Drawing A Line

19/10/2012 at 5:27 pm

We saw recently how the ECB’s new bond-buying programme helped draw a line under the recovery in market sentiment. It feels as though a number of people are now less afraid of Europe than they were a few months ago.

Among those people, so it would seem, are the ratings companies. Last week we saw S&P downgrade Spain to a notch above junk – not good news, exactly, but a relatively moderate move (from BBB+ to BBB-). And then on Tuesday, Moody’s – who already had the country rated at the BBB- level, and “on watch” for future downgrades to boot – resisted the opportunity to put some distance between themselves and the competition by leaving their rating at investment grade. They specifically cited the possibility of further emergency lending together with bond market intervention by the ECB as reasons for their decision.

How times change. In July of 2011, Moody’s junked Portugal because of the intervention in debt markets being hinted at – but not by then even formally discussed – as part of the renegotiation of the Greek bailout. The following week they junked Ireland because they thought further emergency lending might be required to see it through its difficulties. Not to be left out, S&P waited until August then took some elegantly left-field action by notching the US down from AAA.

Back in 2011 the ratings companies were worried about falling behind the market and risking the same charges of over-optimism, incompetence or even negligence which they had faced as a big part of the credit market boom prior to the collapse of 2007-8. So what has changed?

The European downgrades last year were not well received. S&P’s and Moody’s offices in Milan were raided by police as Italy feared its ratings would be next. The EU began to take an interest in regulating the companies and there were appeals to take antitrust action against a perceived oligopoly. And action was taken by the ECB, ISDA and others to reduce the mechanistic reliance on credit ratings for the acceptance of loan collateral or the triggering of credit derivatives.

But more important than any of this must be the change in sentiment which recent months have seen. Last year’s downgrades really were chasing the market. Portugal’s five year bond yield began 2011 at 5.7%. By the time Moody’s slashed the rating in July this had more than doubled. This year things have taken a very different turn. When Moody’s cut Spain’s rating in mid-June its five year yield had jumped up past 6%; now it’s back to 4.2%.

None of this is to say that ratings are irrelevant – or that they were then. Portuguese paper suffered sharp falls when Moody’s pulled the plug, and Spanish bonds have found renewed support since they decided to hold fire. But what we surely can say is that these ratings decisions are a further sign that sentiment over the European crisis is bottoming out.

In the months ahead there is plenty of room for more scares. Ratings companies, governments, markets – the game goes on, and can always change. Still: it is encouraging to see that Moody’s, too, has drawn the line this week.

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In Data We Trust Cliff Edge


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