When I was an intern this summer at Hess Corporation, I was a part of their Credit Risk team. I was tasked daily with updating our company’s systems whenever one of our company’s ratings were changed. I remember once I had to downgrade a major financial firm in our databases 3 pegs, from an A1 to Baa1, all because one rating agency felt that their second quarter numbers were very lacking and showed no signs of changing. I was like, “Man, this company is one of the biggest players on Wall Street, and this one agency had the power to downgrade them that much, WOW!” I was astounded by the power these rating agencies had one the system. I remember that day exactly because I had to change, in ALL OUR SYSTEMS, 15 major financial firms, 5 of which dropped 3 scores completely. My boss couldn’t believe when I showed him that we could only give them $500,000 after giving them over $1,000,000 for the past 10 years. He said, “Holy sh*t! Who can we really trade with these day?!”
So, who are these credit rating agencies and why do they have so much power over companies? First off, a credit rating agency is a company that assigns credit ratings to corporations that issue certain types of debt obligations. Their ratings, therefore, determine how fast these companies can pay back the debt that they issued based on that agencies rating scale. In America, when you are discussing rating agencies, you have to discuss the Big Three; Moody’s, Standard and Poor’s (S&P), and Fitch Group. These three companies alone, combine hold 95% of the market when determining their credit scores. The problem with this reliance on these three is, like with 2008 credit crisis, there is little competition over rating. So why is that a problem? Well, when you have more agencies researching the same companies, you get a clearer idea on how to rate them. In 2008, people believed these three agencies weren’t enough to address the highly toxic environment that was our banking system. Since then, the rating processes has been reexamined and improved upon to find a more clear and transparent criteria to judge risk with corporations that provide mortgaged-backed securities. They have begun, as I mentioned in my first hand experience above, to aggressively downgrade large amounts of these mortgaged-backed debts. They have also been improving on their internal issues; mainly more internal monitoring programs and third party reviews. These agencies have a major power in our economic structure, but it has been since 2008, when we truly recognized the power they have on Wall Street.