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What a credit ratings upgrade means for the Philippines

Imagine your parents paying P10,000 monthly amortization to a lender for a housing loan. Let’s assume that they have been paying religiously and on time during the entire duration of the loan. On the final year of payment, the lender decided to give them a bonus, reducing the amortization to P8,000 per month as a form of goodwill.

The extra cash can now be used by your parents to put more food on the table, to pay for housing repairs and maintenance, or even to increase your weekly allowance. Regardless of where it will be put to use, the savings from the loan reduction will surely benefit your family.

[Moody’s] Credit Rating by Country, as of February 2013

As explained in the article Credit Ratings by S&P, Moody’s and Fitch Ratings, a “credit rating” is a measure of the ability of an entity, whether a company or a sovereign state, to repay its debt. It shows the quality of loan instruments issued by the borrowing entity and whether these debt instruments can be repaid on time.

Impact of the US Credit Rating downgrade by S&P

On August 4, Thursday, US stocks suffered the worst one-day sell-off in two years, with the Dow Jones Industrial Average (DJIA) falling 4.31% and the Nasdaq Composite Index losing 5.08% of its value.

A few hours after US stock markets closed, Philippine stocks followed suit and the benchmark Philippine Stock Exchange Index (PSEi) tumbled 1.4% on Friday, August 5.

My friends and I, together with other investors around the world, were surprised to see such panic and sell-off. A fall is generally expected, given the lingering uncertainty in the US economy partly brought about by the eleventh-hour sealing of the deal regarding the US debt ceiling crisis. But a steep 4%+ decline in the US is unprecedented, considering there were no other major financial news spreading in the market.

Apparently, we were wrong. It looked like several investors already got the leak that credit rating agency Standard & Poor’s (S&P) was about to downgrade the United States’ credit rating.

Credit Ratings by S&P, Moody’s, and Fitch Ratings

What are Credit Ratings?

Credit Ratings are a measure of the credit worthiness of an organization such as a government or a public or private corporation. It is also an assessment of the quality of debt (loan) instruments issued by these institutions. In layman’s terms, a credit rating is a score that shows the capacity of the borrowing entity to meet its financial obligations to investors.

Who are the major credit rating agencies in the world?

There are several credit rating agencies but the three major players in the world, accounting for at least 90% of the market, are Moody’s, Standard and Poor’s (S&P) and Fitch Ratings. Moody’s and S&P are based in the United States while Fitch Ratings has two headquarters, one in London and another in New York. The “Big Three” issue short-term and long-term ratings of debt papers of governments and companies worldwide and also an outlook on the assessed entity, such as positive, negative or stable.

How are credit ratings useful?