DBRS, whose University Ave. office in Toronto is pictured, takes a unique approach to sovereign debt rating.Fred Lum/The Globe and Mail
Toronto-based ratings agency DBRS is explaining its sovereign-ratings approach, highlighting the merits of its anti-volatility methodology as the euro zone debt crisis appears to be settling.
The report explains privately-owned DBRS's long-term-focused rating system, which measures the likelihood a country can pay back its debt as promised. It also offers some insight into why the rating agency made fewer and smaller downgrades through the recent financial crises than the big three U.S. agencies – Moody's Investors Service, Standard & Poor's and Fitch Ratings – which control the majority of the credit ratings market share in the world. Together, these four companies are the only ones the European Central Bank recognizes.
The methods DBRS (formerly known as Dominion Bond Rating Service) uses to rate countries attracted attention in 2012 when it didn't downgrade Spain's bonds below single-A status as its competitors did. The move saved banks from having to pay a penalty sum to borrow against the country's debt.
"We took some criticism back in 2010 for having a lower rating, and then there were commentaries in the market about us having a higher rating," noted Alan Reid, group managing director at DBRS, who divides his time between London, Toronto and New York. "The market just wasn't familiar with who we were or what we were doing, outside of Canada."
The DBRS's report issued Monday compares its ratings to others firms, and explains that the reliance on fundamental factors such as the quality of economic and fiscal policy making, debt sustainability, and price and political stability matter more to its sovereign analysis than the ups and downs of economic cycles.
"The analysis considers each issuer's own strengths and weaknesses, rather than placing issuers in a rigid framework utilizing a limited number of economic and financial ratios, which can often be affected by economic cycles," the report stated. So although DBRS's ratings decreased less than other firms during the crisis, they would (in theory) also upgrade companies at a more measured pace in improved economic conditions.
The rating agency's position is that the market doesn't want highly volatile ratings, and so DBRS has tried to strip away much of that volatility in its assessments of 29 countries around the world.
"I think during that crisis there was a real fear that the euro would actually implode. We didn't think that would be the case –that's more qualitative than quantitative," Mr. Reid said. "An exit of Greece and Cyprus were possibilities at one time, but DBRS's view was that the euro's economic engines–Germany, Italy, France and others–would remain intact."
This echos comments DBRS founder Walter Schroeder made after the Spanish rating in August two years ago. "Most of the countries in Europe are basically strong, there's no reason they can't get out of their problem," he said.
The DBRS report charts how different rating agencies responded to various countries such as Spain, Ireland, Portugal and Italy, compared with the countries two-year bond yields. By this measure, DBRS says that its ratings tend to accurately predict long-term market movements. All of these European nations have been rated higher by DBRS than the other three agencies of record.
"Now that the crisis appears to be receding, bond yields are stabilizing at levels that indicate reduced default risk and that more closely align with DBRS's long-term ratings and predictions of possible default of many sovereigns," the report states.
Mr. Reid said the company still has some work to do educating people about the DBRS methodology, nothing that the company didn't roll out its European sovereign ratings until 2010.
"We felt that it was appropriate now to show – at this point in time, as the European markets are showing signs of recovery – that we believe we made the right decisions in regard to where we placed our rating," Mr. Reid said.