Moody's predicts strong growth in Asian derivatives
MOODY'S expects the market for derivative instruments in Asia to grow, creating a demand for more credit ratings on these new types of liabilities.
The rating agency's vice-president, financial institutions, John Kriz, said: ''Derivatives are management risk tools that are a reality.
''They are here to stay and will probably proliferate.
''So far we have only really scratched the surface in respect of their development.
''This is the end of the beginning. Those managers or professional organisations in capital markets who do not use them for risk management purposes are really doing their clients or investors a disservice.'' In Asia, the volatility profile of the derivatives in existence was more marked, he said.
''They are more volatile which means it really is not a market for the novice. This is for professionals,'' said Mr Kriz.
In looking at rating the corporate entities behind issues of derivatives, Mr Kriz said that among many factors, there were three key things that needed to be right.
''It is the three Cs, controls, controls and controls. These instruments are extremely volatile and they can lose value or gain in value dramatically in what can sometimes be irreversible changes,'' he said.
In the cases he had analysed where something had gone dramatically wrong, Mr Kriz said in most occasions there was a systems fault or lapse in the controls.
He said there was a growing demand among investors for credit ratings on issuers. In Asia this was sometimes made difficult by the lack of disclosure in the region.
''Even so, the over-the-counter market is very big and I think it is going to get bigger,'' said Mr Kriz, who is based in New York.
The key thing Moody's does when assessing a credit rating is to ascertain what purpose the derivative is being used for, as a hedge or a speculation, for instance.
In analysing risks, the management and role of internal and external audits is taken into account. The role of the directors and their knowledge of derivatives is also looked at, along with their motivation and the motivation of their senior managers forissuing the derivative.
Back-office support, along with the way monitoring and surveillance of the derivatives fits into the whole management structure is also looked at.
Mr Kriz said that in themselves derivatives had never been the sole reason for a downward re-rating in the past.
However, the role and potential impact on an issuer would be closely looked at in coming to a conclusion on creditworthiness.
In many cases, the confidentiality of the OTC market made the total liability and risk in a given set of circumstances difficult to assess, when trying to come to an overall conclusion about market conditions, he said.