Monday, 7 March 2011

In Case You Were Thinking That Lawsuits Might Reform the Credit Raters ...

Well, think again.

Time to play connect the dots, with the New York Times getting us started in fine fashion. First, the article linked above notes a disturbing trend taking shape:
... since Dodd-Frank passed, Congress’s noble attempt to protect investors from misconduct by ratings agencies has been thwarted by, of all things, the Securities & Exchange Commission. The S.E.C., which calls itself “the investor’s advocate,” is quietly allowing the raters to escape this accountability.
What accountability? As Gretchen Morgenson tells us:
The Dodd-Frank financial reform law, enacted last year, imposed the same legal liabilities on Moody’s, Standard & Poor’s and other credit raters that have long applied to legal and accounting firms that attest to statements made in securities prospectuses. Investors cheered the legislation, which subjected the ratings agencies to what is known as expert liability under the securities laws.
Why would the SEC do anything that subverts Dodd-Frank so openly? Aren't these our brave regulators, our white knights (yes, with a fondness for porno, but what do you expect in the postmodern age)? Ah, but see, there was a problem when push came to shove on this "expert liability" point.
When Dodd-Frank became law last July, it required that ratings agencies assigning grades to asset-backed securities be subject to expert liability from that moment on. This opened the agencies to lawsuits from investors, a policing mechanism that law firms and accountants have contended with for years. The agencies responded by refusing to allow their ratings to be disclosed in asset-backed securities deals.
So basically, the credit rating services said, "We'll hold our breath until we turn blue."

And the SEC blinked. Actually, double-blinked. Check out this whopping beaut of negligence:
At the time, the S.E.C. said its action (i.e., the agency temporarily removed the "expert liability" threat and said it wouldn't bring enforcement actions against issuers that did not disclose ratings in prospectuses) was intended to give issuers time to adapt to the Dodd-Frank rules and would stay in place for only six months. But on Jan. 24, the S.E.C. extended its nonenforcement stance indefinitely.
Indefinitely. Golly, that has a sort of open-ended ring to it. Hey, let's face it: Like diamonds, indefinitely may be forever.

Okay, now let's do the New York Times one better and finish connecting the dots for them. Because left unanswered is a big question: why the hell are credit rating services so scared of being held responsible for how they grade asset-backed products?

Jeez, I think I know this one -- in fact I think I blogged this one -- twice over! Just go here for a full explanation:

The Ratings Charade Continues: a CLO Investigation, Part I
The Ratings Charade Continues: a CLO Investigation, Part II

You see, the credit rating companies can't afford to be held legally responsible for the grades they assign to asset-backed securities, such as collateralized loan obligations, because they know they would lose in court if these ratings were challenged! The ratings are clearly bogus. I show that above, using nothing more sophisticated than sixth-grade math.

Further, these companies must know their ratings on asset-backed securities are wrong, unless they're incompetent to a mind-blowing degree.

And now the SEC is giving Standard & Poor's and Moody's a free ride on their bogus ratings, aiding and abetting the crime ...

What a great country we live in, eh? Where does the U.S. rank on that global corruption scale again? ;)