Sunday, 7 July 2013

Democratizing Ratings

Ratings lie at the very heart of the economy and yet, as the current crisis is showing, they are not entirely reliable. In fact:

  • The process of rating involves interaction with the recipient company. This means the process cannot be fully objective.
  • A further element of subjectivity stems from the fact that different rating agencies and rating methods exist. In fact, there exist examples of rating agencies differing when rating the same company. Moreover, even within the same rating agency, two analysts can come up with different ratings for the same company.
  • Ratings are not verifiable. Suppose a certain company is awarded a given rating. The result is made public. However, suppose that a competitor or an investor wants to question or verify the rating because he feels it is too generous. Today this is very difficult, not to say impossible.
  • Rating agencies possess and exercise enormous power.
Our vision of ratings is different. We think ratings should be democratized. This is how we see the future of ratings. In our view ratings should be:

  • Based on publicly available information. A good place to start are the financial statements that listed companies post on their websites. This information should progressively be made more comprehensive and complete. This will eliminate information asymmetry.
  • Repeatable. The same mechanism should be used for the generation of a rating. Different rating methods cause confusion and inject further uncertainty into an already turbulent economy.
  • Dynamic. In a turbulent and global economy ratings should be issued not once a year but with a higher frequency, e.g. every quarter, in sync with today's rapidly changing economy.
  • Verifiable. Any individual investor should be able to use the publicly available data on a given listed company and verify the rating by using the same publicly available mechanism.
  • Objective. The process of rating calculation should not involve elements of subjective judgement.
  • Affordable. The rating mechanism should be available on-line and be affordable to even SMEs so that they can rate themselves and share the result with their banks.
Ratings, in other words, should become a commodity.