1. Lecture VIII CRA: The Quantitative Approach

2. The Quantative Approach: Sovereign and Country Risk Ratings  Sovereign VS country risk ratings;  Objective: rank countries as a function of their degree of risk;  Role: collect info about borrower’s credit worthiness and willigness to repay the debt and issue ratings on their probability of default;  Features: On the base of qualitative and quantitative indicators they get an explicit risk score and the scores are translated into ratings. Purely empirical method: derived from a prederminated checklist and not based on any theoretical model;

3. The Quantative Approach: Sovereign and Country Risk Ratings (2)  Which issue do they consider? The Political Risk; The Social Risk; The Economic Risk;  The financial Risk  Which variable do they use in each area? It depends on the agency!

4. The Quantative Approach: Sovereign and Country Risk Ratings (3)  Shortcomings: No precise info on the rating methodologies; Subjective evaluation of some risk elements based on expert judgment:  Delphi Process: based on expert surveys; Designed questionaries given to country specialist;  Grand Tour: Team of specialist to ‘recognise’ the socio-political situation and test market risk and opportunities;  Expert system: Experts coming from academic intelligence and diplomacy netwok are sent into countries as consulent to assess the current and upcoming political situation.

5. The Quantative Approach: Sovereign and Country Risk Ratings (4)  Shortcomings: Assignment of weights:  Not stable across time and countries;  It depends on the aim of the analysis; Lack of any theoretical justification; Poor predictive power:  No one has been able to anticipate the main default/crisis; Linear aggregation process that not keep into consideration pox feedbacks between variables.

6. The Quantative Approach: Sovereign and Country Risk Ratings (5)  Main agency: Moody’s; Fitch; Standard and Poor; PRS

7. Reference  Bouchet, Clark and Groslambert (2003): “Country Risk Assessment”, Wiley Finance (Chapter 5).  Colombo, E. and Lossani, M. (2009): “Economia dei Mercati Emergenti”, Carocci Editore (Chapter 5).  FitchRatings (2007):”Sovereign Rating Methodology”, Criteria Report.  Standard&Poor’s (2006): ”Sovereign Credit Ratings: A Primer”.  The PRS Group: “International Country Risk Guide Methodology”.