Question

Many people believe the bond ratings agencies played a role in the financial meltdown and mortgage crisis that began around 2008. What do you think were some of the issues people had with the bond rating agencies and were those issues reasonable?

Answer 1

Answer - In 2008, when crisis hit the market, it affects the whole world. The global economy went down. People lost jobs and lives. And at that time rating agencies played a very important role in meltdown.

It started in 2005, when there is housing bubble going on. In 2006, people are taking loans above their capacity and housing rates are increasing at tremendous pace. Banks are giving loans to anyone without checking their credibility. At that time LTV went to even 110%. LTV means Loan To Value ratio. It means to get loan after certain limit, we have to mortgage something that is more than loan value, so that in case of default, the bank will sold the assets and recover their amount. But in 2006, banks are giving loans more than mortgage value and from this housing bubble created.

When the bubble is burst in 2008, many big organisation fail because they will not recover their money. Even the mortgage value remains not valuable at that time. Bank face liquidity issue and many big banks have failed.

The work of rating agencies is to rate the companies on the basis of some risk parameters. And to keep their client with themselves they would not downgrade any company unless all other rating agency started downgrading the companies.This is the main reason of 2008 crisis

It started in 2006, when banks exposed to high risk but rating agencies did not downgrade them because they think that housing industry is too big to fail. And on the other hand, if one rating agency downgrade the company, the company goes to another rating agency. So, to keep their client and earning revenue they didn't downgrade any of the companies.

In 2007, when banks face liquidity issue, at that time even rating agencies did not downgrade any of the banks. The things going to take action when companies were going to default simultaneously and people were losing jobs and investments

At that time all the AAA securities become junk securities(below investment grade) when rating agencies started downgrading each company, when crisis hit the market.

So at that time to earn revenue or to keep their clients, they did not downgrade any of the banks or NBFCs.But due to that the crisis hit not even the markets but the people as well.