Trouble for NRSROs
Filed under: Bond Regulation, The Rating Agencies, The Ratings System
Senate grandstanding by Levin aside, this does not help the NRSROs’ case.
The headline oversimplifies the story, but the truth is some NRSRO employees saw the conflict and worried about it, while some charged full steam ahead. This is ultimately a management problem. There are inherent potential conflicts of interest in a seller pays ratings model.
Everyone knows this. This horse has already left the barn.
It is impossible to legislate all capital market behavior. Regulation should be observational. We need to set up rules of conduct, keep a level playing field and referee the game, not become part of the game. It is bad public policy when government picks winners and losers.
This still does not address the completely under-reported part of the entire ratings debate: Doesn’t the buyer bear some responsibility for his own action? If you relied on the rating and didn’t do your own due diligence, who is to blame?
Lots of investors didn’t buy these complicated investments, despite the high yield and AAA rating.
Senate panel: Ratings agencies rolled over for Wall Street – McClatchy Newspapers, April 22, 2010
FHLB Seattle Sues Wall Street
FHLB Seattle, forced by regulators to write down millions in downgraded MBS last year , has effectively sued all of Wall Street for selling them $4 Billion in inappropriately underwritten MBS. This action accuses the Street of intentionally selling MBS that was underwritten with lax standards, didn’t have proper documentation or supported by documentation that was “untrue.”
This is a huge new front in the ongoing war between investors and the street for responsibility. Did the Street knowingly sell toxic securities? Did the ratings agencies turn a blind eye to the shortcomings of the new issues to generate fees, or were they “gamed” by Wall Street? Do investors bear all of the responsibility for their decisions? Is it cavet emptor all the time? What if you bought securities under false pretenses?
FHLB Seattle is a formidable and serious litigant. The risk of the responsibility for “bad” loans being put back to the underwriter just went higher.
[$$]Mortgage Suit Targets the Street – WSJ.com, February 16, 2010
Back to the Drawing Board…Why?
The SEC. seems to be going back to the same old regulatory structure. Last year, money market funds showed stress, and the US government prevented the funds from breaking the buck.
In the future, don’t we want investors to bear the cost of their own decisions? Do we want the government to remove moral hazard? If you invest, isn’t there any “caveat emptor”?
The Journal takes the SEC to task. Is this what the SEC really meant to do?
[$$] The SEC v. Investors – Wall Street Journal, February 3, 2010
Good News for Life Insurers
The insurance industry regulators have prevailed. The rule change is in effect and billions in capital has not been squandered. This common sense approach to capital measurements takes into account the economic value of a bond and its cost basis.
When determining the value of anything, isn’t what you paid for it important?
For example: If I paid $70 for a $100 face value bond, and I received $90 at maturity, is that good or bad? One correct answer is “it depends on what you were expecting….”
But the FACT that you received $20 more than you paid for it should count for something.
[$$] For Insurers, a $5 Billion Benefit – Wall Street Journal, January 15, 2010
NAIC Saves Capital
Well, they got it done.
The National Association of Insurance Commissioners saved an approximately $5B in industry capital by ignoring the NRSRO ratings and using a recognized 3rd party to evaluate mortgage backed securities. The NAIC understood that the rating only described the first dollar of loss, not the magnitude of loss, and that strict use of ratings would unnecessarily drain precious capital out of the industry at exactly when they could least afford it.
PIMCO was interviewed and hired, and they subsequently evaluated thousands of CUSIPs to make the MBS valuations for the industry before year end. This independent, third party, global, fixed income institution was employed to make valuations impartially and consistently across the industry.
Three cheers in the New Year for the NAIC. This is a textbook example of regulators using market resources to make regulation fair, appropriate and realistic.
[$$] Insurance Rule Adds Up to $5 Billion – Wall Street Journal, January 4, 2010
Is the Tide Turning?
While not directly related to ratings, which is the main topic of this blog, the article below discusses a key related issue: capital shortages at banks and their drag on lending. A revamp of the ratings system could actually help address this problem because a carefully crafted restructuring of the way securities are rated and a corresponding restructuring of how regulators use these ratings would increase regulatory capital at institutions. How? Under the current system, securities that are rated below investment grade are treated as entirely toxic and drain capital from the banks that own them. In many cases, only a small portion of these securities has been deemed uncollectible and therefore the entire security is not actually toxic. Designed correctly, a new ratings system and cohesive regulatory framework would treat only the portion of assets at risk of loss as “toxic” and therefore would not punish a bank’s capital levels for the collectible portion. The result would be a more accurate, reflective calculation of capital that would also increase capital at many banks as it relates to multi-obligor securities.
In the meantime, we can draw some solace from the fact that the White House is at least communicating that they are listening and are aware of the challenges imposed on banks that are keeping them from lending. The flipside is that at least up to this point it appears the White House has very little practical influence on regulators, who have a different point of view.
Obama Pledges Support for Small Banks to Spur Lending – Bloomberg.com, December 23, 2009
Don’t Put All Your Ratings in One Basket
Filed under: The Rating Agencies, The Ratings System
Regulatory over-reliance on ratings isn’t just a U.S. problem. As we have seen here in the U.S., using ratings as the ultimate measure of value is dangerous.
Ratings are too blunt a tool to measure economic value. It makes the ratings agencies the default arbiter of capital levels. The stakes are too high to use a single statistic measure.
ECB Must End Moody’s Veto on Greek Debt, Goldman Says – Bloomberg, December 18, 2009
Muni Changes in the Works?
Congress is mandating “best practices.” Should we be measuring munis like corporates?
I’m not sure upgrading all muni bonds during a recession is the best idea. We will have to see what the Senate version looks like.
Stay tuned…
[$$] Issuers Looking Closely at Rating Provision, The Bond Buyer, December 14, 2009
The Blame Game Continues
The Attorney General strikes again. Eight different lawsuits assigning blame away from Ohio State’s pension committees. Just enough fact, and plenty of assertion to make a suit look reasonable.
The ratings agencies KNEW the ratings were wrong, but “succumbed to the attraction of higher fees.”
Ohio’s AG , California’s AG , Connecticut’s AG, CALPERS.
15 YARDS FOR PILING ON………………………….
[$$] Ohio Attorney General Files Suit Alleging Collusion on ABS Ratings – The Bond Buyer, November 24, 2009
Passing the Blame
Ohio A.G. jumps on the bandwagon. This is called “assignation of blame.” This story isn’t complete. I want to know:
- What they bought?
- When did they buy it?
- Who did they buy it from?
If they really were taken advantage of, did they:
- Sue the broker?
- Fire the portfolio manager?
These days, unfortunately, as populism rages, and risk is somebody else’s problem, this guy might win.
S&P, Moody’s and Fitch Are Sued by Ohio Over Ratings – Bloomberg.com, November 20, 2009
