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The rating game

Advisers are starting to question the value that information from rating agencies contributes to their research and ultimate recommendations to clients.

Some IFAs say the recent events surrounding Standard Life undermine their confidence in agencies.

Advisers and policyholders alike were shell-shocked when it was revealed that Standard was involved in protracted discussions with the FSA.

The talks heralded a strategic review which could lead to the company giving up its mutual status. Both Standard & Poor&#39s and Moody&#39s moved to downgrade Standard Life Group.

Some feel this is just the latest in a series of occasions where rating agencies have only seemed to act after events. Other high-profile cases include Equitable Life and AMP NPI.

Advisers say the agencies carry out vigorous analysis of insurers&#39 financial accounts but spotting any problems is the FSA&#39s job.

Standard & Poor&#39s has reminded advisers that in January last year it downgraded Standard to AA, cutting the grade again last July to AA with a negative outlook before the latest downgrade to A+ with a negative outlook.

Some advisers believe criticism of rating agencies is unfair because of the nature of the analysis they specialise in providing.

Hargreaves Lansdown pensions research manager Tom McPhail believes the problem lies in the fact that most information available on a company&#39s position is at best a few months out of date and often much more.

He says: “The whole issue of financial strength and how you advise clients has become more and more difficult to do. We will still use them because there is little else.” Hargreaves Lansdown says it selects companies broadly based on reports from rating agencies or from actuarial consultants but it does not use these reports in isolation.

Charcol group financial services director Roderic Rennison says: “The use of rating agencies is to provide information to support decisions or to help inform them. To rely on rating agencies in isolation without other accompanying investigation and research is not, in my view, the appropriate way to use them or the information they provide.”

Torquil Clark investment strategist Philippa Gee says: “Like any data, they should never be used in isolation when making a decision. We take them into account but to base a strategy solely on that source would be short-sighted.”

Hargreaves Lansdown also uses other factors such as service standards as key indicators. McPhail says: “Generally speaking, if an insurer can meet the standards that we are looking for and the deals we want for clients, this normally indicates a reasonable business with the capabilities and financial strength to support it.”

He feels that ratings must be considered. “If you do not use a rating agency, who or what do you use? We would certainly stick with the major reputable rating agencies rather than the odd one-man band with its own agenda and petty vendettas to pursue,” he says.

But for some, one-man bands can provide useful perspectives. Rennison says: “The output from rating agencies is often technical in content and it is important to understand how it is to be interpreted. In this connection, Ned Cazalet&#39s appeal is that he is direct, easy to follow and, on occasion, witty with it. This does not make his research superior per se, even if references to squirrels and nuts and, more recently, Comical Ali come to mind.”

Towry Law also uses a combined approach. It buys in research from S&P, AKG and AM Best as well as Cazalet but overlays information from these with opinions formed through direct discussions with providers. It says it puts more store on the underlying analysis than the headline rating from the agencies.

Towry Law product research manager Simon Farrant says: “In terms of their usefulness in the advice process, we feel that the ratings are of little direct use on their own.” On the question of whether rating agencies have been undermined by the Standard situation, Farrant says: “No, because part of the issues for S&P in their latest downgrade was &#39reputational risk&#39 which is difficult for anyone to predict.”

McPhail says: “We spoke to Standard & Poor&#39s after its downgrade of Standard and, on the strength of that conversation and other research, we are satisfied for now that Standard is still a viable business partner and that the major corporate rating agencies still offer the best available analysis of financial strength.”

Gee maintains that rating analysis is part of the research process but emphasises that decisions are not made or broken by the rating.

She says: “It is more that those advisers, who have used this information source as the only decision-making tool, will have to make radical steps to change this process. However, I find it hard to imagine that someone would operate in such a way.”

Rating agencies can expect greater scrutiny of their work and how it can be cross referred to information in the public domain which affects on financial strength outlooks.

There is some dissatisfaction, much in the same way some investment advisers feel that past performance is the lesser of many evils when deciding if a fund is worth investing in or not, but IFAs are likely to continue to throw rating into the mix of their decision-making processes.


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