DOCSLIB.ORG

Credit Rating Agencies and the Subprime Crisis

Total Page：16

File Type：pdf, Size：1020Kb

Download full-text PDF Read full-text
Credit Rating Agencies and the Subprime Crisis Credit rating agencies and the subprime crisis From Wikipedia, the free encyclopedia Main article: Subprime mortgage crisis Credit rating agencies played a very important role at various stages in the subprime crisis. They have been highly criticized for understating the risk involved with new, complex securities that fueled the United States housing bubble, such as mortgage-backed securities (MBS) and collateralized debt obligations (CDO). The Financial Crisis Inquiry Commission reported in January 2011 that: "The three credit rating agencies were key enablers of the financial meltdown. The mortgage-related securities at the heart of the crisis could not have been marketed and sold without their seal of approval. Investors relied on them, often blindly. In some cases, they were obligated to use them, or regulatory capital standards were hinged on them. This crisis could not have happened without the rating agencies. Their ratings helped the market soar and their downgrades through 2007 and 2008 wreaked havoc across markets and firms."[1] Contents [hide] 1 Impact on the crisis 2 Competitive pressure to lower rating standards 3 Conflicts of interest 4 SEC Investigation 5 Rating actions during the crisis 6 Actions taken to improve rating approach 7 External links 8 References [edit]Impact on the crisis Credit rating agencies are now under scrutiny for giving investment-grade, "money safe" ratings to securitization transactions (CDOs and MBSs) based on subprime mortgage loans. These high ratings encouraged a flow of global investor funds into these securities, funding the housing bubble in the U.S.[2] An estimated $3.2 trillion in loans were made to homeowners with bad credit and undocumented incomes (e.g., subprime or Alt-A mortgages) between 2002 and 2007. These mortgages could be bundled into MBS and CDO securities that received high ratings and therefore could be sold to global investors. Higher ratings were believed justified by various credit enhancements including over-collateralization (i.e., pledging collateral in excess of debt issued), credit default insurance, and equity investors willing to bear the first losses. Economist Joseph Stiglitz stated: "I view the rating agencies as one of the key culprits...They were the party that performed the alchemy that converted the securities from F-rated to A-rated. The banks could not have done what they did without the complicity of the rating agencies." Without the AAA ratings , demand for these securities would have been considerably less. Bank writedowns and losses on these investments totaled $523 billion as of September 2008.[3][4] [edit]Competitive pressure to lower rating standards The ratings of these securities was a lucrative business for the rating agencies, accounting for just under half of Moody's total ratings revenue in 2007. Through 2007, ratings companies enjoyed record revenue, profits and share prices. The rating companies earned as much as three times more for grading these complex products than corporate bonds, their traditional business. Rating agencies also competed with each other to rate particular MBS and CDO securities issued by investment banks, which critics argued contributed to lower rating standards. Interviews with rating agency senior managers indicate the competitive pressure to rate the CDO's favorably was strong within the firms. This rating business was their "golden goose" (which laid the proverbial golden egg or wealth) in the words of one manager.[5] Author Upton Sinclair (1878–1968) famously stated: "It is difficult to get a man to understand something when his job depends on not understanding it."[6] This competitive pressure and the resulting profits gave a personal financial incentive to management to lower standards. Internal rating agency emails from before the time the credit markets deteriorated, discovered and released publicly by U.S. congressional investigators, suggest that some rating agency employees suspected at the time that lax standards for rating structured credit products would produce negative results.[7] For example, one email between colleagues at Standard & Poor'sstates "Rating agencies continue to create and [sic] even bigger monster--the CDO market. Let's hope we are all wealthy and retired by the time this house of cards falters."[8] [edit]Conflicts of interest Critics claim that conflicts of interest were involved, as rating agencies are paid by the firms that organize and sell the debt to investors, such as investment banks.[9] John C. Bogle wrote in 2005 that there is an inherent conflict of interest when a professional firm is also publicly traded, as the pressure to grow and increase profits is relatively stronger, which may detract from the quality of work performed.[10] Moody's became a public firm in 2001, while Standard & Poor's is part of the publicly traded McGraw-Hill Companies. Attempts to regulate more strictly credit rating agencies in the wake of the European sovereign debt crisis have been rather unsuccessful. Some European financial regulation experts have argued that the hastily drafted, unevenly transposed in national law, and poorly enforced EU Rule on Rating Agencies known as Règlement CE n° 1060/2009 has had little effect on the wayfinancial analysts and economists interpret data or potential conflict of interests created by the complex contractual arrangements between credit rating agencies and their clients [11] [edit]SEC Investigation On 11 June 2008 the U.S. Securities and Exchange Commission proposed far-reaching rules designed to address perceived conflicts of interest between rating agencies and issuers of structured securities. The proposal would, among other things, prohibit a credit rating agency from issuing a rating on a structured product unless information on assets underlying the product was available, prohibit credit rating agencies from structuring the same products that they rate, and require the public disclosure of the information a credit rating agency uses to determine a rating on a structured product, including information on the underlying assets. The last proposed requirement is designed to facilitate "unsolicited" ratings of structured securities by rating agencies not compensated by issuers.[12] [edit]Rating actions during the crisis MBS Credit Rating Downgrades, By Quarter Rating agencies lowered the credit ratings on $1.9 trillion in mortgage backed securities from Q3 2007 to Q2 2008, another indicator that their initial ratings were not accurate. This places additional pressure on financial institutions to lower the value of their MBS. In turn, this may require these institutions to acquire additional capital, to maintain capital ratios. If this involves the sale of new shares of stock, the value of existing shares is reduced. In other words, ratings downgrades pressure MBS and stock prices lower.[13] As of July 2008, Standard & Poor's (S&P) had downgraded 902 tranches of U.S. residential mortgage backed securities (RMBS) and CDOs of asset-backed securities (ABS) that had been originally rated "triple-A" out of a total of 4,083 tranches originally rated "triple-A;" 466 of those downgrades of "triple-A" securities were to speculative grade ratings. S&P had downgraded a total of 16,381 tranches of U.S. RMBS and CDOs of ABS from all ratings categories out of 31,935 tranches originally rated, over half of all RMBS and CDOs of ABS originally rated by S&P.[14] Since certain types of institutional investors are allowed to only carry investment- grade (e.g., "BBB" and better) assets, there is an increased risk of forced asset sales, which could cause further devaluation.[15] [edit]Actions taken to improve rating approach Credit rating agencies help evaluate and report on the risk involved with various investment alternatives. The rating processes can be re-examined and improved to encourage greater transparency to the risks involved with complex mortgage-backed securities and the entities that provide them. Rating agencies have recently begun to aggressively downgrade large amounts of mortgage-backed debt.[16] In addition, rating agencies have begun taking action to address perceived or actual conflicts of interest, including additional internal monitoring programs, third party reviews of rating processes, and board updates.[17] [edit]External links "Morgan Stanley Plans to Turn Downgraded Loan CDO Into AAA Bonds", Pierre Paulden, Caroline Salas and Sarah Mulholland, bloomberg.com, July 8, 2009 [edit]References 1. ^ FCIC Final Report-Conclusions-January 2011 2. ^ NPR-The Giant Pool of Money 3. ^ Bloomberg-Smith-Bringing Down Ratings Let Loose Subprime Scourge 4. ^ Bloomberg-Smith-Race to Bottom at Rating Agencies Secured Subprime Boom, Bust 5. ^ Bloomberg-Smith-Race to Bottom at Rating Agencies Secured Subprime Boom, Bust 6. ^ Quote-Sinclair 7. ^ [|U.S. House of Representatives Committee on Government Oversight and Reform] (2008-10- 22). "Committee Holds Hearing on the Credit Rating Agencies and the Financial Crisis". Archived from the original on 2012-06-06. Retrieved 2008-10-23.[dead link] 8. ^ Meyer, Chris (2006-12-15). "Email to Belinda Ghetti and Nicole Billick" (PDF). Retrieved 2008-10-23.[dead link] 9. ^ "Credit and blame". The Economist. 2007-09-06. 10. ^ Bogle, John (2005). The Battle for the Soul of Capitalism. Yale University Press. ISBN 978-0-300-11971- 8. 11. ^ M. Nicolas Firzli & Vincent Bazi (Q4 2011). "Infrastructure Investments in an Age of Austerity : The Pension and Sovereign Funds Perspective". Revue Analyse Financière, volume 41, pp. 34-37. Retrieved 30 July 2011. 12. ^ "SEC Proposes Comprehensive Reforms to Bring Increased Transparency to Credit Rating Process". 2008. Retrieved 2008-07-2008. 13. ^ Fortune Article 14. ^ "Structured Finance Rating Transitions". 2008. Retrieved 2008-07-2008. 15. ^ "Credit markets". The Economist. 2007-11-08. Retrieved 2008-05-19. 16. ^ "S&P downgrades ratings on 1,413 classes of subprime-backed securities worth $22.02 billion - International Herald Tribune". 2008. Retrieved 2008-05-19. 17. ^ S&P Rating Process Oversight .
Load more

Recommended publications
  • Credit Ratings and Rating Agencies
    Credit Ratings and Rating Agencies Credit Ratings and Rating Agencies Miles Livingston and Lei Zhou Subject: Financial Economics Online Publication Date: Aug 2020 DOI: 10.1093/acrefore/9780190625979.013.605 Summary and Keywords Credit rating agencies have developed as an information intermediary in the credit mar­ ket because there are very large numbers of bonds outstanding with many different fea­ tures. The Securities Industry and Financial Markets Association reports over $20 trillion of corporate bonds, mortgaged-backed securities, and asset-backed securities in the Unit­ ed States. The vast size of the bond markets, the number of different bond issues, and the complexity of these securities result in a massive amount of information for potential in­ vestors to evaluate. The magnitude of the information creates the need for independent companies to provide objective evaluations of the ability of bond issuers to pay their con­ tractually binding obligations. The result is credit rating agencies (CRAs), private compa­ nies that monitor debt securities/issuers and provide information to investors about the potential default risk of individual bond issues and issuing firms. Rating agencies provide ratings for many types of debt instruments including corporate bonds, debt instruments backed by assets such as mortgages (mortgage-backed securi­ ties), short-term debt of corporations, municipal government debt, and debt issued by central governments (sovereign bonds). The three largest rating agencies are Moody’s, Standard & Poor’s, and Fitch. These agen­ cies provide ratings that are indicators of the relative probability of default. Bonds with the highest rating of AAA have very low probabilities of default and consequently the yields on these bonds are relatively low.
    [Show full text]
  • Bank Ratings: What Determines Their Quality?
    WORKING PAPER SERIES NO 1484 / OCTOBER 2012 BANK RATINGS WHAT DETERMINES THEIR QUALITY? Harald Hau, Sam Langfield and David Marques-Ibanez ,QDOO(&% SXEOLFDWLRQV IHDWXUHDPRWLI WDNHQIURP WKH»EDQNQRWH NOTE: This Working Paper should not be reported as representing the views of the European Central Bank (ECB). The views expressed are those of the authors and do not necessarily reflect those of the ECB. Note This is a preliminary version of a paper prepared for the 56th panel meeting of Economic Policy, October 2012. Acknowledgements Opinions expressed herein are those of the authors only. They do not necessarily reflect the views of, or involve any responsibility for, the institutions to which they are affiliated. Any errors are the fault of the authors. We are indebted to Thomas Drechsel and Matthias Efing for excellent research assistance and to Johannes Micheler and Antonia Simeonova for providing data and code. Allen Berger, Oliver Burkart, Jean-Pierre Danthine, Matthias Efing, Artus Galiay, Zijun Liu, Simone Manganelli, Jose Geli Manzano, John Muellbauer, Steven Ongena, Alex Popov, Ana Rita Ribeiro Mateus, Andrei Sarychev, Frank Smets, Balázs Zsámboki and four anonymous referees provided helpful comments. The Managing Editor in charge of this paper is Philip Lane. Harald Hau at University of Geneva, Rue du Général- Dufour 24, 1211 Genève 4, Schweiz, Swiss Finance Institute and CEPR; e-mail: [email protected] Sam Langfield at European Systemic Risk Board Secretariat and UK Financial Services Authority; e-mail: [email protected] David Marques-Ibanez at European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany; e-mail: [email protected] © European Central Bank, 2012 Address Kaiserstrasse 29, 60311 Frankfurt am Main, Germany Postal address Postfach 16 03 19, 60066 Frankfurt am Main, Germany Telephone +49 69 1344 0 Internet http://www.ecb.europa.eu Fax +49 69 1344 6000 All rights reserved.
    [Show full text]
  • The Role of Credit Rating Agencies in Structured Finance Markets
    THE ROLE OF CREDIT RATING AGENCIES IN STRUCTURED FINANCE MARKETS FINAL REPORT TECHNICAL COMMITTEE OF THE INTERNATIONAL ORGANIZATION OF SECURITIES COMMISSIONS MAY 2008 BACKGROUND TO THE TASK FORCE WORK In 2003, the Technical Committee of the International Organization of Securities Commissions formed a task force of its members’ principal representatives to study issues related to the activities of credit rating agencies (CRAs). This Chairmen’s Task Force on Credit Rating Agencies (frequently referred to as the CRA Task Force) issued a report in September 2003 describing the role CRAs play in the global capital market and issues that CRAs currently face that may have an impact on the quality of the credit ratings they publish.1 At the same time that the Technical Committee published this report, it also published a set of principles that regulators, CRAs and other market participants might follow as a way to better guard the integrity of the rating process and help ensure that investors are provided with ratings that are timely and of high quality.2 The IOSCO CRA Principles are high-level and meant to be used by CRAs of all types and sizes, using all types of methodologies, and operating under a wide variety of legal and market environments. Shortly after the release of the IOSCO CRA Principles, several CRAs advised IOSCO’s Technical Committee that it would be helpful to them and other market participants, if the Technical Committee were to describe in more detail how the IOSCO CRA Principles might be applied in practice. Subsequently, the CRA Task Force drafted the Code of Conduct Fundamentals for Credit Rating Agencies (IOSCO CRA Code of Conduct)3 designed to serve as a model upon which CRAs could base their own codes of conduct as a way of implementing the IOSCO CRA Principles.
    [Show full text]
  • Lesson 41: Credit Rating: the Process
    MANAGEMENT OF FINANCIAL SERVICES LESSON 41: CREDIT RATING: THE PROCESS Lesson Objectives A direct dialogue is maintained with the issuer company as · To understand the process of credit rating, mechanism of this enables the CRAs to incorporate non-public credit rating, information in a rating decision and also enables the rating’ to be forward looking. The topics discussed during the Credit Rating Process management meeting are wide ranging including The rating process begins with the receipt of formal request competitive position, strategies, financial policies, historical from a company desirous of having its issue obligations rated performance, risk profile and strategies in addition to by credit rating agency. A credit rating agency constantly moni- reviewing financial data. tors all ratings with reference to new political, economic and 5. Presentation of findings: After completing the analysis, financial developments and industry trends. The process/ the findings are discussed at length in the Internal procedure followed by all the major credit rating agencies in the Committee, comprising senior analysts of the credit rating country is almost similar and usually comprises of the follow- agency. All the issue having a bearing on rating are ing steps. identified. An opinion on the rating is also formed. The 1. Receipt of the request: The rating process begins, with the findings of the team are finally presented to Rating receipt of formal request for rating from a company Committee. desirous of having its issue obligations under proposed instrument rated by credit rating agencies. An agreement is 6. Rating committee meeting: This is the final authority for entered into between the rating agency and the issuer assigning ratings.
    [Show full text]
  • Credit Rating Agencies and the Financial Crisis: Less Regulation of Cras Is a Better Response
    Credit Rating Agencies and the Financial Crisis: Less Regulation of CRAs Is a Better Response Lawrence J. White* Forthcoming: Journal of International Banking Law and Regulation Abstract The central role that the three large U.S.-based rating agencies played in the subprime mortgage lending debacle and the subsequent financial crisis has led to expanded regulation of the rating agencies and political calls for considerably more regulation. The advocates of this policy route, however, ignore the history of how the rating agencies came to occupy a central place in the provision of bond creditworthiness information; and they ignore the dangers that more regulation will raise the barriers to entry into and decrease innovation in the provision of bond creditworthiness information. A better policy route would be to reduce the regulation of the rating agencies while reforming the prudential regulation of financial institutions’ bond portfolios, by eliminating regulatory reliance on ratings. This would allow financial institutions to obtain their bond creditworthiness information from a wider range of sources, which would encourage new methodologies, new technologies, new procedures, and possibly even new business models. Since the transactors in bond markets are predominantly institutional bond managers, less regulation of the information providers would be appropriate. Key words: Credit rating agency; nationally recognized statistical rating agency (NRSRO); financial crisis; regulation JEL codes: G28, K23 * Lawrence J. White is Professor of
    [Show full text]
  • Chapter – 12 Credit Rating Agencies
    Chapter – 12 Credit Rating Agencies Meaning of Credit Rating A credit rating is a quantified assessment of the creditworthiness of a borrower in general terms or with respect to a particular debt or financial obligation. A credit rating can be assigned to any entity that seeks to borrow money—an individual, corporation, state or provincial authority, or sovereign government. Individual credit is scored from by credit bureaus such as Experian and TransUnion on a 3-digit numerical scale using a form of Fair Isaac (FICO) credit scoring. Credit assessment and evaluation for companies and governments is generally done by a credit rating agency such as Standard & Poor’s (S&P), Moody’s, or Fitch. These rating agencies are paid by the entity that is seeking a credit rating for itself or for one of its debt issues. Definition of 'Credit Rating' Definition: Credit rating is an analysis of the credit risks associated with a financial instrument or a financial entity. It is a rating given to a particular entity based on the credentials and the extent to which the financial statements of the entity are sound, in terms of borrowing and lending that has been done in the past. Description: Usually, is in the form of a detailed report based on the financial history of borrowing or lending and credit worthiness of the entity or the person obtained from the statements of its assets and liabilities with an aim to determine their ability to meet the debt obligations. It helps in assessment of the solvency of the particular entity. These ratings based on detailed analysis are published by various credit rating agencies like Standard & Poor's, Moody's Investors Service, and ICRA, to name a few.
    [Show full text]
  • The Economics of Credit Rating Agencies Full Text Available At
    Full text available at: http://dx.doi.org/10.1561/0500000048 The Economics of Credit Rating Agencies Full text available at: http://dx.doi.org/10.1561/0500000048 Other titles in Foundations and Trends R in Finance Initial Public Offerings: A Synthesis of the Literature and Directions for Future Research Michelle Lowry, Roni Michaely and Ekaterina Volkova ISBN: 978-1-68083-340-9 Privatization, State Capitalism, and State Ownership of Business in the 21st Century William L. Megginson ISBN: 978-1-68083-338-6 Executive Compensation Raghavendra Rau ISBN: 978-1-68083-296-9 Three Branches of Theories of Financial Crises Itay Goldstein and Assaf Razin ISBN: 978-1-68083-084-2 The Economics and Finance of Hedge Funds: A Review of the Academic Literature Vikas Agarwal, Kevin A. Mullally, and Narayan Y. Naik ISBN: 978-1-68083-156-6 Full text available at: http://dx.doi.org/10.1561/0500000048 The Economics of Credit Rating Agencies Francesco Sangiorgi Frankfurt School of Finance and Management, Germany [email protected] Chester Spatt Carnegie Mellon University, Massachusetts Institute of Technology, and NBER, USA [email protected] Boston — Delft Full text available at: http://dx.doi.org/10.1561/0500000048 Foundations and Trends R in Finance Published, sold and distributed by: now Publishers Inc. PO Box 1024 Hanover, MA 02339 United States Tel. +1-781-985-4510 www.nowpublishers.com [email protected] Outside North America: now Publishers Inc. PO Box 179 2600 AD Delft The Netherlands Tel. +31-6-51115274 The preferred citation for this publication is F. Sangiorgi and C.
    [Show full text]
  • Report on the Role and Function of Credit Rating Agencies in the Operation of the Securities Markets
    Report on the Role and Function of Credit Rating Agencies in the Operation of the Securities Markets As Required by Section 702(b) of the Sarbanes-Oxley Act of 2002 U.S. Securities and Exchange Commission January 2003 TABLE OF CONTENTS EXECUTIVE SUMMARY.................................................................................................... 1 I. INTRODUCTION ........................................................................................................ 3 II. BACKGROUND A. General ................................................................................................................. 5 B. Regulatory Use of Credit Ratings ....................................................................... 6 C. Recognition of NRSROs ...................................................................................... 8 1. NRSRO Recognition Criteria ........................................................................ 9 2. Recent Initiatives ..........................................................................................10 a. 1994 Concept Release .......................................................................... 10 b. 1997 Rule Proposal .............................................................................. 12 III. RECENT INQUIRIES INTO THE ROLE OF CREDIT RATING AGENCIES A. Senate Initiatives .................................................................................................. 16 1. Enron-Related Credit Rating Agency Hearing ............................................... 16 2. Governmental
    [Show full text]
  • Credit Rating Agencies, Structured Securities, and the Way out of the Abyss Lois R
    University of Maine School of Law University of Maine School of Law Digital Commons Faculty Publications Faculty Scholarship 2009 Credit Rating Agencies, Structured Securities, and the Way Out of the Abyss Lois R. Lupica [email protected] Follow this and additional works at: http://digitalcommons.mainelaw.maine.edu/faculty- publications Part of the Banking and Finance Law Commons Suggested Bluebook Citation Lois R. Lupica, Credit Rating Agencies, Structured Securities, and the Way Out of the Abyss, 28 Rev. Banking & Fin'l L. 639 (2009). Available at: http://digitalcommons.mainelaw.maine.edu/faculty-publications/4 This Article is brought to you for free and open access by the Faculty Scholarship at University of Maine School of Law Digital Commons. It has been accepted for inclusion in Faculty Publications by an authorized administrator of University of Maine School of Law Digital Commons. For more information, please contact [email protected]. 2009 CREDIT RATING AGENCIES & STRUCTURED SECURITIES 639 CREDIT RATING AGENCIES, STRUCTURED SECURITIES, AND THEWAY OUT OF THE ABYSS 1 LOIS R. LUPICA Bear in mind, however, that a rating is, in the end, an opznzon. The rating assignment is as much an art as it is a science. 2 L Credit Rating Agencies and Credit Ratings Since the early twentieth century, credit rating agencies ("CRAs") have provided opinions about the creditworthiness of securities issuers and the quality of their issuances.3 An issuer's creditworthiness is a function of the risk that its loan instrument will 1 Maine Law Foundation Professor of Law, University of Maine School of Law. B.S. Cornell University, 1981; J.D.
    [Show full text]
  • Custom Markets Methodology Overview
    Real Estate Solutions by Moody’s Analytics METHOLODOGY Custom Markets Methodology Overview AUGUST 10, 2020 Our Custom Markets model enables users to create a custom boundary around any combination of commercial and multifamily properties within the Moody’s Analytics REIS Contact Us (“MA REIS”) database. Within the module, customers can define their submarket and project Americas +1.201.901.1932 the future rent and vacancy rate based on each property (including new construction) within [email protected] their specified criteria. The custom boundary may span multiple sub-markets or markets and is not limited by any specific geography as long as there is an eligible property included. The custom boundaries are available for all sectors–Apartment, Office, Retail, Warehouse, Flex/R&D, Student Housing, Seniors Housing, Self Storage and Affordable Housing. MA REIS’ property-level data is foundational to the custom market model. With real estate and economic data extending back to 1980 and updated regularly, customers can now generate their own trends and forecasts. The model aggregates data from individual properties specified within the custom boundary and estimates their future rent and vacancy levels by taking into account property-level historical performance, MA REIS’ submarket trends and forecasts, and new construction data. The first step in the process is to “draw” the custom market, which will create the boundary surrounding all the properties for analysis. Specifically, the user will be able to observe characteristics for their custom market, such as the number of properties and their averages in property size, sale price, rents, vacancy rate, and the year built.
    [Show full text]
  • Rating Risk After the Subprime Mortgage Crisis: a User Fee Approach for Rating Agency Accountability
    GW Law Faculty Publications & Other Works Faculty Scholarship 2008 Rating Risk after the Subprime Mortgage Crisis: A User Fee Approach for Rating Agency Accountability Jeffrey Manns George Washington University Law School, [email protected] Follow this and additional works at: https://scholarship.law.gwu.edu/faculty_publications Part of the Law Commons Recommended Citation Jeffrey Manns, Rating Risk after the Subprime Mortgage Crisis: A User Fee Approach for Rating Agency Accountability, 87 N.C. L. Rev. 1011 (2009). This Article is brought to you for free and open access by the Faculty Scholarship at Scholarly Commons. It has been accepted for inclusion in GW Law Faculty Publications & Other Works by an authorized administrator of Scholarly Commons. For more information, please contact [email protected]. RATING RISK AFTER THE SUBPRIME MORTGAGE CRISIS: A USER FEE APPROACH FOR RATING AGENCY ACCOUNTABILITY* JEFFREY MANNS** This Article argues that an absence of accountability and interconnections of interest between rating agencies and their debt-issuer clients fostered a system of lax ratings that provided false assurances on the risks posed by subprime mortgage- backed securities and collateralized debt obligations. It lays out an innovative, yet practical pathway for reform by suggesting how debt purchasers—the primary beneficiaries of ratings—may bear both the burdens and benefits of rating agency accountability by financing ratings through a Securities and Exchange Commission (“SEC”)-administered user fee system in exchange for enforceable rights. The SEC user fee system would require rating agencies both to bid for the right to rate debt issues and to assume certification and mandatory reporting duties to creditors.
    [Show full text]
  • Reducing Reliance on Credit Rating Agency (CRA) Ratings Action Plan Singapore
    Reducing Reliance on Credit Rating Agency (CRA) Ratings Action Plan Singapore A Reducing References to CRA Ratings in Laws and Regulations 1 As part of the FSB thematic review on reducing reliance on CRA ratings, the Monetary Authority of Singapore (MAS)1 updated its stocktake of references to credit ratings in domestic laws and regulations in 2013. The stocktake did not reveal substantial hard- wiring of credit ratings in legislation beyond what is already prescribed in international standards. The identified references were assessed to be unlikely to encourage mechanistic reliance by financial institutions. Central Bank Operations 2 There is minimal reliance on CRA ratings in central bank operations carried out by MAS. Our liquidity facilities mainly accept Singapore government securities and MAS bills, while our risk management framework for reserves management considers a wide range of inputs for the assessment of credit risk, including market based indicators (e.g. CDS spreads) and qualitative factors (e.g. parental and government support). Regulation and Supervision 3 Where references to credit ratings are present, MAS has taken steps to ensure that the references to credit ratings are generally accompanied by caveats that ratings are not sufficient in and of themselves and should be accompanied by appropriate credit assessments. This aims to reduce overreliance on credit ratings by financial institutions. Banking and capital markets intermediaries. For regulatory capital computation, Singapore-incorporated banks, merchant banks and capital markets services licensees are required to perform an appropriate level of due diligence prior to the use of any recognised external credit assessment institution (ECAI). They are also expected to assess whether regulatory risk weights applied are appropriate for the risk of the exposure, and consider any higher degree of credit risk in their evaluation of overall capital adequacy.
    [Show full text]