It’s hard to know if Standard & Poor’s believed its Friday-night downgrade of the US credit rating was a routine action or something unusual. After all, the agency had warned about the risks of a downgrade, and many in the market believed it was possible, if not likely. And it announced the decision in the same way as any other rating action, with a published report and a news release.
But if S&P might have viewed the downgrade as a routine matter, policymakers and market professionals saw it as highly unusual and reacted accordingly, with many voicing sharp criticism of S&P. Bill Miller, chief investment officer of Legg Mason, offered a lengthy and blistering critique of the agency’s decision that is worth a read.
What can other institutions learn from this episode? I believe it points to three lessons when announcing a decision that’s likely to be controversial:
1. Timing matters. S&P made its announcement late on a Friday, after a difficult week in the market and after acknowledging a $2-trillion error in its calculations. The timing made S&P’s decision appear rushed and ill considered, and it became a focus for critics, drawing attention away from the substance of the agency’s rationale.
2. Opinion is harder to defend than fact. The core of S&P’s reasoning was its judgment that the “effectiveness, stability, and predictability of American policymaking and political institutions have weakened…” – clearly a subjective view that’s open to debate.
There also was scant new evidence of the policy-making weakness cited by S&P. Washington’s divisiveness was well known, and in fact the debt-ceiling agreement, concluded just days before the downgrade, showed political progress, albeit more modest than many had hoped.
Imagine that your college professor gave you a lower grade because he believed your academic ability had weakened, regardless of your test scores, and you begin to get an idea of how difficult it is to justify S&P’s position.
3. Understand your context. S&P probably assumed people would view its action as that of a neutral arbiter of credit quality, carefully applying rational, analytic standards – a reputation the company had cultivated for years. But the financial crisis shattered that image.
Memories of the role played by S&P and the other rating agencies during the housing bubble are still raw. That role saw the agencies fighting new regulations sought after the Enron-era collapse, while anointing risky mortgage securities with tripe-A ratings and ignoring the mounting credit risks at Fannie Mae, Lehman Brothers and other financial firms. This context was sure to color any action taken by S&P.
Had the agency understood its context better, it might have prepared a much more aggressive communication strategy. A Friday-night press release and hastily convened conference calls just weren’t enough.