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Studying Interdependence of Credit Ratings and Credit Risk Estimates Implied by Market Instruments Quotes

Student: Gadii Liudmila

Supervisor: Victor A Lapshin

Faculty: Faculty of Economic Sciences

Educational Programme: Financial Markets and Financial Institutions (Master)

Year of Graduation: 2020

In this paper, we analyze the interdependence of credit ratings assigned to bond issuers by different rating agencies and credit risk estimates obtained with the use of market data, e.g. credit spreads on bonds. Using data on quotes of bonds of U.S. and Russian issuers listed between 2012 and 2019, we estimate credit spread curves based on zero-coupon yield curves obtained using Nelson-Siegel model and cubic splines. Assessing discriminatory power of credit spreads with respect to changes in credit ratings, it was shown that the relationship between credit ratings and credit spreads as measures of credit risk generally does not satisfy theoretical assumptions and credit spreads cannot be used as a proxy for credit ratings. Besides, it was found that the discriminatory power of credit spreads constructed using both Nelson-Siegel model and cubic splines significantly differs for rating changes facts relative to different rating levels, therefore one cannot make a choice in favor of one or another term structure model in general.

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