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Don founded Kamakura Corporation in April 1990 and currently serves as its chairman and chief executive officer where he focuses on enterprise wide risk management and modern credit risk technology. His primary financial consulting and research interests involve the practical application of leading edge financial theory to solve critical financial risk management problems. Don was elected to the 50 member RISK Magazine Hall of Fame in 2002 for his work at Kamakura. Read More

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Nov 13

Written by: Donald van Deventer
11/13/2009 2:47 AM 

A new feature on the Kamakura Risk Information Services public firm default probability service compares actual and “implied” credit ratings for more than 1953 rated public firms around the world. KRIS also has implied ratings for the 25,050 firms on KRIS without traditional agency ratings. This blog explains how to use this new tool for more accurate assessment of the risk of public firms around the world.

Our March 20, 2009 blog discussed the meaning and derivation of the “implied ratings” displayed on the KRIS default probability service.  The “implied rating” is an estimate of what rating a firm would get today if the rating agencies (a) behaved as they have on average since 1995 and (b) were not biased by what the actual rating on a company is today. The implied rating is calculated by ordinal logistic regression by Kamakura risk information services using the current default probabilities for the company along with more than 30 other company attributes like company size, location, financial ratios and stock market returns.

The Kamakura implied ratings brochure has more details on how implied ratings are calculated:

http://www.kamakuraco.com/Portals/0/Brochures/Brochures%20March%202009/KRIS%20Brochure%20-%20Implied%20Credit%20Ratings.pdf

We can use this new feature to identify companies where the gaps are widest between the current agency rating and the KRIS “implied rating” that immediately reflects current default probabilities and company attributes.

This chart shows the companies around the world who are most “over-rated,” meaning a current debt rating that is much better (indicative of lower credit risk) than the implied rating.  The amount of over-rating is measured by “ratings notches,” the number of ratings grades by which the rating is different.  A BBB+ rating is two notches, for example, better than a BBB- rating.


In this chart, for example, Abbey National PLC is currently rated AA, which is 8 full ratings notches above the BB+ rating that the implied ratings process would predict.  This chart includes the 1,953 companies out of almost 27,000 companies on KRIS that have third party ratings.  All of the 27,000 companies, however, have implied ratings.

The next chart shows the most over-rated companies in the United States:


The chart shows that Automated Data Processing, with a current rating of AAA, is a full 5 notches better than the A rating that emerges from the implied ratings process.

When we look at Japan, we can make a similar listing of the most over-rated companies in that country:


The chart shows that both Tokyo Gas and Osaka Gas, with AA ratings, are 6 notches over-rated relative to the implied ratings for both firms of BBB.

This comparison of implied ratings with actual ratings uses the traditional “ratings way of thinking” to supplement a more modern approach where default probabilities are assigned daily with explicit maturities for the 27,000 firms in 30 countries covered by the KRIS default probability service.

Comments, questions and suggestions are always welcome at info@kamakuraco.com.

Donald R. van Deventer
Kamakura Corporation
November 13, 2009

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