SEC finds problems in review of credit-raters

WASHINGTON: Some credit-rating agencies failed to disclose ratings method changes or were lax in following policies on timely downgrades of securities, according to a report issued by US securities regulators yesterday.
The Securities and Exchange Commission summarized the results of its annual examination of raters, a requirement under the 2010 Dodd-Frank Act which called for greater scrutiny of ratings agencies following the 2007-2009 financial crisis.
The largest ratings firms, Moody's Corp. and McGraw-Hill Cos Inc.'s Standard & Poor's, have been criticized for helping to exacerbate the crisis by giving rosy ratings to subprime mortgage securities that quickly turned toxic.
Yesterday’s SEC report does not name which firms had violations, but does distinguish between larger versus smaller credit-raters.
The SEC's exams were conducted on site at all nine raters registered with the SEC, which include smaller firms like Egan-Jones, as well as the big three - Moody's, Standard & Poor's and Fimalac SA's Fitch.
The SEC found that each of the larger raters and two smaller firms failed to follow their own methodologies and policies for determining ratings.
In one case, the SEC said, one of the big three changed its method for calculating a key financial ratio for asset-backed securities ratings and failed "for several months" to publicly disclose the change and its impact.
This firm, the SEC said, "appeared to have weak internal supervisory controls and lacked transparency over the process of rating these asset-backed securities."
The SEC added that market share and business considerations may have played a role in how this rater applied its methodology - a potential conflict of interest that many critics see as a problem in the industry.
The big three use what is called an "issuer-paid" business model, in which companies seeking ratings pay for them.
The big raters say this conflict can be managed but critics argue this model should be scrapped.
The Dodd-Frank law requires the SEC to study possibly replacing the model with a new method in which a public or private utility would assign structured product ratings to firms at random. So far, its findings have not been released.
S&P said on Thursday it has "enhanced its ratings process, governance and compliance function, including proactively making a number of the changes that are now being recommended by the SEC."
Spokesmen for Moody's and Fitch were not immediately available for comment.