China’s bond market did eventually expand dramatically in the mid-2000s, and the rating agencies grew alongside it. But despite appearing similar to their American cousins, Dagong and the other Chinese raters have hardly been titans. China’s debt market is huge, and issuers are required to obtain ratings from a select number of licensed agencies, among them Dagong, but ratings are largely irrelevant because of state intervention and endemic conflicts of interest.
On the front end, the government has created high hurdles for issuers, favoring state-owned enterprises and companies whose plans jibe with industrial policy goals. On the back end, thanks to these ties to the state, authorities provide an implicit guarantee to investors that bonds won’t go bust. And save for a modest bump in defaults lately, investors have not had to worry. To top it off, the issuers pay rating agencies for the ratings (a common problem in the United States), which has contributed to a unhealthy dose of ratings inflation. It’s no wonder then that the vast majority of Chinese bonds are rated AAA or AA.
Dagong’s Sovereign Ratings
In this morass, Dagong’s entrepreneurial chairman, Guan Jianzhong, found a way to stick out from the crowd. In July 2010, to everyone’s astonishment, Dagong jumped into the sovereign ratings mix, issuing ratings on 50 countries. Appearing to play the nationalist card, Dagong turned the world upside down by giving China a prestigious AA+, far above the more pedestrian ratings from Moody’s, S&P, and Fitch of A1, A+, and AA-, respectively.
By contrast, the United States found itself with only a AA rating instead of the AAA it had received from everyone else for decades. Dagong claimed that China deserved a higher rating because of its rapid growth, large storage of foreign exchange reserves, and low government debt, while the United States should be graded lower because of its slower growth and massive budget deficits. The news garnered a collective chuckle from the Western financial community, and then everyone returned to ignoring what they interpreted as Dagong’s public relations stunt. Despite being dismissed, Guan and Dagong pressed on, and by 2018 the firm covered almost 90 countries.
Authoritarian bounce and democratic penalty
Although irrelevant as a guide to current investment, Dagong’s ratings tell a much larger story. Although the Chinese Finance Ministry likely welcomes Dagong’s ratings, my sense is that Dagong is not a state puppet and that its ratings are created entirely in-house. And like with rating agencies everywhere, that means the task falls primarily to a group of analysts in their 20s, all of whom have studied finance and many of whom have spent time in the United States and Europe. Dagong must have been aware that its approach would be welcomed by officialdom, but its rating analysts are not sheltered slaves but rather some of China’s most cosmopolitan youth.
A comparison of Dagong’s ratings with those of the industry’s global leaders from 2018 yields a fascinating picture. (The agencies use slightly different ratings scales; for analysis purposes, we standardized them, and, here, follow the S&P nomenclature.) About half of all Moody’s and S&P ratings are identical, and those with differences are quite small, usually just a single notch, for example, from AA to AA-. By contrast, only 31 percent of Moody’s and Dagong ratings are identical, and just 26 percent of those by S&P and Dagong are the same—and often these gaps are quite pronounced.
The easiest way to appreciate these differences is by examining them on world maps. Countries where Dagong’s ratings are higher than those of Moody’s are red and where they are lower are green (the darker the country the greater the difference).
Dagong/Moodys Ratings Difference
By: via @AlliesFin Serve T.ME/ALLiESFiN
