How Reliable are Credit Ratings? Read Here

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According to data released in August of 2019, April of the same year saw investments in debentures by AAA-rated financial institutions reached a high of 80%. Interestingly, financial institutions which were rated AA saw a meagre level of investment that remained below 15%.

While understanding the different aspects of investments, be it bonds, debentures, or FDs, it is vital for investors to understand the credit ratings of financial institutions.

Among the numerous rating agencies which are functional in India, CRISIL rating is a vital one, especially since it controls roughly 65% of the market. Checking these ratings can offer an investor a fair understanding of the risks related to the investment options provided by financial institutions. The ratings take into account past track records along with the functional policies of a company. Additionally, it also looks into the future policies and management setups.

Impact of credit ratings

Credit ratings affect both lenders as well as borrowers. In simpler terms, both investors, as well as financial institutions, are affected by credit ratings.

  • Investors: The primary advantage for every investor is that they can assess the risk associated with their investment. The creditworthiness of a financial institution also helps investors in deciding how much they want to invest in policies like fixed deposit, debentures, bonds, etc. High ratings generally assure an investor that their investments are safe and will reap good interest.

  • Borrowers: These ratings help with the credibility of financial institutions providing investment policies. Consequently, more investors are attracted to institutions which have a high rating, thereby generating higher revenue.

In the case of individuals, higher credit ratings ensure easier loan approvals as well as better interest rates. The score is expressed as a 3-digit number, unlike CRISIL rating and other similar ones for financial institutions, which are expressed in alphabets.

Just the way financial institutions look into credit score before approving loans, investors should check their ratings before investing in fixed deposits or any other investment policy. While this ensures a better investment-related judgement, understanding the working of these ratings can provide further clarity to investors.

Working of credit ratings

Typically, credit rating agencies have their algorithms and formulae which are used to calculate the rating of financial institutions. While calculating this rating, a few mandatory factors are taken into account by the rating agencies, like –

  • Credit history and track record.

  • Risk of default.

  • Business and revenue generation.

  • Evaluation of financial management skills.

Understanding the working of CRISIL rating and others helps investors make the right choice for their investments. However, it is also imperative that they understand a few aspects of credit ratings, which might be mistaken at a glance while considering the best investment options in India.

These different aspects are listed below –

1. Estimation: The different credit ratings offered by the agencies operating in India do not provide any guarantee regarding the financial institutions. Instead, they offer an estimation of the related risks based on past records as well as current policies. This is an indicator of what can be expected from the concerned financial institution which is being granted a specific rating.

2. Covers a range: A range of risk probability and credit reliability is represented by these ratings. Investors must note that this is not a precise marker of risks related to investments like a fixed deposit or any other investment policy offered by a financial institution.

This range is fixed according to Indian standards and cannot be compared to international ratings. Additionally, the government of India also impacts most of these institutions since they also control some of the policymaking.

3. Impact of currency: Indian rating agencies rate financial institutions based on the rupee. Unlike in the case of foreign rating agencies where the parameters are decided by dollar or euro, use of Indian currency as the parameter sets Indian financial institutions apart. They should not be compared with the rating of their international counterparts.

Before understanding how to pick the right NBFC for a fixed deposit, investors should carefully check the credit ratings associated with them. Since most private financial institutions bear CRISIL rating, investors can have a universal parameter to judge the different options. Bajaj Finance is an NBFC that offers AAA-rated Fixed Deposits.

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