Annals of regulatory emasculation, ratings agency edition

By Felix Salmon
October 20, 2009
Reuters is reporting today that Congress has "watered down" the bill regulating the ratings agencies. What's unclear is whether there's anything left at all:

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Reuters is reporting today that Congress has “watered down” the bill regulating the ratings agencies. What’s unclear is whether there’s anything left at all:

  • References to the ratings agencies and their ratings will still appear in federal law, which means that the agencies will still carry the federal stamp of approval which was so good at making investors altogether too comfortable with them.
  • The ratings agencies can’t be held liable for ratings based on other agencies’ ratings, in multi-tiered structured products. (I think that’s what the story is driving at, anyway, let me know if it means something else.)
  • The ratings agencies will still be able to rate companies where one of their own employees has just started work.

In terms of regulatory reform, it’s clear which way the wind is blowing, it’s clear that we’ve wasted our crisis, and it’s clear that even if we forced lawmakers to read all 600 pages of the new Sorkin book, they’ve lost any and all fire in the belly when it comes to trying to ensure we never have another one like it. Meanwhile, the ratings agencies are giggling, and the industry is so profitable that new entrants are trying to muscle in. Nice work if you can get it, I suppose.

10 comments

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As far as I’m concerned this crisis should have made the ratings agencies irrelevent from a buy side standpoint. Who cares what Congress does or does not do for regulatory purposes. If you aren’t doing your own due diligence at this point, you deserve whatever happens to you. In all likelihood you’ll be okay but….. thats what people who bought senior pieces in subprime securitizations thought too.

Posted by Securitized Products Guy | Report as abusive

The problem, SPG, is that certain regulated entities are allowed to buy investment-grade products, and certain regulated entities are allowed to buy AAA products, and that will continue to hold, with both terms defined by incompetent politically protected ratings agencies who enjoy legislative barriers to entry. If this were all about buy-side taking these as signals of credit quality to play with their own money, new entrants could well solve the problem. As long as regulators favor the oligopoly whose ratings have actually been refuted, they can still make trouble.

Securitized Products Guy makes a great point. It rather adds to the general feeling that only insiders receive big payouts. The rest of us are just suckers.

Posted by kthomas | Report as abusive

New entrants should certainly be welcome, and allowed, to compete on the merits of their produced work. If nothing is changed yet per legislation, competition is perhaps the only possible means to flatten the business a little and weed out useless practices by moodys, et al.

And if It’s profitable, to the extent that institutional investors may require something reflecting outside opinion…5-7 competitors is better than the current crop of 3 NRSRO (which might as well be 1.5).

Posted by Griff | Report as abusive

“The ratings agencies can’t be held liable for ratings based on other agencies’ ratings, in multi-tiered structured products. (I think that’s what the story is driving at, anyway, let me know if it means something else.) ”

It’s about a completely insane provision in the draft bill which made rating agencies jointly liable if any other rating agency was awarded damages in a lawsuit and didn’t have the resources to pay the damages in full. Why on earth Kanjorski thought this was a good idea is beyond me, as it would have completely removed any incentive for new entrants and further entrenched the big three’s stranglehold.

The alteration of the employee provision could be sensible as well (depending on the final wording). The original provision would have made it extremely difficult for large RAs to hire good staff, as it was so broadly worded they would have basically been shut out of the entire financial services industry for a year once they left (and many, many analysts use the RAs as a stepping stone to more lucrative work at banks or investment firms). There needs to be something to address the revolving door, but the Kanjorksi bill’s approach was way too harsh.

Posted by Ginger Yellow | Report as abusive

“And if It’s profitable, to the extent that institutional investors may require something reflecting outside opinion…5-7 competitors is better than the current crop of 3 NRSRO (which might as well be 1.5).”

Technically speaking, there are already 10 NRSROs.

Posted by Ginger Yellow | Report as abusive

Felix

I work at a Rating Agency and can tell that you have no idea what you are talking about.

Please see Ginger Yellow’s comment which is from someone who apparently knows what he/she is talking about.

Posted by BeatDownRater | Report as abusive

Oops. When I said “any other rating agency was awarded damages in a lawsuit”, obviously I meant “any other rating agency had damages awarded against it in a lawsuit”.

Posted by Ginger Yellow | Report as abusive

From an institutional buy-side perspective, there were always only 3. I’m certain technically there are 10 (including firms such as Egan-Jones or Creditsights). On the rarest of occasions I’d see DBRS rating a non-agency RMBS deal, but that’s it.

And same goes for ABS securitizations: Credit Cards, Auto deals, Student loan FFELP…all the same. An open competition isn’t really true if the gates are shut to the field.

Posted by Griff | Report as abusive

Sure. I’m just saying there’s room for more competition from within the existing NRSRO base, without requiring more NRSROs. That said, I’m all in favour of more NRSROs as well. The problem with Kanjorski’s bill is that nobody would ever want to be an NRSRO if it passed in its original form (especially if all the regulatory incentives to have NRSRO ratings your securities disappeared).

Oh, and to keep up the pedantry, CreditSights isn’t an NRSRO (thought it is very good). The 10 are the big three, DBRS, Egan Jones, RealPoint, LACE, JCR, R&I and AM Best. Of course, not all of them are authorised to rate structured products.

Posted by Ginger Yellow | Report as abusive