The Conservative Issuer Bias of Corporate Ratings

45 Pages Posted: 4 May 2014

See all articles by Mohammad Nazmul Hasan

Mohammad Nazmul Hasan

Office of the Comptroller of the Currency - Risk Analysis Division

Nikunj Kapadia

University of Massachusetts Amherst - Department of Finance

Akhtar R. Siddique

Government of the United States of America - Risk Analysis Division

Date Written: December 1, 2013

Abstract

In contrast to existing literature that relates positive issuer bias in ratings to a conflict of interest, we document a bias in corporate ratings resulting from a conservative rating policy that accounts for the asymmetric impact of a rating downgrade on firms’ access to capital. Specifically, using Moody’s issuer ratings over 1982-2009, firms with greater external financing constraints are less likely to be downgraded. Economically, external financing constraints are more important than the default risk of the firm in determining the outcome of a rating review. Severely constrained firms whose ratings are affirmed or upgraded have long-term positive excess equity returns.

Keywords: Credit ratings, issuer bias, default risk, financing constraints

JEL Classification: G10, G24, G32

Suggested Citation

Hasan, Mohammad Nazmul and Kapadia, Nikunj and Siddique, Akhtar R., The Conservative Issuer Bias of Corporate Ratings (December 1, 2013). Available at SSRN: https://ssrn.com/abstract=2431273 or http://dx.doi.org/10.2139/ssrn.2431273

Mohammad Nazmul Hasan (Contact Author)

Office of the Comptroller of the Currency - Risk Analysis Division ( email )

400 7th Street, SW
Mail Stop 63-3
Washington, DC 20219-0001
United States

Nikunj Kapadia

University of Massachusetts Amherst - Department of Finance ( email )

Amherst, MA 01003
United States
413-545-5643 (Phone)
413-545-5600 (Fax)

HOME PAGE: http://www-unix.oit.umass.edu/~nkapadia/

Akhtar R. Siddique

Government of the United States of America - Risk Analysis Division ( email )

400 7th Ave
Washington, DC 20219
United States
202-649-5526 (Phone)

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