, on 10 November 2011, another international rating agency, Standard & Poor’s (S&P)  upgraded India's banking sector from group ‘6’ to group ‘5’citing “a high level of stable, core customers’ deposits, which limit dependence on external borrowings. It also noted that the Indian government is “highly supportive of the banking system”. It also revised India’s economic risk score from ‘6’ to ‘5’ and assigned an industry risk score of ‘5’. The assessment is on a 1-to-10 with ‘1’ signifying the lowest risk and ‘10’ the highest.  

The diametrically opposite stand on India’s banking industry by the two leading international rating agencies within a space of two days shows how subjective these ratings are and how little they can be relied upon by the public. Is this a game of one-upmanship or shadow boxing at the cost of a country’s reputation and credit-worthiness?    On 5 August 2011, S&P downgraded the long-term credit rating of the US from ‘AAA’ to ’AA+’ on concerns about the government’s budget deficits and rising debt burden. This singular statement by a credit rating agency plunged world markets into economic turmoil, and investors all over the world lost billions of dollars. This was the first time that the US lost its premium rating.  S&P was under severe pressure from the US government, which accused the rating agency of making a $2 trillion error in its calculations. S&P admitted the error but said that it did not affect its decision to downgrade US debt rating. In the wake of this unprecedented downgrade of US debt and the rating agency’s stubborn stand despite the error committed by them, the Securities Exchange Commission of US is considering sweeping changes to the rules designed to improve the quality of ratings after their poor performance in the financial turmoil caused by the sub-prime crisis recently.  

Here is another goof-up committed by the same rating agency that defies all logic.  On 11 November 2011, S&P committed a blunder by accidentally sending automatic messages to some of its subscribers that it had lowered France’s AAA (Triple A) sovereign rating. Fortunately, this mistake happened just after the Paris bourse had closed that saved the day for the French investors. Within two hours, the agency hurriedly put out a statement saying “Following a technical error, a message was automatically sent out to certain subscribers indicating that France’s rating had been changed. This is not the case—the rating of the French Republic is unchanged at AAA, together with a stable outlook…..”

The entire episode was in such a bad taste that the French finance minister has demanded that it be made clear what caused the error and what the consequences may have been. The European Union Internal Market Commissioner Michel Barnier has called for a more rigorous, strict and solid regulation for credit rating agencies.

All these credit rating agencies, despite all their reasoning, are also fallible. The fact remains that these rating agencies are also manned by human beings who can make not only mistakes, but also blunders in their assessment and cause such embarrassment to countries, that it is time to take a cogent view on their usefulness to the world economy in general and the affected countries in particular. Against this background, it is incumbent on the part of the Indian government to consider taking steps to pre-empt any possible downgrade of India’s sovereign debt rating this year. S&P’s India credit rating is presently ‘BBB-’, which is an investment grade. Though India’s growth story is said to be intact according to the finance minister, economic indicators do not appear to be in fine shape. Any downgrading even by a notch will result in pushing India into the speculative grade, resulting in disastrous consequences for the economy in general and the stock markets in particular. This is not to say that the rating agencies should be muzzled, rather, the government should start a dialogue with them to ensure that they do not err on the wrong side, while at the same time take steps to improve the country’s financials by managing the fiscal deficit within the tolerable limits, if not at the targeted levels.  

(The author is a banking and financial consultant. He writes for MoneyLife under the pen-name ‘Gurpur’)



Nagesh Kini FCA
1 decade ago
The MOF and RBI owe it to Indian citizens what steps are taken to pre-empt such faux pas, knowing what has happened to the US and French economies.
1 decade ago
Time for the RBI to come up with its favorite knee jerk action - yet another increase in the interest rates - a panacea for all that's wrong!
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