Moody’s Investors Service has proposed a new rating methodology for bond funds and is asking market participants to comment on the proposals.

In a statement released today, the rating agency said the new methodology has three objectives. Firstly it will more clearly define the scope of bond fund ratings as primarily addressing the credit quality of the fund's underlying assets. Qualitative considerations may affect the rating in exceptional cases, such as severe weakness of the fund manager or sponsor, or a material and persistent deviation from the fund's strategy.

Secondly, it will measure portfolio credit quality more systematically and objectively, by using the portfolio’s weighted average life (WAL) as the key duration benchmark for measuring the portfolio's expected credit loss profile.

Lastly, the new methodology will differentiate bond fund ratings more clearly from the credit ratings of long-term obligations, through the use of a distinct set of rating symbols (e.g., Aa-bf) and updated rating definitions.

"Our proposed rating approach and rating symbols will allow us to analyse more consistently the credit profile of bond funds, while clearly differentiating them from debt credit ratings", commented Yaron Ernst, managing director of Moody's Managed Investments group.

Under the proposed rating system, Moody's would introduce a new rating scale for bond funds, using a "bf" modifier to highlight the distinct meaning of bond fund ratings, ranging from Aaa-bf to C-bf. The scope of bond fund ratings would be primarily limited to the assessment of credit risk, while other risks, such as liquidity, operational, interest rate, and currency would be specifically excluded from the rating.

"Our rating opinion would speak to the credit quality of a bond fund and consider the manager's strategy for the positioning of the fund with respect to its credit profile, which would be confirmed through our regular monitoring process," Ernst said.

The new rating symbols should better signal to investors the distinct risks associated with investing in bond funds, particularly market risk, in comparison to the risks of investing in individual fixed income securities. Moody's has also proposed to discontinue the practice of assigning separate market risk (MR) ratings to bond funds, which was introduced to signal to investors that bond funds featured market risk not generally captured in the traditional credit rating symbols assigned to the funds.

Moody's requests that market participants provide comments on the proposed methodology and rating symbols. The request for comment is titled "Moody's Proposes New Bond Fund Rating Methodology and Symbols" and is available on Moodys.com. Comments can be sent until 15 December 2011.

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