The Economic Value of Rating Outlooks in the Municipal Securities Market

• In Event: Bond Markets and Participants

Abstract

In addition to disclosing the issuer’s rating, credit rating agencies (CRAs) also report the issuer’s outlook (positive, stable, or negative) or credit watch (watch positive or watch negative). These signals, introduced in mid-80’s, serve to inform market participants of possible changes in the issuers financial condition without making changes to the issuer’s assigned rating. In this paper, we postulate these signals provide market participants with information as to changes in the issuer’s creditworthiness. Market participants will reflect the value of that information when pricing those securities in the primary market. Using true interest cost (TIC) and initial offering yields as our dependent variable, our analysis finds market participants do factor in rating signals, in addition to assigned ratings, when pricing securities in the primary market. As in previous studies, we find a greater market reaction to negative information. That being said, negative outlooks assigned by Moody’s Investors Service did not result in substantially higher yields or TICs. We suspect, Standard and Poor’s is the lead signaling CRA in this market, relative to Moody’s and Fitch.

Authors

• Sharon Kioko, Syracuse University

• Craig L Johnson, Indiana University