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Do Regulations Based on Credit Ratings Affect a Firm's Cost of Capital?

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Author Info
Darren J. Kisgen
Philip E. Strahan
Abstract

In February 2003, the SEC officially certified a fourth credit rating agency, Dominion Bond Rating Service ("DBRS"), for use in bond investment regulations. After DBRS certification, bond yields change in the direction implied by the firm's DBRS rating relative to its ratings from other certified rating agencies. A one notch better DBRS rating corresponds to a 39 basis point reduction in a firm's debt cost of capital. The impact on yields is driven by cases where the DBRS rating is better than other ratings and is larger among bonds rated near the investment-grade cutoff. These findings indicate that ratings-based regulations on bond investment affect a firm's cost of debt capital.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 14890.

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Date of creation: Apr 2009
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Handle: RePEc:nbr:nberwo:14890

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Find related papers by JEL classification:
G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation
G2 - Financial Economics - - Financial Institutions and Services
G3 - Financial Economics - - Corporate Finance and Governance

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  1. Ederington, Louis H. & Goh, Jeremy C., 1998. "Bond Rating Agencies and Stock Analysts: Who Knows What When?," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 33(04), pages 569-585, December. [Downloadable!]
  2. Hand, John R M & Holthausen, Robert W & Leftwich, Richard W, 1992. " The Effect of Bond Rating Agency Announcements on Bond and Stock Prices," Journal of Finance, American Finance Association, vol. 47(2), pages 733-52, June. [Downloadable!] (restricted)
  3. Richard Cantor & Frank Packer & Kevin Cole, 1997. "Split ratings and the pricing of credit risk," Research Paper 9711, Federal Reserve Bank of New York. [Downloadable!]
  4. Dion Bongaerts & K.J. Martijn Cremers & William N. Goetzmann, 2009. "Multiple Ratings and Credit Spreads," NBER Working Papers 15331, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  5. Darren J. Kisgen, 2006. "Credit Ratings and Capital Structure," Journal of Finance, American Finance Association, vol. 61(3), pages 1035-1072, 06. [Downloadable!] (restricted)
  6. Darren J. Kisgen, 2007. "The Influence of Credit Ratings on Corporate Capital Structure Decisions," Journal of Applied Corporate Finance, Morgan Stanley, vol. 19(3), pages 65-73. [Downloadable!] (restricted)
  7. West, Richard R, 1973. "Bond Ratings, Bond Yields and Financial Regulation: Some Findings," Journal of Law & Economics, University of Chicago Press, vol. 16(1), pages 159-68, April.
  8. Donald P. Morgan, 2002. "Rating Banks: Risk and Uncertainty in an Opaque Industry," American Economic Review, American Economic Association, vol. 92(4), pages 874-888, September. [Downloadable!]
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