Define The Rating Challenge

The Rating Challenge

Borrowers, be it an individual or a corporate entity are rated for their creditworthiness. And why not, the banks themselves are now entering the capital market to raise funds. It has become all the more important in the context of the new code of greater transparency and prudential norms. While ratings act as a guide to the average investor, it also enhances the credibility of the rated organizations.

Presently, credit rating is mandatory in India for debt instruments with conversion/redemption exceeding 18 months for fixed deposit programmes of all non- banking finance companies. It is optional for PSU bonds and privately placed non convertible debentures.

Are the Indian rating agencies able to meet evaluation standards and eliminate influence of vested interests? For this, it is imperative that they are independent. In the Indian case, the existing three rating agencies, viz CRISIL, ICRA, and CARE are promoted by financial institutions. They may well serve as in-house rating agents to assess credit risk of their customers. But what would be the yardsticks and whether they would remain impartial when their promoters themselves would be the clients? We may think of other independent rating agencies in the field but there is every likelihood that industrial groups may start their own rating agencies, on the patterns of their own financial agencies. In such an eventuality, there is every danger of such agencies becoming an in-house sort of entity thereby compromising on objectivity in rating standards.

Multiple agencies may increase competition in rating but ir may also land up in indifferent rating standards and there is also the risk of succumbing to pressures for attracting business. There have been criticisms of Indian credit rating agencies. First, that they assign ratings which are not comparable against international standards, Secondly the rating symbols they assign are internally inconsistent, and thirdly agencies are not kept at arm’s length from their sponsors.

Conclusion

The primary benefit of credit rating has been to enable the investor to identify the risks associated with various debt obligations. The other benefits include decreasing the potential conflict between the underwriters and the investors, providing greater liquidity in secondary markets, encouraging increased disclosure on the part of the companies, better accounting standards and improved financial information for the promotion of individual and institutional investor protection.

With the eruption of new financial instruments and the realization on the part of the investor of the invaluable service that credit rating agencies provide, credit rating is bound to find its niche in the investment decision making process and act as a positive step in the direction of increasing investor protection. Thus credit rating has firmly docked itself on the shores of the Indian capital market. The Credit rating agencies have ample opportunities to play a unique role in strengthening the capital market and building investor’s confidence in the Indian Financial System.