Lack of market response to Standard & Poor's downgrades raises questions

AFP, Sunday 22 Jan 2012

Europe's financial markets take the downgrade of nine countries in their stride, suggesting rating agencies are losing their influence

European markets performed well despite recent downgrades (Photo: Reuters)

Financial markets that waited a month for eurozone sovereign debt downgrades quickly ignored the news from Standard & Poor's once it came, raising the question of just how pertinent international ratings agencies are.

Aside from a couple of jittery hours on Friday the 13th, investors took the downgrades of nine eurozone countries in their stride, and most of those concerned did not appear to have suffered much, if at all, from the development.
Stock markets in London and Frankfurt posted four straight sessions of gains before giving up a bit of ground on Friday as investors locked in gains ahead of the weekend.
On government bond markets, Spain and Italy found that the rates they had to offer to borrow money had stabilised and declined respectively, even though both suffered two-notch S&P downgrades.
In fact, all of the downgraded countries that sought to borrow money last week were able to do so at better rates than before the hatchet fell.
"The markets donned their rose-coloured glasses," remarked Fabrice Coustie, managing director of the online brokerage CMC Markets France.
"It was generally expected," agreed Philippe Brossard, chief economist at at AG2R La Mondiale, in reference to the downgrades, and "it did not change anything fundamentally."
The S&P decision came "in a very troubled context in which everyone was already downgraded in fact," Coustie said.
The event was also sandwiched between an exceptional European Central Bank loan of funds for three years, which occurred in late December, and an announcement by the International Monetary Fund last week that it would raise an additional 500 billion dollars to ensure the eurozone debt crisis did not scupper the global economy.
"The IMF is more credible than any European structure" created to provide financial support to sovereign states such as the temporary rescue fund EFSF or the future European Stability Mechanism (ESM), Coustie noted.
Context and anticipation thus appear to have weighed heavily in advance against the sovereigns, making it hard to say whether international ratings agencies have lost a lot of their influence.
"They have relatively little impact on sovereign debt assessments because we have a pretty good idea of our own regarding the countries' financial situation," said Gunther Capelle-Blancard, deputy director of the Paris-based economic institute CEPII.
"We knew that Germany offers more guarantees than France, which in turn offers more than Italy," Capelle-Blancard said.
Brossard noted that "the only country that really suffered [from the S&P downgrades] was Portugal, which fell below BBB-" or into speculative grade territory.
"That might spark an exit by some investors" who are obliged by internal regulations to hold investment-grade debt, he said.
Portugal nonetheless managed to place some shorter-term paper at better conditions than before its downgrade, but the rate on Lisbon's 10-year debt climbed two percentage points from 12.5 per cent to around 14.5 per cent.
By comparison, the rate on reference German 10-year Bunds was just 1.782 per cent last week.
Ratings agencies should not be "the sole reference, it is absolutely inappropriate to saddle us with this systemic risk" role said Carole Sirou, head of the French branch of Standard and Poor's.
Systemic risk is that which can do lasting damage to the financial sector as a whole.
It remains to be determined however the usefulness of ratings agencies that "pass their time running after the markets," Brossard said.
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