The New Rules of the Rating Game: Market Perception of Corporate Ratings

We analyze the impact of credit rating changes on the pricing and liquidity of US corporate bonds, focussing on whether the informativeness of rating events varies in different economic environments, particularly after the Dodd-Frank Act. We find that the informativeness of rating changes is low before the crisis, particularly for financial bonds. However, after Dodd-Frank, rating changes lead to significantly stronger market reactions for non-financial bonds, and to weaker ones for financial bonds, indicating ambiguous effects of the new regulation. We link these findings to differences in the cost of information acquisition and underlying credit risk across securities by testing various hypotheses based on existing models of rating agency behavior.