Earnings & Credit Ratings

In reading this article about GE on Bloomberg, I felt the need to write about the distinction between earnings reports and concerns over credit ratings. The two are separate and one does not directly depend on the other.

Credit ratings are simply that: relative evaluations of a company's creditworthiness or its ability to repay its loans. The difficulty arises from the fact that we tend to try and relate the stories we read to our own experiences. We know, for example, that the loss of a job will directly impact our credit rating and consequently the cost of borrowing to buy a home or car - as it should. Although this is accurate, it's not wholly relevant when discussing a company such as GE.

A lower earnings report is not the same as the loss of a job; it's more akin to rising expenses. Your personal credit rating may rise if you suddenly have mounting medical bills to pay, but it's probably not going to change as a result of the higher cost of oil. The important thing to note is the magnitude of the change relative to our overall wealth. In the case of GE, that wealth is significant. When GE reports lower earnings for the quarter, its rating is certainly not going to change. The reason is that this is likely both insignificant in light of its overall market capitalization as well as likely to be a temporary glitch in its continued profitability. Should GE show similarly weak earnings on an ongoing basis, however, then there may be cause for concern as this would tend to indicate signs of trouble within the company and not necessarily as a result of general market or economic conditions.

To make a long story short, it's easy to be swayed by an article that presents the facts in a way that is designed to stir discussion and either increase page views or newspaper sales. As with any information, consider the facts in light of the other information available to you.