CFA Institute Journal Review summarizes "The Intraday Timing of Rating Changes," by Pepa Kraft, Yuan Xie, and Ling Zhou, published in the Journal of Corporate Finance, February 2020.
When Standard & Poor’s (S&P) communicates rating changes after trading hours, the changes are more likely to be downgrades and carry additional consequences. They also tend to be associated with more negative stock price returns and lower trading volume than downgrades announced during trading hours. This suggests that S&P’s announcement pattern is consistent with better dissemination of information rather than catering to credit issuers.
What Is the Investment Issue?
Credit rating agencies, such as Standard & Poor’s (S&P), Moody’s, and Fitch Ratings, are highly influential, and their rating change announcements have significant consequences. Because ratings are important factors in regulations and contracts—such as debt contracts and asset managers’ compliance with portfolio investment guidelines—users need additional time to process the full implication of a rating change. The decision of when to release intraday rating changes might affect security prices in several situations.
Rating changes released after business hours provide longer evaluation periods for investors. And any associated information could be more effectively factored into stock prices because after-hours trading is largely the domain of large institutional investors rather than uninformed “noise” traders. For better dissemination of information, rating agencies could release more downgrades after hours than upgrades, given that downgrades carry more consequences.
Because issuer-paid credit ratings are paid for by issuers, rating agencies might try to benefit key credit-issuer clients by timing downgrades so that they are released during periods when investor attention is thought to be lower.
The authors of the paper look at the timing of rating changes in an intraday context to better understand their market effects and the possible motivations behind rating agencies’ timing choices.
How Did the Authors Conduct This Research?
The authors use S&P announcements on rating changes for US issuers between 1995 and 2012. Ratings are given numerical values, and the intraday announcements are categorized according to when they were issued: before the market open, during trading hours, or after the market close. The sample includes 9,028 rating changes for 2,644 issuers.
To determine the relationship between rating changes and intraday timing of announcements, the authors conduct both univariate and multivariate analysis to control for other factors that may affect intraday timing (e.g., firm credit characteristics and the number of concurrent rating announcements).
The authors also control for the potential differing treatment of financial versus nonfinancial firms, as well as for firms not on any rating watch list at the time of the rating change.
The announcement times of rating changes by Egan-Jones Ratings Company (EJR), an investor-paid rating agency, are also examined to see if that firm follows the same pattern as S&P, to gauge whether intraday timing differs between issuer-paid and investor-paid rating downgrades.
What Are the Findings and Implications for Investors and Investment Professionals?
Rating changes by S&P are found to be announced primarily during trading hours, and those that occur after trading hours are most often downgrades. The authors find that the market reacts more intensely to S&P downgrades that occur after trading hours than to downgrades announced before the market close.
Downgrades are more likely to be announced after hours on busy days with numerous concurrent rating changes occurring during trading hours. This is consistent with agencies choosing to time downgrade announcements to better disseminate information rather than to hide potentially damaging news in low-attention periods. As further evidence of credit rating agencies’ efforts to more efficiently distribute information, rather than cater to issuers, investor-paid credit rating agency EJR was likewise found to announce a higher proportion of downgrades after hours.
S&P also tends to issue downgrades after hours when the rating change involves more information, such as downgrades for financial institutions and for firms not currently on ratings watch.
These findings, as the authors note, highlight how well capital markets absorb news. One insight is the EU’s proposal to require that rating change announcements occur after hours. The authors ultimately show that the intraday timing of rating change announcements substantially influences markets and that investors would do well to more closely monitor rating changes after hours.