5.6.1 What Credit Ratings Mean

5.6.1 What Credit Ratings Mean

Municipal debt ratings are opinions of the rating agencies about the investment quality of issuers and debt obligations in the municipal and tax exempt markets. The municipal bond market uses different rating criteria from the corporate debt market because of the unique characteristics inherent in municipal debt. Municipal debt ratings are viewed in relation to the state and national economy, debt levels and mix, revenue and expense cash flows, repayment source, and the issuer’s management strategies. While historical and operating experience and collateral may factor into the analysis of an issuer’s creditworthiness, credit ratings, which are based on a rating agency’s proprietary analytical models, assumptions, and expectations, are simply a prediction of how an issuer will perform in the future with respect to credit risk.97 

A credit rating agency is required to register as a Nationally Recognized Statistical Rating Organization (NRSRO) with the SEC. In 2010, the adoption of the Dodd Frank Wall Street Reform and Consumer Protection Act (Pub.L. 111-203, H.R. 4173) (Dodd Frank Act) mandated the creation of the Office of Credit Ratings (OCR), which was established within the SEC in June 2012 and is responsible for regulatory oversight and examination of credit rating agencies registered as NRSROs. Substantively, the Dodd Frank Act enhanced the regulation and oversight of NRSROs with new reporting, disclosure, and examination requirements, resulting in the adoption of new SEC rules and amendments concerning NRSRO internal control structures, credit rating methods, conflicts of interest relating to sales and marketing activities, look back reviews, disclosure forms and certifications to accompany each credit rating, public disclosures of NRSRO credit rating performance statistics and credit rating histories, asset backed securities, third party due diligence providers, and NRSRO standards of training, experience, and competence. 

The four most commonly used NRSROs in the municipal debt market are Moody’s Investor Service (Moody’s) Investor Service, S&P Global Ratings Inc. (formerly Standard & Poor’s), Fitch Ratings, and Kroll Bond Rating Agency (KBRA). Credit ratings assigned by these major credit rating agencies are represented by various alphabetical designations that may include numeric or symbolic (plus or minus signs) modifiers that give relative indications of long term and short term bond and note creditworthiness. 

Each major credit rating agency maintains separate rating scales for long term debt (generally debt with a maturity of greater than 1 year) and short term debt (generally debt with a maturity of less than 1 year). Although long term and short term credit prospects are related, it is possible for an issuer’s short term rating to be of a different category than its long term rating. Figure 5-1 describes the various credit ratings for Moody’s, Standard & Poor’s, Fitch and KBRA. A comprehensive list of credit rating scales is also available in Appendix C, Additional Sources of Information.