Gabrielle_Gordon_fin400_assignment1

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Gabrielle Gordon FIN400- Assignment 1 PART A What is the trend in the number of ratings changes (both upgrades and downgrades) over time? Why? Downgrades are an indication of an increased risk that a company or government borrowing money will be unable to repay its debts, also downgrades can be a response to an unexpected negative event .The trend between upgrades and downgrades overtime have changed significantly during the 1980s to 2000s you can see that there has been a steady average of upgrades and downgrades which are partly due to the bank failures back in the 1980s. Over 1600 banks were closed or received financial assistance from the government through the FDIC. More of the faith was put into the government and not the failing financial markets Which led to upgraded bond ratings. Over time there has been a larger increase in downgrades than there is in upgrades due to financial crisis that occurred in the early 2000s and 2008. A bubble formed in the housing markets as home prices across the country increased each year from the mid-1990s to 2006, moving out of line with fundamentals like household income. The rapid rise of lending to subprime borrowers helped inflate the housing price bubble. Before 2000, subprime lending was virtually non-existent, but thereafter it took off exponential. ( The Origins of the Financial Crisis,2008). The lack of due diligence on all fronts was partly due to the incentives in the securitization model itself. With the ability to immediately pass off the risk of an asset to

someone else, institutions had little financial incentive to worry about the actual risk of the assets in question PART B Which type of ratings change, upgrade or downgrade, is most common in most years? Why do you think that is so? Bond ratings are changed for several reasons such as change in outlook or risk. When bond prices go up yields go down; bond investors tend to accept lower yields when a bond is higher rated. In this trend you can see that it is more common for downgrades in most years. I think the downgrades happened globally in part because of the global financial crisis of 2000 and 2008 and the amount of debt that was invested into the private mortgage securities. For example, in Europe the big three were cues of accelerating the debt crisis because of the negative evaluations that the financial crisis caused. This led to a spread in sovereign debt across Europe countries. During the recession of 2000 when the subprime mortgages started to be more commonly issued along with its peak in 2008 based on the market there was a need for a global bailout. Financial institutions had to bail out mortgage companies and then in kind those that held the debt securities. PART C In what years does the ratio of downgrades/upgrades appear to be particularly high? Why? Downgrades appear to be significantly higher in the years 2001 and 2002 And during this time there was the financial crisis that occurred when the twin towers in New York were crashed into

which caused a significant drop in the bond market. You can see the same mimicking increase in downgrades in years due to the 2007 and 2008 financial crisis where Bear Stearns hedge funds had collapsed In the lending of subprime mortgages that resulted in bankruptcies. Both downgrades occurred during times of economic instability.

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Works Cited Baily, Martin N., et al. “The Origins of the Financial Crisis.” Lessons from the Financial Crisis , 2011, pp. 77–85, www.brookings.edu/wp-content/uploads/2016/06/11_origins_crisis_baily_litan.pdf. “Bond Upgrade and Downgrade Defined.” The Balance , www.thebalancemoney.com/bond- upgrade-and-downgrade-definition-417058. Hane, and George. The Banking Crises of the 1980s and Early 1990s: 1980s and Early 1990s: Summar Summar Y and Implications Y and Implications . 1998. Hayes, Adam. “Downgrade Definition.” Investopedia , www.investopedia.com/terms/d/downgrade.asp. Singh, Manoj. “The 2007-08 Financial Crisis in Review.” Investopedia , 18 Sept. 2022, www.investopedia.com/articles/economics/09/financial-crisis-review.asp. “The Credit Rating Controversy.” Council on Foreign Relations , 2010, www.cfr.org/backgrounder/credit-rating-controversy.

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