Joint Default Analysis: A Natural Experiment on the Influence of Rating Agencies



In 2007 Moody’s attempted to update its methodology (Joint Default Analysis, JDA) used to construct raying for the bonds of European banks. Default probabilities were mainly reassessed in the light of the potential for government support should the banks approach default conditions. As virtually no relevant information was simultaneously dissipated to the markets, this methodological update provides a natural experiment to judge the influence of the rating agencies on market expectations, which we test by analyzing the bank’s bonds. We find that while there was a significant initial reaction, we also see a belated correction bringing prices back to approximately their original levels. The latter is in line with documentary evidence that the changed methodology was not well received by various participants, and was substantially amended by the rating agency later on. Our conclusion is that rating agencies have significant influence on prices, but that this influence can be temporary if market participants upon reflection disagree with the rating agency’s re-assesment.
Contact information:
Sebastian Gryglewicz
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