The European Securities and Markets Authority (ESMA) has updated its Q&As on Regulation (EU) No 462/2013 regarding Credit Rating Agencies. The update pertains to methodologies, models, and key rating assumptions.
The Regulation refers not only to errors in rating methodologies but also to those in their application. Where there is any incorrect data in the application of a methodology, this should be notified to ESMA and all affected rated entries.
ESMA further clarified that it considers an error resulting from a model, which was implemented in a way that does not comply with a methodology, to be an example of an error in the application of a methodology. Therefore, such an error should be notified to ESMA & all affected rated entities. Examples of errors from models which were implemented in a manner not compliant with a methodology include an error in the code of a model, or an error which occurs because the wrong version of a model was used in the rating process.
ESMA also delved into whether a Credit Rating Agency (CRA) is required to notify ESMA and all affected rated entities of an error which does not lead to a change in any issued credit rating. ESMA considered that an error should be notified to ESMA and all the affected rated entities (as applicable) in cases where the error implies a need to review an issued credit rating. This should be seen regardless of whether the review results in a change of that credit rating.
Lastly, there is also the question of whether CRAs are allowed to notify the errors in rating methodologies to the affected entities in the press release or credit report published after the re-rating exercise. In answer to this, ESMA specified that where a CRA becomes aware of errors in its rating methodologies or in their application, the CRA Regulation clearly states that CRAs must immediately notify those errors to ESMA and all affected rated entities.Furthermore, notifications cannot be postponed to the press release or credit report published after the re-rating exercise. Moreover, the Regulation does not require that such notifications to rated entities have to be done in a public way. However, where errors have an impact on a credit rating, CRAs need to explain this in its notification to the rated entity, as well as publish those errors on their website in a manner which is transparent and easily accessible.
Article by Dr Cherise Abela Grech.
Disclaimer: This article is not intended to impart legal advice and readers are asked to seek verification of statements made before acting on them.