What Is Standard and Poor's?
Standard and Poor's, commonly referred to as S&P, is a leading global provider of independent credit ratings, benchmarks, and analytics for the capital and commodity markets. As a prominent entity within the broader financial services industry, Standard and Poor's plays a critical role in providing risk assessment and market insights to investors, corporations, and governments worldwide. Its core offerings include credit rating services for various debt instruments, as well as the creation and maintenance of widely recognized stock market indices like the S&P 500.
History and Origin
The origins of Standard and Poor's trace back to the mid-19th century. In 1860, Henry Varnum Poor published "History of Railroads and Canals in the United States," which compiled comprehensive financial and operational data on U.S. railroad companies. This publication laid the groundwork for Poor's Publishing, established in 1868. Separately, Luther Lee Blake founded the Standard Statistics Bureau in 1906, focusing on providing financial information for non-railroad companies, eventually creating its own stock market index in 1923. The modern Standard and Poor's Corporation was formed in 1941 through the merger of Poor's Publishing and Standard Statistics.5 This union brought together two key providers of financial information, solidifying the combined entity's position in the evolving financial markets. In 1966, The McGraw-Hill Companies, now S&P Global, acquired Standard and Poor's.
Key Takeaways
- Standard and Poor's is a global leader in credit ratings, benchmarks, and financial analytics.
- It is best known for its credit rating services, assigning letter grades to the creditworthiness of corporate and government debt.
- Standard and Poor's also manages major stock market indices, most notably the S&P 500, a key benchmark for the U.S. equity market.
- The company's insights are used by investors, issuers, and regulators for making informed financial decisions and assessing risk.
- S&P Global, the parent company, encompasses various divisions beyond ratings and indices, including market intelligence and commodity insights.
Interpreting Standard and Poor's
Standard and Poor's provides two primary forms of intelligence: credit ratings and market indices.
Credit ratings issued by Standard and Poor's are opinions on the creditworthiness of an entity or a specific debt instrument. These ratings range from "AAA" (highest quality, lowest credit risk) to "D" (in default). Investors use these ratings to assess the likelihood that a borrower will meet its financial obligations. For example, a high rating (e.g., investment grade of BBB- and above) suggests a lower risk of default, making the debt more attractive to conservative investors, while lower ratings (e.g., junk bond status) indicate higher risk but potentially higher yields.
Standard and Poor's market indices, particularly the S&P 500, serve as barometers for the overall health and performance of specific market segments. The S&P 500, composed of 500 large-cap U.S. companies selected by a committee, is widely considered the best gauge of large-cap U.S. equities and the broader economy. Changes in the index's value reflect the collective performance of its constituent companies, often influencing investor sentiment and investment strategies.
Hypothetical Example
Imagine a fictional utility company, "GreenEnergy Corp," wants to issue new corporate bonds to fund a new solar farm project. To attract investors, GreenEnergy Corp approaches Standard and Poor's for a credit rating on its new bonds.
Standard and Poor's analysts would conduct a thorough examination of GreenEnergy Corp's financial health, including its revenue streams, debt levels, cash flow, management quality, and industry outlook. After this rigorous analysis, S&P assigns GreenEnergy Corp's new bonds a rating of "A-." This "A-" rating signifies that S&P believes the company has a strong capacity to meet its financial commitments, though it may be somewhat more susceptible to adverse economic conditions than higher-rated issues.
Investors looking for relatively safe fixed income investments would see this "A-" rating as a positive sign, indicating a lower risk assessment compared to a "BB+" rated bond, for instance. This rating helps GreenEnergy Corp secure financing at a competitive interest rate, as investors are confident in the bond's repayment prospects.
Practical Applications
Standard and Poor's data and services are integral to various aspects of finance and investing:
- Investment Analysis: Investors use Standard and Poor's credit ratings to evaluate the default risk of corporate bonds, municipal bonds, and other securities. These ratings inform portfolio construction and risk management strategies.
- Benchmarking Performance: The S&P 500 and other S&P indices serve as crucial benchmarks for measuring the performance of actively managed funds, index funds, and Exchange-Traded Fund (ETF)s. Asset managers often strive to outperform or replicate these indices.
- Regulatory Compliance: Many financial institutions are legally or prudentially required to hold investment grade securities, making Standard and Poor's ratings a key determinant for their portfolios. Regulators, such as the U.S. Securities and Exchange Commission (SEC), oversee credit rating agencies, including Standard and Poor's, through regulations like the Dodd-Frank Act.4
- Economic Analysis: S&P's indices provide valuable insights into market trends and broader economic indicators, helping economists and policymakers gauge the health of specific sectors or the overall economy.
Limitations and Criticisms
Despite their widespread use, Standard and Poor's and other credit rating agencies have faced significant criticism, particularly in the wake of major financial crises. One primary concern is the "issuer-pays" model, where the entity issuing debt pays the rating agency for its assessment. Critics argue this model creates a potential conflict of interest, as agencies might be incentivized to issue higher ratings to retain client business.
During the 2008 global financial crisis, Standard and Poor's, along with other agencies, was heavily criticized for assigning high, investment grade ratings to complex mortgage-backed securities and collateralized debt obligations (CDOs) that subsequently defaulted en masse.3 These inflated ratings were seen as contributing to the housing bubble and the severity of the crisis. In February 2015, the U.S. Department of Justice and several states reached a $1.375 billion settlement with Standard & Poor's to resolve allegations that the company defrauded investors by issuing inflated ratings on structured financial products from 2004 to 2007.2 The settlement highlighted concerns that S&P's desire for revenue and market capitalization led it to favor the interests of investment banks over investors.
Standard and Poor's vs. Moody's
Standard and Poor's and Moody's are the two largest and most influential credit rating agencies globally, often referred to as the "Big Three" along with Fitch Ratings. While both provide similar services, including credit ratings and financial analysis, there are nuances in their methodologies and market presence.
| Feature | Standard and Poor's | Moody's |
|---|---|---|
| Parent Company | S&P Global | Moody's Corporation |
| Primary Offerings | Credit ratings, indices (e.g., S&P 500), data | Credit ratings, research, analytics, software |
| Rating Symbols | Uses "AAA, AA, A, BBB, BB, B, CCC, CC, C, D" | Uses "Aaa, Aa, A, Baa, Ba, B, Caa, Ca, C" |
| Market Share | Generally considered slightly larger in ratings | Very strong presence, often close to S&P in share |
Both agencies assess the creditworthiness of corporate and sovereign debt, but their specific methodologies and the granularity of their ratings can differ. For instance, S&P uses a numerical modifier (+ or -) for ratings between AA and CCC (e.g., A+, A, A-), while Moody's uses numerical modifiers (1, 2, 3) for the same purpose (e.g., A1, A2, A3). Investors often consult ratings from both agencies to gain a more comprehensive understanding of a debt instrument's risk profile.
FAQs
What is the S&P 500, and how is it related to Standard and Poor's?
The S&P 500 is a stock market index that tracks the performance of 500 of the largest publicly traded companies in the United States. It is managed by S&P Dow Jones Indices, a joint venture majority-owned by S&P Global, the parent company of Standard and Poor's. The index is weighted by market capitalization, meaning companies with larger total market values have a greater impact on the index's movements.1
How does Standard and Poor's assign credit ratings?
Standard and Poor's analysts assess various factors to assign credit ratings, including an entity's financial health, industry position, management quality, economic outlook, and ability to generate cash flow to repay its debts. The rating reflects S&P's opinion on the likelihood of default and the potential for recovery in case of default. These ratings are dynamic and can change as circumstances evolve.
Can I invest directly in Standard and Poor's ratings or indices?
You cannot directly invest in a credit rating or an index like the S&P 500 because they are analytical tools or benchmarks, not investable assets. However, you can invest in products that track these indices, such as index funds or Exchange-Traded Fund (ETF)s, which aim to replicate the performance of a specific S&P index. You can also purchase shares of S&P Global (NYSE: SPGI), the publicly traded parent company.
Why are Standard and Poor's credit ratings important?
Standard and Poor's credit ratings provide a standardized, independent assessment of credit risk. This helps investors make informed decisions about purchasing debt instruments, influences borrowing costs for companies and governments, and plays a role in regulatory capital requirements for financial institutions. They serve as a vital source of information in the global financial markets.