Moody's Chief: We May Be Conflicted
Moody's Chairman Ray McDaniel just uttered a phrase that may follow him around for a while while testifying before the House oversight committee on the role of the credit-rating agencies in the ongoing financial crisis.
"Maintaining our standards may conflict with maintaining market share," McDaniel said.
This gets at the heart of the probe of the credit-rating agencies: Competition among the Big Three -- Moody's, S&P and Fitch -- may have led them to lower their standards and give higher ratings to securities than they merited, just to win business and maintain market share.
McDaniel defended his statement, saying "raising these kinds of tough questions" with the Moody's board is "exactly the job I should be doing."
He is probably right -- it is the job of CEOs to assess risk.
But for lawmakers -- who are considering new regulations on the agencies -- this could be a very damaging statement. Many have considered rating agencies as the unimpeachable traffic cops who let the cars pile up in the intersection. McDaniel's statement may give regulation hawks the ammo they need.
Just before that, Rep. Tom Davis (R-Va.) uncovered a telling morsel.
He pointed out to McDaniel that his firm gave the same credit rating to one class of securities that defaulted at a rate of 2 percent and to the controversial collateralized debt obligation (CDO) securities that defaulted at an eye-popping rate of 24 percent.
Davis asked: How do you explain that?
McDaniel responded by saying that, yes, that's what Moody's research uncovered and that's exactly what Moody's research is supposed to do -- uncover discrepancies like that. Then he said Moody's couldn't figure out whether the 12-times-higher default rate was caused by the time during which the research was conducted or by type of assets themselves.
-- Frank Ahrens
In Hill testimony before Rep. Henry Waxman's (D-Calif.) Oversight committee, the heads of the Big Three credit-ratings agencies -- Moody's, Standard & Poor's and Fitch -- now have their turn at the plate to defend their high ratings of wobbly securities, which helped contribute to the ongoing financial crisis.
Fitch chief executive Stephen Joynt said: "While we were aware of and accounted for several risks, we did not foresee the magnitude or velocity in the decline of the U.S.housing market or . . . the shoddy [mortgage] origination practices and fraud in the 2005-2006 period."
Moody's chief executive Ray McDaniel said, "We know there has been a loss of confidence in our industry." Probably, the cow had something to do with this.
S&P President Deven Sharma, a master of understatement, acknowledged, "We recognize that many of the forecasts we used have not . . . borne out."
Thankfully, Sharma said, S&P has "reflected on the significance of this." Sharma said in internal investigation at S&P has shown the agency has not compromised itself to win business.
Now it's Waxman's turn. Expect him to light into that internal investigation.
-- Frank Ahrens
So let's recap the first panel that Rep. Henry Waxman's (D-Calif.) House oversight committee just wrapped in its first session on credit-ratings agencies, because this is a complex issue.
Investors depend on credit-ratings agencies, such as Moody's and Standard & Poor's, for accurate ratings on the credit-worthiness of everything from bonds to securities.
Let's be clear here: Waxman thinks the system let down investors by giving high ratings to bad securities because the credit-ratings agencies are driven by fees and profit, rather than commitment to truth.
The first panel was the Good Guys -- two former executives from Moody's and S&P who testified that their former employers were off-track and the current head of a tiny rival of the big agencies who dumped all over his competitors. The committee was happy to hear from these three men, as they provided ammunition for the afternoon session, which will start shortly.
The first panel said that the Big Three ratings agencies -- Moody's, S&P and Fitch -- were "pitched" by issuers of securities to rate them favorably and, at times, "drank the Kool-Aid," an expression that should require no definition even though Rep. Dennis Kucinich (D-Ohio) felt compelled to provide one from a dictionary of slang.
That second panel is scheduled to include Deven Sharma, president of Standard & Poor’s; Raymond W. McDaniel, chairman of Moody’s; and Stephen Joynt, president of Fitch.
It should provide some fireworks. Let's see if Waxman produces more documents.
-- Frank Ahrens
There has been a lot of cow talk during Rep. Henry Waxman's (D-Calif.) Oversight committee hearing underway right now on the Hill, which is taking a look at the role of the credit rating agencies in the current financial crisis.
The cud-chewing started with documents Waxman produced showing a text-message exchange between two executives at an unidentified credit-ratings agency who were being asked to favorably rate a security that was clearly unworthy.
The deal "could be structured by cows and we'd rate it," one texted the other.
Later, Sean Egan, managing director of Egan-Jones Ratings, a tiny competitor to Moody's, S&P and Fitch, said that ratings agencies are supposed to function like meat inspectors at a slaughterhouse looking for tainted meat -- in this case, ex-cows. If they find it, they're supposed to shut down the line, not let it keep churning out bad product.
Rep. Tom Davis (R-Va.) drolly observed that Egan had "milked" that analogy for what it was worth, eliciting groans (moos?) from the hearing room.
Then Egan, who appears to have bovines on the mind, referred to the "the tragedy of the commons," an influential economics paper that talks about parties destroying shared resources with individual actions. In this case, the tragedy was allowing one cow to stand on a village commons. Then another cow is allowed to join the first cow, then another and so on and eventually, your commons is filled with cows and you've lost your commons.
Egan said the "cows" in our story were bad deals that depended on positive credit ratings that were pushed through without regard for what their cow was doing to the commons.
-- Frank Ahrens
Posted by: Jesus | October 22, 2008 1:52 PM | Report abuse
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