Determinants of Credit Ratings of Structured Finance Products in the United States
Abstract
Credit Rating is an appraisal of the credit worthiness of an individual, business, government
or financial product. This appraisal is done by Credit Rating Agencies based on capability of
account holder to repay the borrowings or honor the financial commitments stipulated within
the established time frame. Credit Ratings have a crucial part in the financial markets of
helping bridge the informational gap between investors and borrowers on the security and
reliability of the assets being traded. This informational gap is larger in the market for
structured finance products due to increased complexity of the structured finance products;
therefore credit ratings have an even more important part in this market. Developing a grasp of
the elements/variables that determine credit rating is therefore crucial in the structured finance
products market because there is a huge reliance of investors on CRAs providing some
assurance on the safety of the products. This research sought to identify and assess the
determinants of structured finance products credit ratings in the United States (US). The
predictor variables were maturity, default probabilities and recovery rates of the underlying
assets and seniority and the response variable was credit rating. The population of the study
was the new issuances of US Consumer Asset Backed Securities in 2019. Data was collected
from the Fitch Ratings website and the Financial Industry Regulation Authority (FINRA)
website. A sample of 152 issues was determined by use of stratified sampling. Multiple linear
regression was performed to ascertain the connection between the variables and a descriptive
research design was utilized. The data analysis utilized SPSS version 28.. An R square score of
0.711 was obtained which was translated to mean 71.1% of the variations in credit rating for
US Consumer ABS can be explained by the 4 chosen predictor variables. 28.9% of the
variation in credit rating was said to be explained by other variables/factors that were not part
of this research. Further analysis showed that maturity and default probabilities had a negative
correlation with credit rating while recovery rates and seniority had a positive correlation with
credit rating. Additionally, results showed that maturity and seniority had a statistically
significant influence on credit rating while recovery rates and default probabilities were not
statistically significant predictors of credit rating. The study concluded that maturity of
underlying assets and seniority were the most significant factors influencing credit rating.
Seniority was shown to have the strongest influence on credit rating and therefore the priority
of distribution of payments to investors of structured finance products was concluded to be one
of the most significant determinants of credit quality. The study recommended that Credit
Rating Agencies should also examine the relevant characteristics of the underlying assets of
the structured finance products as these characteristics have been shown to influence credit
rating of structured finance instruments. The study recommended the need for further research
on other variables such as level of collateralization, level of excess spread, performance of
collateral managers and macroeconomic variables such as inflation and interest rates and their
influence on credit ratings of structured finance products.
Publisher
University of Nairobi
Rights
Attribution-NonCommercial-NoDerivs 3.0 United StatesUsage Rights
http://creativecommons.org/licenses/by-nc-nd/3.0/us/Collections
- School of Business [1422]
The following license files are associated with this item: