The Standard & Poor’s Downgrade Explained
“Going from AAA to AA+ doesn’t mean that the US is going to default, it just means that it is riskier today than it was a year ago.” So said Deven Sharma, President of Standard & Poor’s in an interview with CNBC’s Maria Bartiromo shortly after the close of the US stock markets on August 8, 2011.
As the interview was conducted the crawl at the bottom of the screen reflected the carnage of the day.
The Dow Jones Industrial Average fell 635 points. The NASDAQ Composite average declined 175 points and the S&P (yes, the stock index is owned and maintained by Standard & Poor’s) shed 80 points or 6.6%.
While there are other factors at work, from poor economic data to the growing financial strife in Europe, there is little doubt that the trigger for the fall in the US and global markets was the announcement at 9:00pm on Friday August 5th by Sharma’s company that they have decided to downgrade America’s credit rating from AAA to AA+.
So just what is Standard & Poor’s and why does the world care so much about their ratings? Standard & Poor’s, along with Moody’s Investor Services and Fitch Ratings, is one part of the so called “Big Three” credit rating agencies that provide opinions on the credit worthiness of debt obligations of issuers such as nations, local governments, non-profits and corporate entities. Essentially it is similar to the credit bureaus that assign credit scores for individuals, except that it evaluates larger entities with larger debts.
Founded in 1860, Standard & Poor’s is owned by the McGraw-Hill Companies. It employees close to 10, 000 people in more than 20 offices throughout the globe. In 2009, the company generated $2.6 billion in revenues from rating credit, issuing opinions and writing reports. Their ability to make money is tied completely to the credibility and long-term accuracy of the ratings and predictions they make.
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Loading ...A triple A rating by Standard & Poor’s is given only to “best-quality borrowers”, many of whom, like Australia and France are nations. The AA+ is slightly less attractive to investors as it is given to entities that have “very low credit risk, but {whose} susceptibility to long-term risks appears somewhat greater.” And that is the criteria that Standard & Poor’s used to describe their analysis of the current status with the United States credit worthiness. In their downgrade statement they said:
“The downgrade reflects our opinion that the fiscal consolidation plan that Congress and the Administration recently agreed to falls short of what, in our view, would be necessary to stabilize the government’s medium-term debt dynamics.”
Beyond that, however, in the opinion of many analysts, Standard & Poor’s went an extra step in tying credit worthiness to the dysfunction that we have witnessed in recent months from the US government.
“More broadly, the downgrade reflects our view that the effectiveness, stability, and predictability of American policymaking and political institutions have weakened at a time of ongoing fiscal and economic challenges to a degree more than we envisioned when we assigned a negative outlook to the rating on April 18, 2011.”
Deven Sharma Standard & Poor's President
The downgrade and Standard & Poor’s credibility took a hit when it was revealed that the company had made a $2-trillion error in their analysis of America’s future debt obligations. While this was a significant mistake Sharma defended his companies decision in the interview with Bartiromo stating that despite the discrepancy that the two factors that drove decision: “raising debt levels and the process of coming to plans to resolve those things” remain unchanged.
Is there a chance that Standard & Poor’s will re-evaluate the downgrade in the near future? It’s not likely? The shortest time ever for a nation to regain its AAA status following a downgrade is, according to Standard & Poor’s, nine years.
Click here for S&P’s full report on the downgrade (PDF)
Related Video: Watch Maria Bartiromo With Kelly Hayes’ genConnect.com on the State of the US Economy
Plus:
Andrew Ross Sorkin Discusses ‘Too Big To Fail’ (VIDEO)
California’s Gavin Newsom: Battling Unemployment (VIDEO)
John Boehner v Obama: 6 Things You Should Know About the Debt Debate
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Category: Career, Money, Views on the News
