Asset Ratings — Then, Now, and Why ICOs need them.
I’m often surprised how many people ask me why asset ratings are important in crypto. The fact is that asset ratings make the financial World go round, and you probably would struggle to buy anything without a credit rating, how so? Well, think about the last time you asked your bank for some form of credit, no doubt they will want to know how they are getting paid back. Thus, to answer that question you are usually presented with a pile of paperwork to complete. The bank also wants to be updated on your financial position and future business prospects. No one gets so much as a credit card without this; however, most don’t notice because it’s the credit rating agencies who keep tabs, usually without you ever knowing. (unless you are one of the types that likes to check their score every month)
Nearly all consumers, businesses, and governments have a credit rating, and if they have bad rating they don’t get loans. This begs the question, who is rating ICOs?
To understand why this is so important, let’s evaluate several major financial failures as they all have a common theme.
The Medici Bank- Riches to broke…
Credit is not a new invention- it has existed since the beginning of time, but the bank of Medici developed it into what we know of today (and built the beautiful city of Florence on the back of it). The Medici Bank was the HSBC equivalent of the day. They had branches across Europe. The Medici Bank developed letters of credit which are strikingly similar to a traveler’s check. This was developed so that merchants could avoid carrying around bags of gold when traveling for trade. It was a truly innovative product which allowed the bank to become one of the strongest in Europe.
The Medici’s had a simple system of credit assessment — the Bank Manager. He controlled this process entirely. The manager would simply lend to anyone that appeared to be rich and successful, rather than performing an analysis, or due diligence, on capacity the borrower’s ability to re-pay. What was the result? The Medici bank failed in one location after another until it went bankrupt. They ruled baking but in the end due to bad credit controls died a slow death.
In short it was impossible to monitor every borrower’s situation until it was too late….
Enter S&P, Moodys and the Photocopy machine:
In the 1800s, America’s stock and bond market was starting to take off. The US railroad boom resulted in many bonds being issued by railroad companies. It was impossible to easily analyze all of them, so Moodys came up with a solution, and the centralized rating agency was born.
Back in those days investors paid for ratings reports NOT the issuer, but by the 1970s the photocopy machine changed all that. Moodys and S&P, feared that the investors would simply make copies of ratings reports, and hand them around, rather than buying them directly. So they made it easy for themselves and started to charge the issuer so they could provide this information for free to the investors.
This new “issuer pays” model, had a few flaws as it made credit ratings agencies reliant on select clients. Obviously, there are less issuers than investors. This created the incentive for the credit rating companies to simply bump up ratings to keep their customers happy, and maintain profitable relationships.
Here comes ENRON
For years no one cared about credit ratings agencies — that was until the Enron Failure of 2001. The bankruptcy court wanted to know how credit rating agencies did not pick up on this fraud! However, for all the SECs wisdom they did nothing to prevent this problem from happening again just a few years later.
From 1999 to 2007, the USA experienced a major housing boom, home ownership rose, and housing prices went up 125% from 1997 to 2006. To fuel this housing boom, US buyers needed lots of cash and so did the banks. Banks realised they needed tons of liquidity to fuel this market, so they started to securitise residential mortgages in turn making “mortgage backed securities”. Credit rating agencies were used to rate these bonds for the banks so they could then sell them onward, thus increasing their liquidity (and ability to make a quick profit).
Guess who certified these bonds as AAA investment grade?… yep, ratings agencies. Clearly the issuer pays model is not working, and yet it still continues today — unchanged. However, the SEC did manage to fine the big three in 2014 — but the billing practice remains unchanged :(
Enter the ICO.
When we invest in an ICO we are giving a company money to develop on a promise of building a project which we find valuable in some way. It’s not the same as extending credit, but still many principles apply.
We want to know the team is solid, the business can be profitable, the tokens will have liquidity, is the tech sound and so on. The SEC is also increasingly marking tokens as securities. Much like the railroads, we have so many ICOs without any process of monitoring them. Much like the Medici bank manager, we simply rely on market rumours to make investment decisions.
If we can learn anything from history, it’s that a centralised ratings processes do NOT work. A number of such services are active in the ICO market. Having been approached by several, we can say they all want money or tokens- which is the wrong incentive for an independent credit rating agency.
The World and ICOs require a sound incorruptible ratings system which allows for full market transparency, without any possibility of corruption. This not why blockchain tech was built in the first place as a responce to the banking crisis.
As an investor, we know opinions help make decisions, the wisdom of the crowd, and swarm theory along with blockchain technology allows us to create a solution that meets the needs of what has become the most pure form of capital raising ever to be conceived. At Ignite we believe in ICOs and making them sustainable. It’s time to enter a new era.
Read the white paper here: www.Igniteratings.com
Join our revolution by contributing today and help make ICOs sustainable.
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