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The Information Content and Redistribution Effects of State and Municipal Rating Changes in Mexico

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  • Mendoza-Velázquez, Alfonso

Abstract

The fiscal and financial reforms carried out in Mexico in 2000 have encouraged a widespread presence of rating agencies and have allowed several States and unicipalities to raise funds through bond offerings in the capital market. Any local government in Mexico intending to access credit and capital markets must count with at least one credit rating from one of the three main agencies : FitchRatings, Moody's and Standard & Poor's. This paper investigates the impact of rating changes to State and Municipal governments on bond returns in Mexico. By employing a Capital Asset Pricing Model (CAPM) structure for the mean equation that allows conditional volatility, we find strong support for the Information Content Signaling Hypothesis (ICSH), i.e., rating upgrades (downgrades) are followed by greater (lower) bond returns. We also find some support for the Wealth Redistribution Hypothesis (WRH) indicating that rating upgrades (downgrades) are followed by lower (greater) bond returns. In addition to this, we find high volatility persistence, significant asymmetric responses of volatility to bad and good news, a negative association between market volatility and the level of bond returns and significant effects of volatility in response to rating changes. Finally, the estimations show the market anticipates and responds to rating changes within five-day momentum windows. There is a comparatively stronger reaction of returns on the event day favoring the hypothesis of market inefficiency.

Suggested Citation

  • Mendoza-Velázquez, Alfonso, 2009. "The Information Content and Redistribution Effects of State and Municipal Rating Changes in Mexico," Economics Discussion Papers 2009-17, Kiel Institute for the World Economy (IfW).
  • Handle: RePEc:zbw:ifwedp:7541
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    References listed on IDEAS

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    1. Fausto Hernandez Trillo & Alberto Diaz Cayeros & Rafael Gamboa Gonzalez, 2002. "Determinants and Consequences of Bailing Out States in Mexico," Eastern Economic Journal, Eastern Economic Association, vol. 28(3), pages 365-380, Summer.
    2. Nelson, Daniel B, 1991. "Conditional Heteroskedasticity in Asset Returns: A New Approach," Econometrica, Econometric Society, vol. 59(2), pages 347-370, March.
    3. Pilar Abad-Romero & M. Dolores Robles-Fernandez, 2006. "Risk and Return Around Bond Rating Changes: New Evidence From the Spanish Stock Market," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 33(5-6), pages 885-908.
    4. Holthausen, Robert W. & Leftwich, Richard W., 1986. "The effect of bond rating changes on common stock prices," Journal of Financial Economics, Elsevier, vol. 17(1), pages 57-89, September.
    5. John T. Scruggs, 1998. "Resolving the Puzzling Intertemporal Relation between the Market Risk Premium and Conditional Market Variance: A Two-Factor Approach," Journal of Finance, American Finance Association, vol. 53(2), pages 575-603, April.
    6. Backus, David K & Gregory, Allan W, 1993. "Theoretical Relations between Risk Premiums and Conditional Variances," Journal of Business & Economic Statistics, American Statistical Association, vol. 11(2), pages 177-185, April.
    7. Campbell, John Y., 1987. "Stock returns and the term structure," Journal of Financial Economics, Elsevier, vol. 18(2), pages 373-399, June.
    8. M.J. Barron & A.D. Clare & S.H. Thomas, 1997. "The Effect of Bond Rating Changes and New Ratings on UK Stock Returns," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 24(3), pages 497-509.
    9. Ingram, Robert W & Brooks, Leroy D & Copeland, Ronald M, 1983. " The Information Content of Municipal Bond Rating Changes: A Note," Journal of Finance, American Finance Association, vol. 38(3), pages 997-1003, June.
    10. Reyes, Mario G., 1999. "Size, time-varying beta, and conditional heteroscedasticity in UK stock returns," Review of Financial Economics, Elsevier, vol. 8(1), pages 1-10, June.
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    Cited by:

    1. Alfonso Mendoza-Velázquez & Pilar Gómez-Gil, 2011. "Neural Networks, Ordered Probit Models and Multiple Discriminants. Evaluating Risk Rating Forecasts of Local Governments in Mexico," Working Papers 1, Centro de Investigación e Inteligencia Económica (CIIE), Departamento de Ciencias Sociales - UPAEP.

    More about this item

    Keywords

    Credit rating changes; municipal bond returns; CAPM; EGARCH-in-Mean;

    JEL classification:

    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • H74 - Public Economics - - State and Local Government; Intergovernmental Relations - - - State and Local Borrowing
    • H77 - Public Economics - - State and Local Government; Intergovernmental Relations - - - Intergovernmental Relations; Federalism
    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • G20 - Financial Economics - - Financial Institutions and Services - - - General

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