Rating Agencies Ignored Risk

February 16, 2011 by · Leave a Comment
Filed under: FCIC, FDIC, The Rating Agencies 

Keith Johnson, the former president and chief operating officer of Clayton Holdings, testified before the Financial Crisis Inquiry Commission (FCIC) that Moody’s Investors Services, Standard & Poor’s and Fitch Ratings all ignored his company’s discovery that many mortgages that were being combined into securities during 2006 and 2007 were substandard.

Clayton reviewed more than 911,000 mortgages during 2006 and 2007 for large investment bankers who sold them as mortgage-backed securities.

Johnson told the FCIC that approximately 46% were “bad loans” based on unverified borrower information. He testified that, “We took this to the credit rating agencies and said, ‘Wouldn’t this information be great for you to have as you assign tranche levels of risk?'”

“While most said they loved it, none of them would have adopted it at that time. If anyone at that time had adopted they would have probably lost market share,” Johnson explained. “The issuers would have gone through the easier channel.”

FDIC Unsure How to Comply With Rating Agency Provisions

January 4, 2011 by · Leave a Comment
Filed under: FDIC, The Rating Agencies 

The Federal Deposit Insurance Corporation (FDIC) is seeking public comment on proposed rule changes for minimizing their use of credit ratings in bank capital rules as required by the Dodd-Frank Act.

Warren Buffett, Chairman of Berkshire Hathaway, whose firm is Moody’s biggest shareholder, was quoted by Colin Barr on Fortune.com as saying, “As problematic as ratings were in this crisis and the central role they played, finding an alternative is going to be very, very difficult.” FDIC Chairwoman Sheila Bair concurred by saying, “A year [the deadline imposed by the Dodd-Frank Act] is a short time frame.”

The FDIC has proposed, among other things, using credit spreads for calculating capital requirements. Critics warn that these provisions could be easily “gamed” and that the change could lead to problems worse than the current situation.

John Dugan, comptroller of the currency, said at a recent FDIC board meeting, “I do worry there is a little bit of throwing the baby out with the bathwater,” and he pushed for moderation. “While I hope we come up with credible alternatives, practical alternatives as a result of this process, I worry that we may not,” he said. “If we do not, one person’s view might be that Congress should take a second look at this if we [decide] that full swing was a little too far.” Dugan is right. Some ratings worked. Some didn’t. Let’s fix the broken multiple obligor model only.

LeMieux Amendment Would End NRSRO Designation

September 22, 2010 by · Leave a Comment
Filed under: Bond Regulation, FDIC, The Rating Agencies 

The financial regulatory reform bill that was passed by the Senate includes an amendment intended to “make banks, mutual funds and regulators do their own financial homework.” Sponsored by Senator George S. LeMieux (R-FL), the LeMieux-Cantwell provision was approved by a 61 to 38 vote.

It requires regulators such as the Federal Deposit Insurance Corporation to develop their own standards of creditworthiness instead of depending exclusively on credit rating agencies’ assessments. What’s more, the Lemieux-Cantwell amendment would eliminate the preference for ratings issued by a “nationally recognized statistical rating organization” (NRSRO) by removing references to it in regulations. Mr. LeMieux says these federal endorsements have created “a government-sponsored monopoly.”

This echoes Barney Frank’s language in the House bill. If rating agencies are so corrupt, and the ratings so wrong, let’s de-certify them and let investors do their own homework. If you can’t measure credit, you shouldn’t be in the game.