Abstract
This paper investigates the effect of rating-based portfolio restrictions that many institutional investors face on the trading of their bond portfolios. Particularly, we explore how credit rating downgrades affect to bondholders that are subject to such rating-based constrains in the US corporate bond market. We go beyond the well-documented investment grade (IG) threshold by analyzing downgrades crossing boundaries usually used in investment policy guidelines. We state that the informativeness of rating downgrades will be different according to whether they imply crossing investment-policy thresholds or not. We analyze corporate bond data from the TRACE dataset to test our main hypothesis and find a clear response around the announcement date consistent with portfolio adjustments made by institutions in their fulfillment of investment requirements for riskier assets.
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Notes
- 1.
NAIC is a dummy variable equal to 1 if the initial and the final rating are in different NAIC’s buckets and 0 else. Around 70% of the CRCs do not imply a jump between NAIC’s buckets.
- 2.
Abnormal values are computed comparing the observed values with the values of each variable during the control period that we set on the window of days [−41,−21] prior to the event day (t=0). According to [2], the use of the firm-specific past history as a benchmark is a good alternative although it could be less powerful. Creating a matching portfolio of stable rating bonds with characteristics as similar as possible to the re-rated bond is almost infeasible in corporate bond markets due to infrequent trading observed even in the most liquid case such as the U.S. market.
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Acknowledgements
This work was supported by the Spanish Ministerio de Ciencia y Tecnología (ECO2015-68367-R and ECO2015-67305-P, ECO2014-59664-P) and Junta de Comunidades de Castilla-La Mancha (PEII-2014-019-P). Any errors are solely the responsibility of the authors.
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Abad, P., Díaz, A., Escribano, A., Robles, M.D. (2018). The Effect of Rating Contingent Guidelines and Regulation Around Credit Rating News. In: Corazza, M., Durbán, M., Grané, A., Perna, C., Sibillo, M. (eds) Mathematical and Statistical Methods for Actuarial Sciences and Finance. Springer, Cham. https://doi.org/10.1007/978-3-319-89824-7_1
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