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The reaction of the stock market on credit rating agencies’decisions

Patrycja Chodnicka-Jaworska ()
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Patrycja Chodnicka-Jaworska: University of Warsaw

No 18/2017, Working Papers from Institute of Economic Research

Abstract: Firms with low credit risk realize higher returns than firms with high credit risk. This credit risk effect in the cross-section of stock returns is a puzzle because investors appear to pay a premium for bearing credit risk. A higher credit risk can reduce a propensity to invest. The basic goal of the paper is to analyse and verify the impact of the changes of financial and nonfinancial institutions’ credit ratings on the rates of return of shares. The following hypotheses have been formed: first, differences in the strength and direction of the reaction of stock prices between financial and nonfinancial institutions have been observed. Secondly, downgrades of credit ratings have got a stronger impact on the rates of return of shares than upgrades thereof. The analysis has been constructed for European companies for the period between 1995 and 2016 using the event study method. The sample has been divided according to: the direction of changes in credit ratings, countries’ economic divisions, the character of the institution. The prepared analysis suggests that nonfinancial stock prices react to changes in credit ratings similarly to stock prices of financial institutions. The moment of reaction is differentiated by taking the level of economic development. Generally, a stronger reaction to credit rating changes in the case of companies from lower and middle economies has been observed the than from high-income countries.

Keywords: financial institutions; nonfinancial institutions; event study; credit ratings; stock prices (search for similar items in EconPapers)
JEL-codes: F21 G14 G24 (search for similar items in EconPapers)
Date: 2017-05, Revised 2017-05
New Economics Papers: this item is included in nep-dcm and nep-fmk
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Handle: RePEc:pes:wpaper:2017:no18