22-01-2013, 03:06 PM
A PROJECT REPORT ON SIGNIFICANCE OF CREDIT RATING IN INDIA
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INTRODUCTION
In a market, financial markets play the role of efficient intermediary. They act as a link between savers and investors, mobilizing capital on one hand, and efficiently allocating them between competing users to the other hand. In addition to this an investor can also base the investment decision on the grading offered by credit rating agencies.
Concept of Credit ratings
A credit rating is a measure used by creditors to determine how much they can trust a certain borrower, whether the borrower is an individual, a corporation, or a country. The credit rating is derived using past financial data or the borrower’s credit history. There are several factors that can affect the credit rating of an individual including:
the person’s ability to pay a loan – Reflected by the person’s salary and other assets
the amount of credit in existence – This is what credit limits are for. If the person is near his credit limit or has reached it is harder to get a loan. This also reflects whether the person is in the habit of going into debt
credit history – Shows whether the person makes payments on time. This also reflects the persons spending and saving patterns.
Definition
The process of assigning a symbol with specific reference to the instrument being rated, that acts as an indicator of the Current opinion on relative capability on the issuer to service its debt obligation in a timely fashion, is known as credit rating.
According to the Moody’s, “A rating on the future ability and legal obligation of the issuer to make timely payments of Principal and interest on a specific fixed income security. The rating measures the probability that the issuer will default on the security over its life, which depending on the instrument of the expected monetary loss, should a default occur.
Exercising responsibility
Credit is a part of everyday life. It enables people to buy everything from necessities to luxuries. However, if you do not exercise responsibility in managing your finances you will find that the concept of credit will cripple you instead of empower you.
To make sure you exercise responsibilities always keep track of your purchases, loans, and overall expenses. Keep yourself informed and do not fall for the “buy now pay later” mentality. Buy only what you need and if buying for luxuries makes sure that it is planned and not a spontaneous buy. Pay your bills on time and do not allow yourself to go in debt.
In the end being responsible will not only yield in an excellent credit history but will also ensure that you will have more options for finding money fast in case you need it in the future.
History of Credit Rating
The initial rating exercise was started by Henry Poor who published financial statistics of Railroad companies in 1860. In addition to his publishing business, John Moody (Moody’s Investors Services) started publishing ratings for railroad bonds from the year1909.
The rating activity got a boost post Great Depression of 1933 when US Government Controller of Currency directed the banks in USA to purchase bonds rated BBB/Baa and above and the rest came to be known as ‘junk’ bonds. At present in US markets all commercial bonds are invariably rated.
IMPETUS
The credit rating system originated in the USA in seventies.
The high levels of default, which occurred after Great Depression, in the US capital markets, gave the impetus for the growth of credit rating.
The default of $82 million of commercial paper by Penn Central in the year 1970. and the consequent panic of investor in commercial papers, resulted in massive defaults and liquidity crisis.
US made rating Mandatory for institutions such as Govt Pension funds, and Insurance companies.
CREDIT RATING AGENCY
A credit ratings agency is a company that assigns credit ratings to institutions that issue debt obligations (i.e. assets backed by receivables on loans, such as mortgage-backed securities. These institutions can be companies, cities, non-profit organizations, or national governments, and the securities they issue can be traded on a secondary market.
A credit rating measures credit worthiness, or the ability to pay back a loan. It affects the interest rate applied to loans - interest rates vary depending on the risk of the investment. A low-rated security has a high interest rate, in order to attract buyers to this high-risk investment. Conversely, a highly-rated security (carrying a AAA rating, like a municipal bond which is backed by stable government agencies) has a lower interest rate, because it is a low-risk investment. These low-risk bonds are available to a wide range of investors, whereas high-risk bonds cater to a narrow investing demographic.
Companies that issue credit scores for individuals are usually called credit bureaus and are distinct from corporate ratings agencies.
Definition
"Credit Rating Agency" means any commercial concern engaged in the business of credit rating of any debt obligation or of any project or programme requiring finance, whether in the form of debt or otherwise, and includes credit rating of any financial obligation, instrument or security, which has the purpose of providing a potential investor or any other person any information pertaining to the relative safety of timely payment of interest or principal; (Section 65(21) of Finance Act, 1994 as amended)