Fitch Ratings announced that it is to assign Loss Severity (LS) ratings to structured finance deals.
This is the latest in a series of steps by the rating agency to enhance the quality and transparency of its credit ratings, LS ratings are made to complement traditional debt ratings, giving an indication of the relative degree of risk that a security might suffer a high loss severity in the event that the security defaults.
"Since Fitch first proposed a Loss Severity rating scale in July 2008, we have received numerous comments indicating that this scale would give users of structured finance ratings the most valuable additional analytical insight," said Stuart Jennings, structured finance risk officer for the EMEA region at Fitch Ratings. "The aim of the scale is to complement the existing long-term credit ratings for structured finance securities which exclusively address the probability of default of a security, the so-called 'first dollar of loss.'"
"LS Ratings represent a distinct structured finance rating scale and help differentiate such securities from other debt securities, such as corporate bonds," said Glenn Costello, structured finance risk officer for the Americas at Fitch. "This is an issue that has been highlighted in recent months, particularly by the regulatory community."
The rating agency already has a separate Recovery Rating scale. Recovery Ratings (RR) are assigned to securities that are seen as distressed (rated 'C' to 'CCC'), where there is a real prospect of default. In terms of being a relative measure, the LS rating varies from the RR scale. RRs provide an ordinal opinion that is based on absolute recoveries or loss severity, instead of relative recoveries or loss severity as would be indicated by the LS rating.
In the release, Fitch said that it recognizes that the provision of two scales, one relative and the other absolute, that addresses recovery given default might serve to confuse users. For this reason, LS ratings will only be assigned to securities that are not seen as distressed. This implies that only securities that rated in the 'AAA' to 'B' categories will be assigned a LS rating.
In the event that a security becomes distressed and the long-term rating is lowered to the 'CCC' to 'C' level, then the LS rating will be withdrawn and a RR rating will be assigned.