Tuesday, June 17, 2008

The Monolines are Dead, the Rating Agencies Should Follow

"It finally happened. One of the major credit-rating firms stripped bond insurers MBIA Inc. and Ambac Financial Group Inc. of their vital triple-A ratings. Thursday [S&P] dropped the bond insurers' ratings to double-A and warned of further downgrades, just one day after Moody's Investors Service warned that it would likely knock down the ratings of the two companies. ... U.S. Treasury's a haven for funds seeking safety, barely saw any buying from worried investors, while the [DJIA] posted a gain of 213.97 points. ... The $2.6 trillion municipal-bond market has been in the process of valuing insured debt based on its underlying rating rather than that of the insurers, also known as monolines. ... Shares of both insurers actually rose after S&P cut them to double-A and warned of further downgrades", WSJ, 6 June 2008.

"Even as Moody's Investors Service was handing out triple-A ratings last year on a huge number of securities tied to mortgages, a senior Moody's analyst involved in rating them was warning about the housing market and asking if the ratings were too optimistic. In late 2006 and early 2007, the Moody's Corp. unit continued to rate new [CDOs] even as the analyst, Eric Kolchinsky, aired his concerns to his colleagues and his boss, people familar with the matter said. ... As the credit crunch drags on, regulators and lawmakers are pressing for answers on why ratings firms gave investment grade ratings to subprime bonds and [CDOs] and didn't respond more aggressively to signs of trouble. ... Kolchinsky, a managing director, was one of many people involved in the discussions. He specifically took his concerns to his boss at the time, Yuri Yoshizawa, a group managing director at Moody's, who said she would take Mr. Kolchinsky's point of view under consideration, according to people familar with the matter. Mr. Kolchinsky wasn't available to comment, according to a spokesman. ... 'We all wanted to downgrade as soon as possible, but we wanted to downgrade based on information we could rely upon,' says Ms. Yoshizawa. For example, she says, the firm studied the performance of each subprme securitization it had rated instead of making what she calls a 'blanket cut.' ... Moody's also might have been seen as doubting its own ratings on subprime mortgages if the CDO group expressed doubts on mortgage-backed CDOs. A Moody's spoksman says that 'vigorous discussion among analysts is encouraged and expected in ratings committees,' so debates about CDOs 'would not be unsual.' He added that 'commerical considerations do not influence our ratings,'" WSJ, 7 June 2008.

It's good S&P works in the public interest. It cut MBIA and Ambac's ratings after the muni bond market concluded their guarantees are worthless. I await public apologies to William Ackman, long-time MBIA nemesis. Right. See my 19 and 20 December 2007 and 17 January 2008 posts. I never "understood" the monolines business, see my 30 October, 8, 18, and 30 November and 8, 13 and 15 December 2007 posts. Apparently the S&P and Moody's geniuses never understood it either. Hey guys, for a mere $10 million I'll "splain" it to you. Waddayasay? I got it: the S&P and Moody's geniuses read Marilyn Cohen's Forbes article, my 16 May 2008 post. Who needs these guys? Shut 'em down.

Why? It's the: fee arrangements, NRSRO designation and public inability to sue the rating agencies (RA) for bad ratings that's why. The RA have the same problem as the CPA industry: lack of user accountability. Moody's says "commerical considerations do not influence" its ratings. What does then? Should we also believe "six impossible things before breakfast", citing the White Queen of Alice in Wonderland? I wonder if it's required reading at Moody's like the Little Red Book was in Mao's China? Yoshizawa wants "information [she] could rely upon". What qualifies? Marilyn Cohen's Forbes article, no doubt. Yoshizawa, the best case I can make for you after this statement and my 9 May 2008 post, is what I said before: you're an overpaid clerk. You said, "We're not underlying asset experts". What then? Kolchinsky, you have a unique opportunity to do well and good at the same time. Approach some venture capitalists for money and set up your own ratings firm. You don't need Moody's. Base your firm on these operating principles: never assert a first amendment defense against users, i.e., stand by your ratings; only accept an assignment if paid in advance, never participate in a "show down"; avoid conflicts of interest like rating mortgage securities and related CDOs. Go get 'em fella. Leave Moody's! Lastly, tell Chris Cox, the RA "cartel enforcer" you expect: an end to the NRSRO designation, or one for yourself. Alternatively, you will see him in court on the the wrong end of an anti-trust case.


Mike said...

Having traded distressed muni bonds, I have known the rating agencies have a horrible reaction lag time. As a trader this could be an advantage, but to average investor would be bad.

Independent Accountant said...

In my experience, the RAs are usually late. Hence, their ratings are of little value.