What a credit rating is: A credit rating measures the ability
and willingness of a borrower to pay its debt. The more
creditworthy a borrower, the higher a CRA will rate it.
What a credit rating is not: A credit rating is not a buy/sell
recommendation. It does not predict profitability.
Who/What CRAs rate:
Within the world of MBSs and CDOs, CRAs rate :
1.  The instrument itself: The rated instruments at the center of
the financial crisis include mortgage-backed securities (MBSs)
and collateralized debt obligations (CDOs).
2.  Institutions holding the instruments: An instrument’s
rating affects the credit ratings of the investing institution. As
of mid-2008, most MBSs were held by foreign investors
(20%), Fannie Mae and Freddie Mac (16%), and commercial
banks (16%). Key CDO investors include banks, insurance
companies, pension funds and hedge funds.
3.  The issuers of the financial instrument
Most MBSs are issued by:
(1) Fannie Mae and Freddie Mac, which are U.S.
government-sponsored enterprises; and
(2) Banks: the top MBS issuers in 2007 were
J.P. Morgan, GMAC,
Lehman Bros., and Citigroup.
CDOs are issued primarily by banks. Top CDO
issuers in 2007 were Merrill Lynch, Citibank, and UBS.
Credit ratings affect issuers and investors: A borrower with
a high credit rating can raise capital at a lower cost than a
borrower with a low credit rating, because investors who take
on risk expect to be compensated with higher rates of return/
interest rates on the risky investments.
Credit ratings of an instrument may change over time.
A downgrade suggests a higher default risk and therefore
makes the downgraded instrument less valuable. CRAs
downgraded billions of dollars in MBSs and CDOs over the
past year. Investor