The Effect Of Credit Rating Categories On Analysts' Information Environment: Evidence From The Korean Market

Abstract

Credit ratings have been widely utilized for their ability to convey information to investors easily and quickly. Credit ratings agencies have prospered due to their superior positions in the information-gathering process in the business world. However, recent news about grade reversals, abrupt downgrades, and unanticipated bankruptcy suggests that the market value of credit ratings may have been overstated. Hence, in this study, we evaluate the legitimacy of the suggestion that credit rating categories may provide analysts with useful information.

In order to measure the variables in the information environment, we use analyst forecasts. Differences between forecasts in the various rating categories are found to be statistically significant. Furthermore, a comparative analysis of information intensity for ungraded firms with that of other firms demonstrates that overestimates of ungraded firms create problems of the same nature as those in the information environment of firms with speculative grades.

In the inter- and intra-category analyses, various factors determine the transparency of the information environment for firms of investment grade, including accruals quality, conservatism, the interest coverage ratio, and the proportion of intangible assets. However, for less credible firms, such as speculative or ungraded firms, these determinants do not function as expected. We find that the interest coverage ratio may be used to provide detailed differentiation between less credible firms. This paper introduces a new approach to credit rating categories and related strategies, emphasizing the importance of the ability to repay debt.