History of Credit Rating

Credit rating agencies have been around for the better part of the 20th century, and have
played a key role in the financial world by providing ratings on the creditworthiness of bonds
and other debt instruments. These ratings are invaluable tools for investors looking to get a
better sense of whether a debt instrument is worth investing in. Therefore, when assessing the
level of risk associated with a bond, investors will typically look at its credit rating.
Since most investors are looking for a tradeoff between risk and return on their investments,
they are typically going to demand a higher interest rate for bonds that have poorer credit
ratings. As a result, rating agencies play an important role in setting interest rates on debt
securities.
The concept of using rating agencies to assess the level of risk associated with a debt arose
around the beginning of the 20th century when three major credit rating agencies were
formed. Although additional rating agencies were formed in subsequent years, the original
rating agencies Fitch, Moodys, and Standard and Poors are the most prominent.
1. Fitch

The Fitch Publishing Company was founded in 1913 by John Knowles Fitch, a 33-year-old
entrepreneur who had just taken over his fathers printing business. Fitch had a unique goal
for his company: to publish financial statistics on stocks and bonds.
In 1924, Fitch expanded the services of his business by creating a system for rating debt
instruments based on the companys ability to repay their obligations. Although Fitchs rating
system of grading debt instruments became the standard for other credit rating agencies, Fitch
is now the smallest of the big three firms.
2. S&P

Henry Varnum Poor was a financial analyst with a similar vision to John Knowles Fitch. Like
Fitch, Poor was interested in publishing financial statistics, which inspired him to create H.V.
and H.W. Poor Company.
Luther Lee Blake was another financial analyst interested in becoming a financial
publisher. In order to achieve this dream, Blake founded Standard Statistics in 1906, just a
year after Poors death. Standard Statistics and H.V. and H.W. Poor published very similar
information. Hence, it made sense for the two companies to consolidate their assets, and they
merged in 1941 to form the Standard and Poors Corporation.
Today, Standard and Poors not only provides ratings but also offers other financial services,
such as investment research, to investors. They are now the largest of the big three rating
agencies.

3. Moodys

John Moody founded the financial holding company, Moodys Corporation, in 1909.
Although Moodys provides a number of services, one of their largest divisions is Moodys
Investor Services. While Moodys has conducted credit ratings since 1914, they only
conducted ratings of government bonds until 1970.
Moodys has grown significantly over the years. Presently, Moodys is the second largest of
the big three firms.
History
Early history

When the United States began to expand to the west and other parts of the country, so did the
distance of businesses to their customers. When businesses were close to those who
purchased goods or services from them, it was easy for the merchants to extend credit to
them, due to their proximity and the fact that merchants knew their customers personally and
knew whether or not they would be able to pay them back. As trading distances increased,
merchants no longer personally knew their customers and became leery of extending credit to
people who they did not know in fear of them not being able to pay them back. Business
owners' hesitation to extend credit to new customers led to the birth of the credit reporting
industry.
Mercantile credit agenciesthe precursors of today's rating agencieswere established in
the wake of the financial crisis of 1837. These agencies rated the ability of merchants to pay
their debts and consolidated these ratings in published guides. The first such agency was
established in 1841 by Lewis Tappan in New York City. It was subsequently acquired by
Robert Dun, who published its first ratings guide in 1859. Another early agency, John
Bradstreet, formed in 1849 and published a ratings guide in 1857.
Credit rating agencies originated in the United States in the early 1900s, when ratings began
to be applied to securities, specifically those related to the railroad bond market. In the United
States, the construction of extensive railroad systems had led to the development of corporate
bond issues to finance them, and therefore a bond market several times larger than in other
countries. The bond markets in the Netherlands and Britain had been established longer but
tended to be small, and revolved around sovereign governments that were trusted to honor
their debts. Companies were founded to provide investors with financial information on the
growing railroad industry, including Henry Varnum Poor's publishing company, which
produced a publication compiling financial data about the railroad and canal
industries.Following the 1907 financial crisis, demand rose for such independent market
information, in particular for independent analyses of bond creditworthiness. In 1909,
financial analyst John Moody issued a publication focused solely on railroad bonds.His
ratings became the first to be published widely in an accessible format,and his company was
the first to charge subscription fees to investors.

In 1913, the ratings publication by Moody's underwent two significant changes: it expanded
its focus to include industrial firms and utilities, and it began to use a letter-rating system. For
the first time, public securities were rated using a system borrowed from the mercantile credit
rating agencies, using letters to indicate their creditworthiness.In the next few years,
antecedents of the "Big Three" credit rating agencies were established. Poor's Publishing
Company began issuing ratings in 1916, Standard Statistics Company in 1922,and the Fitch
Publishing Company in 1924.