The Information Content of Bank Exam Ratings and Subordinated Debt Prices
đź“ś Abstract
This paper investigates the ability of subordinated debt markets to assess banks' conditions and predict bank ratings from regulators. Using a sample of large holding companies over the 1987-1992 period, we find that subordinated debenture yields, adjusted for the level and term structure of interest rates, have information content about bank holding company exam ratings. However, they do not predict these ratings as well as an econometric model using public data. This suggests that while market data provides useful information, it does not appear to predict regulator ratings better than publicly available data.
✨ Summary
The paper titled “The Information Content of Bank Exam Ratings and Subordinated Debt Prices” by Cynthia A. Glassman, Donald P. Morgan, and Michael W. James, published in February 1995, investigates the capability of subordinated debt markets to assess financial conditions of banks and predict regulatory bank ratings. An analysis of large bank holding companies over a period from 1987 to 1992 revealed that while subordinated debt yields reflect certain information about regulatory exam ratings, they do not outperform econometric models based on public data for predictive purposes. This is of particular importance in the realm of financial regulation as it pertains to market discipline and the role of subordinate debt as a mechanism to gauge bank riskiness.
A subsequent review of literature shows that the paper is included in discussions on market discipline as a critical component of banking supervision. A related work is “Market Discipline in the Governance of U.S. Bank Holding Companies: Monitoring vs. Influencing” by Mark J. Flannery and Sorin M. Sorescu, which continues the conversation on market discipline in banking. However, specific citations directly referencing this paper are limited in currently available databases, emphasizing its role as part of broader analysis in the domain of financial regulation but lacking direct influence in later empirical studies. Link