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FRM Part I · FRM Exam Part I · External and Internal Credit Ratings

Which feature is generally associated with agency external ratings such as those from major rating agencies, relative to internal ratings built on market-implied default probabilities?

Agency ratings are generally designed to be through-the-cycle, so they are relatively stable and respond slowly to changing conditions. Internal ratings based on market-implied default probabilities behave more like point-in-time measures, reacting quickly and migrating more often than agency ratings.

  1. AAgency ratings aim to be through-the-cycle and so show lower rating volatility and slower response to changing conditionsCorrect
  2. BAgency ratings are purely point-in-time and adjust daily to equity prices
  3. CAgency ratings migrate more frequently than market-implied ratings
  4. DAgency ratings are unaffected by long-run credit quality

Explanation

Agencies emphasize a through-the-cycle perspective, looking through temporary fluctuations, so ratings are relatively stable and slower to adjust. Market-implied measures are closer to point-in-time and react quickly. The other options contradict this.

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