Follow the Money: Investor Trading Around Investor-Paid Rating Changes

What is it about?

We examine the influence of investor-paid credit ratings on institutional investors – the ultimate consumers of credit ratings. Using institutional equity trading data, we identify institutional investors who consistently trade on ratings issued by EJR – an investor-paid rating agency. Although EJR’s advice is largely credit-related, we find that these EJR followers often respond more strongly to EJR ratings than to influential equity trading signals like earnings announcements, analyst earnings forecast revisions, and recommendation changes. Ultimately, followers, by putting their money where EJR’s mouth is, benefit from EJR’s advice: they outperform non-followers, and show improved trading performance after becoming followers.

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Why is it important?

This is the first paper that shows that investor-paid credit rating agencies are more credible than issuer-paid credit rating agencies from the point of view of the investor.

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