In the September 2008 issue of Directorship Magazine, I illustrated the "Governance Ecosystem" and showed all of the connections between market participants. By far, the most common feedback that I received about the piece was this odd connection between companies and ratings agencies -- the ratings agency gets paid by the company to rate the company. A clear, though some say unavoidable, conflict.
And, this is not just about equity ratings. Companies pay to get debt rated and even to have their governance structures rated.
The Washington Post reported that Mary Shapiro, Obama's pick to lead the SEC, said that she is looking for ways to revamp how securities are rated.
..she is exploring ways to revamp how securities are rated, calling the current system of companies paying directly for credit ratings a conflict of interest that must be addressed.
...
Speaking at her confirmation hearing, she said a better system might be for financial firms to contribute to a pot of money that would be used to pay for ratings. In the years leading up to the financial crisis, credit-rating firms failed to judge the risk of many complex securities that turned out to be ticking bombs on the balance sheets of banks.
It will be interesting to see some of the options that the SEC will consider. Stay tuned.
3 comments:
In the banking world, financial institutions are examined routinely and are assessed fees that "pay" for their examinations. Could this principle be applied to "pay" for the work of rating agencies?
This is one of the suggestions that I've heard from my contacts within the SEC. There are some differences between ratings and bank examinations.
One solution that I've been thinking about is the possibility of making "rating" a profession with professional standards and transparent methodologies. That way, individual raters would be held to a personal and professional standard (not just their employer's standard) to conduct themselves in an objective manner. If ratings are inaccurate or biased, the rater may lose their professional certification and/or license to operate.
This is a tough problem that will require a lot of thought.
Scott -
It was really the ratings for CMBS where the rating agencies had the most conflict and did the worst job.
Rating an operating company and operating a debt security are very different activities and very different beasts.
The rating agencies largely structured the CMBS tranches and produced the debt and risk models (that ultimately failed). The sponsor is also left with little or now skin in the game for a CMBS, where an operating company is in it for the long haul.
I acknowledge that it may be hard to draw the line between securities of an operating company and that of a CMBS.
Post a Comment