The U.S. government is accusing the debt rating agency Standard & Poor's of fraud for giving high ratings to risky mortgage bonds that helped bring about the financial crisis.
The government filed a civil complaint late Monday against S&P, the first enforcement action the government has taken against a major rating agency related to the financial crisis.
S&P, a unit of New York-based McGraw-Hill Cos., has denied wrongdoing. It says the government also failed to predict the subprime mortgage crisis.
But the government's lawsuit paints a picture of a company that misled investors knowingly, more concerned about making money than about accurate ratings. It says S&P delayed updating its ratings models, rushed through the ratings process and was fully aware that the subprime market was flailing even as it gave high marks to investments made of subprime mortgages. In 2007, one analyst forwarded a video of himself singing and dancing to a tune about the deterioration of the subprime market, with colleagues laughing.
Ratings agencies like S&P are a key part of the financial crisis narrative. When banks and other financial firms wanted to package mortgages into securities and sell them to investors, they would come to a ratings agency to get a rating for the security. Many securities made of risky subprime mortgages got high ratings, giving even the more conservative investors, like pension funds, the confidence to buy them. Those investors suffered huge losses when housing prices plunged and many borrowers defaulted on their mortgage payments.
This arrangement has a major conflict of interest, the government's lawsuit says. The firms that issued the securities could shop around for whichever ratings agency would give them the best rating. So the agencies could give high ratings just to get business.
The government's lawsuit says that "S&P's desire for increased revenue and market share ... led S&P to downplay and disregard the true extent of the credit risks" posed by the investments it was rating.
For example, S&P typically charged $150,000 for rating a subprime mortgage-backed security, and $750,000 for certain types of other securities. If S&P lost the business – for example, if the firm that planned to sell the security decided it could get a better rating from Fitch or Moody's – then an S&P analyst would have to submit a "lost deal" memo explaining why he or she lost the business.
That created sloppy ratings, the government said.
"Most rating committees took less than 15 minutes to complete," the government said in its lawsuit, describing the process where an S&P analyst would present a rating for review. "Numerous rating committees were conducted simultaneously in the same conference room."
According to the lawsuit, S&P was constantly trying to keep the financial firms – its clients – happy.
A 2007 PowerPoint presentation on its ratings model said that being "business friendly" was a central component, according to the government.
In a 2004 document, executives said they would poll investors as part of the process for choosing a rating.
"Are you implying that we might actually reject or stifle `superior analytics' for market considerations?" one executive wrote back. "...What is `market perspective'? Does this mean we are to review our proposed criteria changes with investors, issuers and investment bankers? ... (W)e NEVER poll them as to content or acceptability!"
The lawsuit says this executive's concerns were ignored.
A 2004 memo said that "concerns with the objectivity, integrity, or validity" of ratings criteria should be communicated in person rather than through email.
Also that year, an analyst complained that S&P had lost a deal because its criteria for a rating was stricter than Moody's. "We need to address this now in preparation for the future deals," the analyst wrote.
By 2006, S&P was well aware that the subprime mortgage market was collapsing, the government said, even though S&P didn't issue a mass downgrade of subprime-backed securities until 2007. One document describing the performance of the subprime loans backing some investments "was so bad that analysts initially thought the data contained typographical errors," the government lawsuit said.
In March 2007, one analyst who had conducted a risk ranking analysis of 2006 mortgage-backed securities wrote a version of "Burning Down the House": "Going - all the way down, with/Subprime mortgages."
A video showed him singing and dancing another verse in front of S&P colleagues, who laughed.
Another analyst wrote in a 2007 email, referring to ratings for mortgage-backed investments: "The fact is, there was a lot of internal pressure in S&P to downgrade lots of deals earlier on before this thing started blowing up. But the leadership was concerned of p(asterisk)ssing of too many clients and jumping the gun ahead of Fitch and Moody's."
The government filed its lawsuit in U.S. District Court in Los Angeles. The government charged S&P under a law aimed at making sure banks invest safely, and said that S&P's alleged fraud made it possible to sell the investments to banks. .
If S&P is eventually found to have committed civil violations, it could face fines and limits on how it does business. The government said in its filing that it's seeking financial penalties.
The action does not involve any criminal allegations. Critics have long complained about the government's failure to bring criminal charges against any major Wall Street players involved in the financial crisis.
Criminal charges would require a higher burden of proof and carry the threat of jail time.
McGraw-Hill shares rose 25 cents to $50.55 in Tuesday's premarket session, after plunging nearly 14 percent the day before on the expectation that a lawsuit would be filed.
Shares of Moody's Corp., the parent of Moody's Investors Service, another rating agency, rose 31 cents to $49.45 before Tuesday's opening bell, after closing down nearly 11 percent on Monday.
Standard and Poor's (S&P) the compassing powerful rating agency brought a smile to the faces of President Jonathan's economic team by lifting the country's credit rating from stable to positive. According to AFP news agency, "It also reaffirmed its B+/B long- and short-term issuer credit ratings for Nigeria, the continent's most populous nation." This is a good news for President Jonathan and his economic team principally Dr. Ngozi Okonjo-Iweala, Minister of Finance and Lamido Sanusi, Governor of the Central Bank of Nigeria (CBN), the country apex reserve bank.
This upgrade of the country’s economic outlook to positive will enable the country to continue with its on going reforms and to justify the removal of fuel subsidy. The country‘s administration can use it as a leverage to assure investors and capitalists that the country is moving in affirmative direction. The Nigerian economic team will be strengthened on its battle against the rising inflation and the softening of naira.
Inspite of the security and social problems confronting Nigeria, including the Boko Haram endless bombing and the looming removal of the fuel subsidy the premier credit rating agency S&P still has faith in the country's economic outlook and the on going reforms by President Jonathan 's administration. The agency reiterated that, "The Nigerian government under President Goodluck Jonathan has been undertaking several important reform initiatives and is tightening its fiscal and monetary stance," and continued to emphasized that the "The authorities have restructured and strengthened the banking sector, and we expect economic growth to remain strong. We are revising our outlook to positive from stable ..."
L-R Madueke, Okonjo-Iweala, Sanusi
AFP agency further reported that, "Economists and government officials view the move as essential to allow for more spending on the country's woefully inadequate infrastructure and to ease pressure on its foreign reserves.Nigerians however view the subsidy, designed in part to hold petrol prices at 65 naira per litre ($0.40, 0.30 euros), as their only benefit from the nation's oil wealth.Nigeria's central bank head Lamido Sanusi has also led sweeping bank reforms seen as having pulled the sector out of crisis. Finance Minister Ngozi Okonjo-Iweala is a highly respected former World Bank managing director. However, the country has also seen worsening violence blamed on Islamists and warnings from the Christian population that they will defend themselves against further attacks. Standard & Poor's noted concerns over the situation.Nigeria relies tremendously on the oil industry for revenue, and the ratings agency pointed out that crude exports accounted for 72 percent of current account receipts in 2010."
This endorsement from S&P is goodwill gesture to the country’s administration that has many challenges coming its way. Most especially the Boko Haram's nightmare and its determination to shake and destroy the stability of the emerging economic power of this West African nation. The rampant, senseless and ceaseless bombings from this radical organization pose a great threat to the security and wellbeing of the nation. And without relative peace and stability; ample and comfortable environment the flight of capital and investment becomes more imminent. Therefore the upgrade is an approval by S&P on the monetary and fiscal policies employed by the administration to grow and stabilize Nigeria's economy.
The emergence of S&P as a political watchdog may weaken trust and confidence in the global market
There was a manifestation as Standard & Poor's downgrade US credit rating to ‘AA+’ from ‘AAA' . The revelation is that the mandate of Standard & Poor's is beyond financial observation and evaluation but also political. Among the numerous reasons given by S&P on the downgrading of the world largest economy is its cumbersome political process and slow policy formulation in Washington. Standard & Poor's stated , "More broadly, the downgrade reflects our view that the effectiveness, stability, and predictability of American policy making and political institutions have weakened at a time of ongoing fiscal and economic challenges to a degree more than we envisioned when we assigned a negative outlook to the rating on April 18, 2011."
This latest development maybe beyond the agency's mandate which is to verify whether an entity be it a sovereign nation or corporation can meet its financial obligations without default. In this case to verify whether United States can redeem and pay interest on its treasury securities without default. There are no signs that United States will default, therefore the downgrade may not be logical and probably without merit.
S&P in a statement emphasized that, “The downgrade reflects our opinion that the fiscal consolidation plan that Congress and the Administration recently agreed to falls short of what, in our view, would be necessary to stabilize the government’s medium-term debt dynamics.” Therefore this has turned a financial agency into a political watchdog. As S&P journey into this route, the prime ramification may connotes the waning of its grip on the global market. Maybe the next time around China political structure may come into question by S&P. That’s why it is necessary for S&P not to go beyond its original mandate of evaluating the ability of a nation to pay its bill.
The perceived notion of most people is that S & P is solely a credit rating institution that relies on financial and economic evaluations to make its decisions and overviews. But with the decision it made with the downgrade shows that it has expanded its responsibility to become a political watchdog. The agency has every right to do whatever their heart desires but it is unfair to change the rules of the game at the heat of the game. What S& P did to United States is unfair. There is no logic in the downgrade of the global largest economy from its AAA to AA+. United States is the anchor of global economy; it is the stabilizing fulcrum in global market economy.
According to Wikipedia, "Standard & Poor's (S&P) is a United States–based financial-services company. It is a division of the McGraw-Hill Companies that publishes financial research and analysis on stocks and bonds. It is well known for its stock-market indices, the US-based S&P 500, the Australian S&P/ASX 200, the Canadian S&P/TSX, the Italian S&P/MIB and India's S&P CNX Nifty. The company is one of the Big Three credit-rating agencies, which also includes Moody's Investor Service and Fitch Ratings. As a credit-rating agency (CRA), the company issues credit ratings for the debt of public and private corporations. It is one of several CRAs that have been designated a nationally recognized statistical rating organization by the U.S. Securities and Exchange Commission. It issues both short-term and long-term credit ratings."
The history of and about Standard and Poor's never mentioned its political quest, "With offices in 23 countries and a history that dates back more than 150 years, Standard & Poor’s is known to investors worldwide as a leader of financial- market intelligence. Today Standard & Poor’s strives to provide investors who want to make better informed investment decisions with market intelligence in the form of credit ratings, indices, investment research and risk evaluations and solutions. Most notably, we are known as an independent provider of credit ratings. In 2009, we published more than 870,000 new and revised credits ratings. Currently, we rate more than US$32 trillion in outstanding debt. Standard & Poor’s is also widely known for maintaining one of the most widely followed indices of large-cap American stocks: the S&P 500. In 2007, the S&P 500 celebrated its 50th anniversary."
It further explained its role with strong financial bearings, "Additionally, the S&P Global 1200 covers approximately 30 markets constituting approximately 70% of global market capitalization. Approximately $1.1 trillion in investment assets is directly tied to S&P indexes, and more than $3.5 trillion is benchmarked to the S&P 500 – more than any other index in the world. Moreover, Standard & Poor’s independent equity research business is among the world’s leading providers of independent investment information, offering fundamental coverage on approximately 2,000 stocks. We are also a leader in mutual fund information and analysis."
Standard and Poor's should set up a political department that have the best minds and analysts that can do it right, if it decides to add politics as one of the factors to make credit rating decisions; at least make an effort to do it right. US raucous policy making according to S&P contributed to the downgrade and this have exposed the cluelessness of the agency about the workings of Washington. The agency may have proven that it does not understand United States political system. Standard & Poor's should once more be reminded that United States is a democratic system with a functional congress and presidency. In the democratic system of United States the president do not make political decision and impose it to the congress and neither vice versa. In takes time to make decision, sometimes with gridlocks because it was built into the system.
Therefore to downgrade US to AA+ is showing lacking of understanding of United States especially the political structure and governance methodology. The S & P may have weakened its global acceptance by its move it made on US credit rating. The world economy is gradually coming out from recession and everybody is feeling good about American leadership. The whole world respects American leadership including China and European Union. The Chinese products were open to American market and United States played a constructive role in bailing out Greece from its financial mess.
No one is saying that United States will not adjust its spending, deficit and debt. But United States has never defaulted in its financial obligation since World War II. For since 1917 United States has been a AAA nation. There is no sign that US will default on paying its interest on its debt and there is no reason to think otherwise.
Standard & Poor's inability to foresee subprime loan debacle at Wall Street is not something to write home about. S&P may not be thorough and efficient as it led many to believe, afterall many of the mortgage security firms that were involved in the Wall street's subprime loan debacle were given high credit ratings. Therefore S&P may have made a mistake too in downgrading US credit rating to AA+. The Obama's administration shows a great leadership in finally bringing the congress to pass a bill to avert a default. But for the S&P to turn around and downgrade it is not a prudent decision. That is not the right way to get the attention of the policy makers in Washington. The S&P may finally end up with a different result, it has brought instability to stock market and Dow has plunged to more than 635 points in last Monday’s market and gyration continues. But thanks to the rest of sensible marketers, traders and nations the treasury market was even experiencing a surge. By this act the world is giving a thumbs up by buying US securities in spite of S&P judgement.