Rating agency update_2008

Rating Agency Update 2008

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Who are the ratings agencies?

Credit ratings agencies (CRAs) are firms that provide their opinions on a business entity’s creditworthiness and the financial obligations that entity issues. These ratings demarcate investment and non-investment grades. At present, nine CRAs are registered with the Securities & Exchange Commission (SEC), as “Nationally Recognized Statistical Rating Organizations (NRSROs):

A.M. Best Company, Inc. DBRS Ltd. Egan-Jones Rating Company (effective December 21, 2007) Fitch, Inc. Japan Credit Rating Agency, Ltd. LACE Financial Corp. (effective February 11, 2008) Moody’s Investors Service, Inc. Rating & Investment Information, Inc. Standard & Poor’s Ratings Services

What are NRSROs?

NRSROs are CRAs that have registered with the SEC. The SEC first introduced this designation in 1975, but for over 30 years had not established formal qualifications necessary to qualify. Nevertheless, a wide variety of federal and state laws and regulations incorporated roles for NRSROs. Congress finally responded to longstanding criticism of SEC’s informal approach by enacting the Credit Rating Agency Reform Act of 2006 on September 29, 2006. This revision to the Securities Laws required SEC to adopt regulations establishing formal requirements, which it did in June 2007. SEC then reaccredited all the NRSROs already approved under its formal approach, and has since approved two more newcomers.

Why are NRSROs under scrutiny?

NRSROs are under scrutiny due to their lack of oversight, a situation that creates great potential for ethical shortcomings that lead to credit crises and other financial dire straits. For example, the current subprime mortgage crisis is the result of CRA involvement in designing structured finance products they rate. Such products have, to date, failed the test of transparency. A Reuters article entitled “Rating agencies to face tougher industry code” mentions that policymakers find the sector “too lightly regulated and was slow to warn investors about risks from complex structured financial products tied to the U.S. home loans.

Timeline Nov. 2007: IOSCO set up a special task force to examine issues facing

securities regulators due to the condition of the global credit markets (e.g. the role of CRAs and their relation to the sub-prime crisis).

May 2008: IOSCO publishes final report of its Technical Committee’s Task Force on the

Subprime Crisis, which includes an analysis of underlying causes and implications for international capital markets.

Jun. 2008: France's chief financial regulator called on Monday for credit rating agencies to

create an industry association to improve relations with regulators and make the job of implementing a code of conduct easier. (Reuters)



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Where is this scrutiny coming from and why?

A major source of the pressure being applied to NRSROs is coming from the International Organization of Securities Commissions (IOSCO). IOSCO members include national market watchdogs from 100+ countries and agree to enforce guidelines they adopt. The organization developed a ratings industry code of conduct in 2003. Due to the credit crisis, this code was revised in mid-May 2008 as a first step towards more stringent regulation. The current Code of Conduct consists of 30 principles in 8 categories (A-H). A brief review of the code suggests the following principles are most closely related to ESG:

Category E: Principles for Issuers 14. There should be full, timely and accurate disclosure of financial results and other

information that is material to investors’ decisions. 15. Holders of securities in a company should be treated in a fair and equitable manner. 16. Accounting and auditing standards should be of a high and internationally acceptable quality. Category H: Principles for the Secondary Market 29. Regulation should aim to ensure the proper management of large exposures, default risk and market disruption.

What other organizations are involved?

• Financial Stability Forum – a group of central bankers and supervisors • Committee of European Securities Regulators

Recent Articles

• France calls for rating agency registry By Jennifer Hughes in Paris and Paul J Davies in London Published: May 28 2008 23:55 | Last updated: May 28 2008 23:55

• Watchdogs eye rating agencies By Jennifer Hughes and Gillian Tett in London Published: May 27 2008 23:20 | Last updated: May 27 2008 23:20

• Watchdog backs plans for global body to oversee rating agencies By Jennifer Hughes in London Published: May 28 2008 03:00 | Last updated: May 28 2008 03:00

Who are the other organizations “rating” companies?

• See attached



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Rating agency update_2008

Business

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