Impact of the subprime crisis on the reputation of rating agencies

I study the impact of the subprime crisis on the reputation of credit rating agencies by comparing investors’ perceptions of changes in ratings before and during the crisis, on both the European and American stock markets. Using a standard event study methodology, I find significant positive reactions to rating upgrades and significant negative reactions to rating downgrades in normal periods. This effect largely disappears during the crisis, although downgrades still have significant negative reactions on the European stock market. A general concern with event studies during crises is that investors are exposed to an unusual volume of dramatic news that could indirectly affect stock prices. I therefore conduct a Difference-in-Differences study in order to avoid this endogeneity issue. The Difference-in-Differences estimator shows insignificant effects for rating upgrades and downgrades on both stock markets during the crisis. This result supports the view that investors considered that CRAs did not convey reliable information during the crisis.