Mission Impossible

December 11, 2009 by · Leave a Comment
Filed under: General 

The unworkable environment in which ratings agencies function is slowly coming to light.

It was discovered that while Goldman Sachs was selling $40 billion in securities in 2006 and 2007, backed by at least 200,000 risky home mortgages, they were secretly betting that a sharp drop in U.S. housing prices would send the value of those securities plummeting.

Goldman Sachs maintains that they were merely managing risk and had no disclosure burden under the Securities Act of 1933.  Maybe so, maybe not.  That is for the lawyers and courts to decide.

Nonetheless, it gives one pause when putting this issue into the context of a rating agency.  How incredibly difficult it must be to assess a security given the initial paucity of information, the underwriter’s efforts to keep as much information buried as possible, and the pressure from the rating agency’s internal organization (tacit if not overt) to give clients high ratings.

For rating agencies to be effective again, they need greater access to information, they need to be free of conflicts of interest, and they need regulation to ensure they get both.

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