Empirical Study of Credit Rating Migration in India


Debasish Ghosh


Credit rating agencies assess the credit worthiness of specific debt instruments. To determine a bond’s rating, a credit rating agency analyzes the accounts of the issuer and the legal agreements attached to it, to produce the chance of default, expected loss or a similar metric. The metrics vary between agencies. The upgrade and downgrade of ratings is known as notching. The probability of single and multiple notching is represented by a matrix of transition probabilities. The matrix is defined to describe the probability for change in an underlying rating. Rating migration refers to a change from an initial rating to a new rating category. Transition matrix represents the probability of a company moving from one credit rating to another i.e. the chance of credit quality of a firm improving or worsening. It represents moving probabilities from one rating level to all other ratings, including default for a given rating and time horizon. It shows the complete possible states that a rating can take over a given time horizon and therefore provides detailed information on rating movements. When credit quality of corporate bonds worsens, the probability of future default also increases. We have estimated transition matrix for companies rated by ICRA using two estimation procedures built on historical transitions – Cohort approach and Hazard approach – using five years’ data from Bloomberg between 2012 and 2017.


In order to sustain high growth rates, India needs a developed bond market. In its current state, it is a market for highly rated, plain vanilla instruments, issued by financial firms and Public Sector Enterprises (PSEs). Also, issuance is fragmented and trading dries up within a few days of issuance. The Indian bond market comprises of three segments; government bond market, corporate bond market and the derivatives market. Corporate bond markets can be split into domestic and international. The domestic corporate bond market’s size, depth and activity is likely to be influenced by the size of the government bond market, the number of listed companies, bank assets as a percentage of GDP, etc. Another factor that may be relevant in understanding the development of the corporate bond markets in India is the role that credit rating agencies play. This study is related to the domestic corporate bond market in India and this paper intends to study default risk and rating changes to bring about greater understanding of credit risk faced by corporate bonds in India.

The present paper is organised as follows. Section I presents an overview of the corporate bond market in India; Section II presents the role of rating agencies; in
Section III, we introduce the idea of transition matrix; Section IV presents the survey of literature; Section V presents the methodology to estimate transition matrices used in this study; Section VI describes the data used in this study; Section VII describes the results and interpretations and Section VIII concludes with policy implications.

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