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Do firms obtain multiple ratings to hedge against downgrade risk?

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  • Chen, Zhihua
  • Wang, Zhen

Abstract

Utilizing the 2005 Lehman index rule change, we examine the role of multiple bond ratings in corporate hedging. We find an asymmetric pattern for firms near a rating downgrade and those near an upgrade. Specifically, firms near a downgrade right before the Lehman event display a strong demand for a third Fitch rating shortly after it, whereas those near an upgrade do not. More than 75% of the firms that would have been effectively downgraded ex post rightfully acquired a third Fitch rating ex ante. This decision prevents 67% of these firms from being downgraded from their original broad rating categories. Furthermore, having a third rating is attractive to investors only for bonds near a downgrade. Investors increase the holdings of these bonds and trade them more actively after the Lehman event. These results suggest that firms use multiple ratings to hedge against downgrade risk.

Suggested Citation

  • Chen, Zhihua & Wang, Zhen, 2021. "Do firms obtain multiple ratings to hedge against downgrade risk?," Journal of Banking & Finance, Elsevier, vol. 123(C).
    • Handle: RePEc:eee:jbfina:v:123:y:2021:i:c:s0378426620302685
    DOI: 10.1016/j.jbankfin.2020.106006
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    1. Huang, He & Svec, Jiri & Wu, Eliza, 2021. "The game changer: Regulatory reform and multiple credit ratings," Journal of Banking & Finance, Elsevier, vol. 133(C).

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    More about this item

    Keywords

    Credit rating agency; Multiple ratings; Corporate hedge; Institutional investor; Bond holding; Bond liquidity;
    All these keywords.

    JEL classification:

    • C7 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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