As many as 24 per cent of borrowers had investment grade rating just before turning non-performing assets (NPAs), raising doubts about the detection of their asset quality in a timely manner, a Reserve Bank of India (RBI) study has said. According to the study on efficacy of credit ratings in assessing asset quality, although preliminary, the findings suggest that credit ratings do not always reflect the asset quality of borrowers in a timely manner.
“There are concerns about the delayed reporting of ratings by banks … and the ability of ratings to capture the asset quality varies across rating agencies,” it said.
“About one-fourth of the sampled NPA exposure from Central Repository of Information on Large Credits (CRILC) was found to be in investment grade a quarter before slipping into the NPA category. The percentage of NPA exposure with an investment grade rating just before turning non-performing varied across credit rating agencies (CRAs) with three out of the six CRAs covered in the study showing a relatively high concentration of such exposure,” the study said, adding, “while the use of agency ratings under the extant regulatory framework is inevitable, the ways to encourage CRAs to better their rating performance need to be explored.”
In the Indian context, while there is widespread anecdotal evidence on the operations of CRAs, systematic studies on this issue are few, the RBI study said. “One of the notable studies concerning CRAs shows that the cumulative default rates (CDRs) for the accredited CRAs in India are much higher than those prescribed under the Basel framework. As a result, the possibility of undercapitalisation in banks cannot be denied given the application of the same risk weights as prescribed by the BCBS. There is also some evidence on the inability of CRAs to provide timely guidance on the weakening creditworthiness of borrowers,” it said.
The sample for the study works out to 560 borrowers accounting for about 21 per cent of NPA borrowers and as high as 40 per cent of the total amount of NPAs as at end-March 2018.
The article brings out deficiencies in the ability of ratings to capture the asset quality of large borrowers. “About 24 per cent of the sampled NPA exposure from CRILC carried an investment grade rating just a quarter before becoming non-performing. As the share was derived from CRILC alone, it can be argued that the deficiencies could be due to either the ways in which ratings are assigned by CRAs or the ways in which ratings are reported by banks or both,” it said.
“By mapping CRILC with Prowess, it was observed that about 14 per cent of the sampled NPA exposure showed a sub-investment grade in Prowess but carried an investment grade in CRILC, indicating concerns about delayed/lagged reporting of ratings by banks in CRILC,” it said.
Notably, about 12 per cent of the NPA exposure in CRILC was in investment grade even as per Prowess a quarter before becoming NPA, indicating the limited efficacy also of the ratings assigned by CRAs, the study added.
In order to gauge how early the ratings provided signals about the deteriorating asset quality, the study also analysed the average lead time in downgrading borrowers before becoming NPAs.
“Borrowers corresponding to about 83 per cent of the NPA exposure had an investment rating at some point prior to becoming an NPA. Of these, for borrowers corresponding to 71 per cent of NPA exposure, the indication of deteriorating asset quality (when all facilities of a borrower slipped into the sub-investment grade) was available, on an average, 25 months prior to NPA date,” it said.
“The borrowers corresponding to the remaining 12 per cent exposure had an investment rating (for all their facilities) even 11 months prior to the NPA date. For such borrowers, the average time taken for a complete downgrade (with all facilities in the sub-investment grade) after NPA was about five months,” the study said.
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