A study of corporate credit rating in Hong Kong

Abstract

This dissertation consists of three sections. The first section introduces the practices of credit rating and rating agencies. A brief review of the current situation of credit rating in Hong Kong is presented as well. There are three major credit rating agencies in the industry, in which Moody's and Standard & Poor's account for over 80% of the total credit rating issued for Hong Kong where lack of local credit rating agency. The second section studies the effect of a change in corporate credit rating on the company's common stock price before and after the announcement date in Hong Kong from 1990 to 2002. The results suggest that credit downgrading is associated with negative abnormal stock returns, and the effect of credit upgrading on stock returns were statistically insignificant. These findings are consistent with previous studies. However, there is no evidence of abnormal trading behavior both before and after the announcement of the change on a company's credit rating. The final section examines the predictability of the Probability of Default (PD) on the change of credit rating of a company. This dissertation uses the Black - Scholes - Merton option model which incorporates both financial statement and stock market data to estimate the PD of a company. The results found that the change of PDs can be used to predict the change of credit rating of a company in the coming year, and have higher predictive power on credit downgrading companies.