Brian Clarkson Vague About His Time As Moody’s President
The New York Times reported on the private testimony Brian Clarkson gave to the Financial Crisis Inquiry Commission (FCIC) in May 2010. Mr. Clarkson was president of Moody’s Investors Service until his retirement in 2008. His FCIC testimony was recently made public.
Commissioners asked Mr. Clarkson about former Moody’s analysts who testified during congressional hearings that executives bullied them into assigning triple-A ratings. Analysts complained that those who did not cooperate were either terminated or suspended.
Mr. Clarkson said that he did remember complaints about how some of Moody’s analysts were “not playing ball with Wall Street.” However, Mr. Clarkson could not “recall specific bankers” who complained or personnel changes that resulted from the complaints. He said that he personally did not fire anyone, and could not recall any discussions about firing employees.
When Mr. Clarkson was asked if Moody’s extended discounts to banks that sought ratings, The New York Times reports that he replied, “I don’t know.” When asked about Moody’s changing the prices that it charged Wall Street in 2001, Mr. Clarkson said, “I don’t recall specific fee structures.”
SEC Rule 17g-5 is Stifling Deal Discussions
The Securities and Exchange Commission’s Rule 17g-5 was intended to introduce greater transparency and discourage credit ratings shopping. In practice it has made raters and issuers nervous to speak openly.
The rule requires that credit rating agencies share confidential loan-level arranger-provided information with other rating agencies on a password-protected website. Likewise, any verbal conversations, including phone calls and texts, must be recorded and documented on the website.
Rui Pereira, head of U.S. residential mortgage-backed securities at Fitch is quoted by Reuters as saying, “People are so concerned about litigation and risks that the operational review and ratings process has become a lot more complicated…Any questions about a deal must be e-mailed, and sent ahead of time.”
Another senior analyst from a different rating agency told Reuters , “Communication is ridiculous…I call an issuer with a question and he says, ‘I can’t answer that. E-mail that question to me and I’ll get back to you.’ It was so easy in the past. You just get on the phone to discuss it. With 17g-5, you eventually get the information you want, but it takes the longest way to get there.”
Although the rule’s purpose was to promote an equitable flow of information and motivate unsolicited ratings, it hasn’t worked. Since the rule went into effect, no rating agencies have issued an unsolicited rating.
CDS Market to Measure Creditworthiness?
William Mast, writing for Hemscott, explored the possibility of replacing rating agency evaluations with credit-default-swap (CDS) market pricing to predict creditworthiness. He suggested that CDS pricing was a more fluid, market-driven metric to gauge the health of an issuer.
He explains that one of the main criticisms of the rating agencies is that their view is limited to the historical analysis from a single point-in-time. A better model for measuring creditworthiness would be to use real-time information.
Mr. Mast writes, “Despite some technical pressures and, at times, lack of liquidity, the CDS market nevertheless provides the purest independent measure of how the market perceives the prospects of a given entity. This raises a question: If appropriately harnessed and interpreted, can the signals provided by the CDS market improve investors’ ability to anticipate changes in an issuer’s creditworthiness? There’s a body of research that suggests the answer is yes.”
He admits that the public’s concern over a perceived lack of transparency and regulation in the CDS markets needs to be addressed before it can be a viable evaluator. However, he cites among other research findings how, “In 2008, Fitch Solutions used CDS pricing to build market-implied ratings and concluded thatthere is a clear ability to forecast future rating actions by examining CDS premiums.”
The lack of broad and deep CDS markets across all asset classes are also a limiting factor in their use.
Credit Rating Agencies Form New Trade Group
The Credit Rating Agency Constituency Group (CRA-CG) is a new constituency group for credit rating agencies that currently includes Moody’s Investors Service, Fitch Ratings, and Standard & Poor’s. The group has been formed within the Financial Information Services Division (FISD) of the Software & Information Industry Association (SIIA), and the CRA-CG is open to having other Nationally Recognized Statistical Rating Organizations join.
According to their press release, the CRA-CG’s mission is to “develop best practices regarding compliance with regulatory requirements and facilitate communications within the credit rating industry with its various stakeholders.”
FISD Managing Director Tom Davin welcomed the new group and said that this is the ideal forum for the credit rating agencies to discuss the challenges facing their industry. “Those challenges have been the subject of significant legislative, regulatory and media attention over the past two years. We are delighted to be able to provide a home for these companies as they confront a new and more challenging business environment.”
Moody’s Walt Winrow, Group Managing Director Global Project & Infrastructure Finance added, “the credit rating agencies really need a setting to discuss critical issues among our peers, and FISD/SIIA can provide a productive home for us.”
SEC Eliminates Ratings Requirement
In a 5-0 vote the Securities and Exchange Commission (SEC) proposed that key
documents intended to expedite the securities offering process no longer require a ratings reference. This action is part of broader initiative required by the Dodd-Frank financial reform law to eliminate ratings reference from all federal rules.
If the proposal is implemented, S-3 and F-3 “short form registration” documents that help to speed the offering process for selling securities “off the shelf” would no longer require that the company offering the bonds show the debt was given an investment-grade rating. Instead the SEC would require that the company be a “well-known, seasoned issuer.”
An SEC study suggests that if this regulation had been implemented between 2006 and 2008, 45 of about 1000 companies that issued debt securities would not have been eligible to use the expedited form.
Market Knows Best
I agree—how can the rating agencies’ evaluations be worthless and yet be the de-facto measurement for establishing bank capital measures?
I agree—let’s have the ratings be allowable metrics for creditworthiness, but not the sole determinate of credit quality. They never were meant to be, or defined, that way. Politicians, regulators and investors had all better get to a common definition of what a rating tells us, before we all decide how they can be used.
Then, let’s allow market forces determine winners and losers.
MBS Issuers Boycotting S&P
RBS, Wells Fargo and Bank of America are no longer using Standard & Poor’s to rate their mortgage-backed securities. The core of the dispute is how Standard & Poor’s has chosen to respond to Section 933 of the Dodd-Frank Wall Street Reform and Consumer Protection Act. The section holds agencies liable for losses if investors can prove that ratings were not based on reasonable assessments of underlying data.
Whereas all of the leading rating agencies – Moody’s Investor Services, Standard & Poor’s and Fitch Ratings – have sought indemnification in deal documents, Fitch and Moody’s have apparently been flexible while Standard & Poor’s has not.
Standard & Poor’s has gone so far as to claim the right to sue a bank if the agency’s ratings were based on incomplete or inaccurate information about a deal that the bank provided. ABAlert.com quotes a Standard & Poor’s insider as claiming, “We hold them liable for the accuracy of their information…That’s what they really don’t like.”
Standard & Poor’s is now working with the Securities Industry and Financial Markets Association to resolve their conflict with the banks.
SEC Denies Dagong Registration
China’s largest credit rating firm, Dagong Global Credit Rating Co. was denied status as an officially recognized bond rater in the United States. The Securities and Exchange Commission (SEC) explained that Dagong’s proposal to have China’s securities regulator review all correspondence between the SEC and Dagong would be inconsistent with federal securities law. Dagong argued that it was necessary to have their securities regulator vet and broker correspondence to insure no state secrets were inadvertently released.
The SEC also denied the application because “it does not appear possible at this time for Dagong to comply with the recordkeeping, production, and examination requirements of the federal securities laws.”
Dagong being a foreign agency did not influence the SEC’s decision. Fitch Ratings is a Nationally Recognized Statistical Rating Organization (NRSRO) and they are part of the French company. Likewise, DBRS Inc. is an NRSRO and they are Canadian.
Never before has a firm been denied NRSRO status. An NRSRO designation makes it possible for a firm’s ratings to be used as benchmarks in U.S. laws and regulations.
Hong Kong Proposes New Credit Rating Agency Regulation
Hong Kong’s Securities and Futures Commission (SFC) has proposed new licensing and supervision of credit rating agencies. The stated goals, as quoted by Maureen Whalen when writing for Lexology, are to “mandate minimum conduct standards for CRAs, including requirements that credit rating activities be conducted in accordance with principals [sic] of integrity, transparency, responsibility and good governance” and “ensure that ratings prepared in Hong Kong continue to be serviceable in other jurisdictions, including for regulatory purposes.”
The proposed legislation would necessitate minimum capital requirements for all credit rating services activity, and credit rating agencies would be required to separate their credit rating business from other types of business.
The new rules are planned to be implemented by the end of January 2011. Comments on the proposal are due by August 20, 2010.
EU Looks to Launch Rating Agency In Mid-2011
Michel Barnier, the European Union’s (EU) financial services commissioner announced at a press conference that they will create “a new [rating] agency, particularly with a European dimension” and “new ways of dealing with sovereign debt ratings by the middle of 2011.”
The European Council presented their plan at a recent meeting of EU finance ministers and central bank heads in Brussels. In a copy of the proposal secured by Bloomberg News, the council rationalized the initiative by saying that the “economic and political implications” of sovereign-debt ratings mean “it is particularly important that ratings of this asset class be accurate, timely and transparent.”
At the same meeting, ministers discussed rules to force rating companies to disclose reasons for changing a sovereign-debt rating. Following the meeting, Swedish Finance Minister Anders Borg also made clear that ministers were “ready to discuss” fines for ratings companies who mislead investors with poor quality ratings.
