Moody’s delay only prolongs country’s agony, says adviser

Staggered ratings mean more uncertainty and less impact

RATINGS agency Moody’s may not have done South Africa any favours by delaying its rating decision, as it has merely postponed the inevitable fallout that the economy will suffer and has lulled the government into a false sense of security.

Saveshen Pillay, a financial adviser at RMB Private Bank who has done extensive research on the accuracy of rating actions, said this week that by not downgrading South Africa in tandem with the two other agencies last month, Moody’s had made markets “less efficient”.

The rand weakened close to R14/$ in the days following the downgrades, but it did not plunge as significantly as expected. It has since strengthened, partly due to global factors that favour emerging markets. The delay by Moody’s has allowed the government to relax and not immediately make the necessary drastic reforms to return South Africa to investment grade because the local currency rating is not yet fully in junk status.

“Had Moody’s followed, there would have been more changes . . . The government is seeing [the current downgrade] as not the end of the world,” said Pillay.

South Africa lost its investment-grade status in April, for the first time since the turn of the century, when Fitch downgraded both the foreign and local currency rating to sub-investment or junk status after the midnight cabinet reshuffle in March.

It was also concerned about the impact of political tension on the execution of policies to curtail government spending and debt.

Financing costs are expected to increase as a result for government-owned entities intending to raise funding on the debt market.

The situation will be aggravated if Moody’s cuts both local and foreign ratings and if S&P Global Ratings also chops its local rating for the government, after it has already cut the country’s foreign currency rating.

The bulk of the government’s debt is denominated in rand, but foreigners account for 35% of bondholders, making them susceptible to international sentiment.

In order to be included in some bond indices, like the Citi Government Bond index, S&P or Moody’s have to rate the country’s local currency at investment grade. This index provides a benchmark for the global sovereign fixed-income market. South Africa is still a member unless one or other of the agencies downgrade the local currency to junk.

The country is now waiting for Moody’s decision on its rating after it indicated on April 3 that it would undertake a review over 30 to 90 days.

Ratings agencies have often come under scrutiny and Pillay argued this week that ratings issued by the world’s largest ratings agencies had to be weighed in terms of accuracy.

While studying towards his master’s degree in the UK, Pillay showed that S&P was the most accurate in its assessment of when a debt issuer — a government or corporation — was at risk of defaulting on its debt repayments.

Pillay devised a mathematical model to analyse S&P’s and Moody’s ratings actions over a decade up to 2009.

He assessed long-term and short-term ratings actions for governments and corporations and considered how rating agencies performed in terms of accuracy and how this affected three categories of investors: fairly risk-averse investors who were willing to hold securities until maturity; fairly risk-averse investors with high liquidity needs; and risk-taking investors in “junk bond” securities, who were willing to hold on until maturity.

The question central to the research was which of the two main credit ratings agencies of “modern financial markets” had superior performance with regard to sovereign, corporate and structured finance debt.

Pillay used a “transition matrix” that determines the accuracy of the initial ratings and the frequency of changes from investment grade to non-investment grade. He said this frequency affected investors with high liquidity needs.

Fitch was included in a second study Pillay did later. This research focused only on Europe after the European sovereign debt crisis.

This provided a case study in which all three ratings agencies rated the same thing for the same period, he said.

He said financial participants in the study preferred ratings handed out by S&P overall because they were more accurate. In general, investors favoured S&P and Moody’s over Fitch.

Gardner Rusike, S&P’s sovereign analyst for emerging markets, said he was unaware of the study and could not comment.

A Moody’s spokesman said on Wednesday that the agency’s review of South Africa’s rating would assess the possibility of changes in key areas of financial and macroeconomic policymaking and strategic structural areas such as energy policy.

Ratings action was based on qualitative and quantitative information and “on the likelihood that a borrower will repay a given debt in a timely manner”, while also considering the country’s ability to withstand sudden credit-related shocks. The spokesman said the ratings were a reliable predictor of longWorld

Had Moody’s followed, there would have been more changes . . . S&P is more severe. Moody’s is usually more measured

term credit risk and default.

A downgrade by Moody’s would deter many investors, but not all.

Adrian Cloete, portfolio manager at PSG Wealth, said there was a “much bigger pool of money that invests in investmentgrade”.

There was also interest in junk bonds, but many asset managers were prohibited from investing in such bonds because while they yield high interest, they also carry a greater risk of default in debt repayment than investment-grade bonds.

Cloete disagreed with Pillay’s view that Moody’s should have downgraded South Africa earlier if it intended to do so.

“There’s a severe impact if a country is downgraded to noninvestment-grade status. S&P usually acts quicker and is more severe. Moody’s is usually more measured.”