Ratings…the way forward
On Friday, July 17, 2009 16:34 by Sudip BandyopadhyayCredit rating agencies have been among the whipping boys of the financial crisis. They have been criticised for what they were responsible for – awarding triple A ratings to securitised debt products they did not understand. They have been criticised for what they were not responsible for – investors’ overreliance on ratings to guide investments. And they have been criticised for their “issuer pays” business model, which even agencies admit is riddled with conflicts of interest. Even Warren Buffet – who has a 20 per cent stake in Moody’s and normally wears, eats and reads the products made by companies he owns – says he does not believe in using its ratings. Increasingly, other investors believe the same.
Under Basel II, agencies were unwittingly but profitably plugged into the regulatory process as their ratings were used to gauge the riskiness of banks’ portfolios. This quasi-regulatory role will rightly diminish. The Bank of England has said it will think “very hard” about its reliance on ratings. Sure, agencies will continue their mostly accurate work rating sovereign and corporate bonds. The way they earn a living may also remain unchanged: Investor – or regulator-pays alternatives have conflicts of interest too.
International Financial Markets will have to work very hard to resolve these dilemas & conflicts attached to such a critical part of the market economy.
sukumar shastri says:
July 18th, 2009 at 4:48 pm
Dear Sudip, policymakers in the US are now grappling with how to revamp the credit rating agencies, such as McGraw-Hill Cos Inc’s (MHP.N) Standard & Poor’s and Moody’s (MCO.N), which have been accused of contributing to the financial crisis by assigning top ratings to mortgage-backed securities that later collapsed in value. Even a Legislation has been introduced in the Senate that would allow investors to sue credit rating agencies that recklessly failed to review key information in developing a rating.
The bill introduced by Senator Jack Reed, the chairman of the Senate Banking subcommittee on securities, aims to hold rating agencies liable when it can be proven that the firms knowingly failed to review data for determining a rating based on their methodology or failed to reasonably verify data. The SEC is also looking at creating a “roadmap” to lessen reliance on credit ratings and has assigned a special squad of examiners to inspect rating agencies.
The SEC has already adopted some rules that would require more disclosures about the assets underlying mortgage-backed securities.
And the agency has proposed removing references to credit ratings in most of its rules, but the idea is strongly opposed by Wall Street.
Federal securities laws are intertwined with the credit rating agencies, with references to ratings in dozens of SEC rules.
Incidentally,
Schapiro has also directed SEC staff to consider new rules to prevent companies from shopping around for favorable ratings.
It is also learnt that SEC staff are exploring requiring banks and other bond issuers to disclose the preliminary ratings obtained from credit rating agencies before they select the credit agency to publicly rate their product.
The SEC is also mulling requiring credit agencies to privately disclose the underlying data of structured products so that other rating agencies could provide an unsolicited rating on the product.