S&P: "We’d Do a Deal Structured by Cows" And Other Rating Agency Dirty Linen

Most eyes were on the plunging equity markets today, and the rating agencies must be plenty glad for the air cover. The House Oversight Committee unearthed some real dirt today. From CNBC (hat tip reader Michael):

In a hearing today before the House Oversight Committee, the credit rating agencies are being portrayed as profit-hungry institutions that would give any deal their blessing for the right price.

Case in point: this instant message exchange between two unidentified Standard & Poor’s officials about a mortgage-backed security deal on 4/5/2007:

Official #1: Btw (by the way) that deal is ridiculous.

Official #2: I know right…model def (definitely) does not capture half the risk.

Official #1: We should not be rating it.

Official #2: We rate every deal. It could be structured by cows and we would rate it.

A former executive of Moody’s says conflicts of interest got in the way of rating agencies properly valuing mortgage backed securities.

Former Managing Director Jerome Fons, who worked at Moody’s until August of 2007, says Moody’s was focused on “maxmizing revenues,” leading it to make the firm more “issuer friendly.”

Bloomberg gives Moody’s top billing in this sorry affair:
Employees at Moody’s Investors Service told executives that issuing dubious creditworthy ratings to mortgage-backed securities made it appear they were incompetent or “sold our soul to the devil for revenue,” according to e-mails obtained by U.S. House investigators.

The e-mail was one of several documents made public today at a hearing of the House Oversight and Government Reform Committee in Washington, which is reviewing the role played by Moody’s, Standard & Poor’s and Fitch Ratings in the global credit freeze.

“The story of the credit rating agencies is a story of colossal failure,” Committee Chairman Henry Waxman, a California Democrat, said at the hearing. “The result is that our entire financial system is now at risk.”…

Former executives from S&P and Moody’s told lawmakers today that credit raters relied on outdated models in a “race to the bottom” to maximize profits.

Jerome Fons, a former managing director of credit policy at New York-based Moody’s, told lawmakers that originators of structured securities “typically chose the agency with the lowest standards, engendering a race to the bottom in terms of rating quality.”

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  1. fresnodan

    I think the official needs to apologize to cows. Cows are calm, peaceful animals that harm no one – that are not overtaken by irrationality. Cows never would have taken such risks or made such deals. I propose that cows run the rating agencies, and we would all be better off. As a matter of fact, I say we replace the congress, Fed, and treasury with cows. Does anybody seriously believe that our government can outperform cows???

  2. Anonymous

    Cannot help but send you this oldie.
    Many cheers and thanks from across the Atlantic,

    If Hedge Funds Kept Cows, Your Milk Would Go Sour: Mark Gilbert
    2007-02-08 19:04 (New York)

    Commentary by Mark Gilbert
    Feb. 9 (Bloomberg) — A famous series of jokes attempts to
    define political systems. In communism, for example, you have two
    cows, your commune seizes them and charges you for milk. In a
    democracy, you have two cows, the cows outvote you 2-1 to ban all
    meat and dairy products, and you go bankrupt and starve to death.
    Similar thinking can be applied to financial markets. Here,
    then, is the world of money recast in bovine terms.

    Leveraged Buyouts
    You have two cows. You come home from the fields one day to
    find Henry Kravis chatting to your spouse at the dining-room
    table. Two days later, you have no spouse, no farm, and no table.
    Two guys the size of sumo wrestlers have saddled up the cows and
    are riding them around the farmyard.

    Currency Market
    You have two cows. China has 1 trillion cows. Guess who sets
    the price of milk?

    Bond Market
    You have two cows. One is Brazilian, one is Australian. They
    yield 25 quarts of milk per day. That’s half as much as three
    years ago, when you traded your less-lactiferous German and U.S.
    cows for them. You are thinking of swapping for a pair of
    Namibian cows. They only have three legs but, hey, they produce
    26 quarts per day.

    You have two cows. You repackage five of them into a
    Collateralized Lactating Obligation, pay for a AAA credit rating,
    slice the CLO into 10 pieces and sell it to investors, skimming
    the cream from the milk for yourself. Three of the cows fall ill,
    and the credit rating plummets. You get to keep the cream.

    Hedge Funds
    You have two cows. A guy in an open-necked shirt drives up
    in his Bentley and offers to take care of them for you in return
    for a year’s supply of steak and 50 percent of their milk. They
    won’t be allowed to leave his compound for two years.
    Six months later, you have half a cow, producing sour milk.
    “You have to be willing to lose rump today to get rib-eye
    tomorrow,” the hedge-fund guy mumbles through a mouthful of
    sirloin and champagne.

    Assume two cows.

    Carbon-Emissions Trading
    You have two cows. They produce 1.2 tons of methane gas per
    day. After a hefty donation to the re-election campaign of your
    local representative, the government gives you enough emission
    permits for six cows. You sell three permits, buy another cow,
    and apply for a European Commission grant to build a methane-gas
    power station.

    Microsoft Corp.
    You have one old, tired cow. A recent heart transplant may
    have come too late to save the beast.

    Google Inc.
    You have no cows. You slap advertisements on everyone else’s
    cows. The milk floods in. You use the proceeds to reinvent the

    Apple Inc.
    Nobody wants your cows. You design the cutest little milk
    bottle. Now, everybody wants your cows.

    Goldman Sachs Group Inc.
    You have 26,467 cows. They are strapped into the milking
    machines 24/7. Some of them have more hay than they could ever
    hope to eat. Others aspire to one day having more hay than they
    could ever hope to eat. The cows with the most hay end up with
    big government jobs.

    Pension-Fund Management
    You have two cows. How boring is that? You pay a month’s
    supply of milk to a consultant, who advises you to sell one cow
    and buy two aardvarks instead. The aardvarks die. The consultant
    charges you four months of your (now reduced) milk supply and
    advises you to sell half of your remaining cow and buy a wombat.
    The wombat dies. The consultant charges eight months of milk for
    a copy of his new report, “Two-Cow Strategies for Alleviating
    the Impending Pensions Crisis.”

    Russian Energy
    You have two cows. Comrade, those cows are an environmental
    hazard. We suggest you hand one of them over to us.

    Credit-Default Swaps
    You have two cows. You buy insurance against them dying, and
    tuck the contracts into the middle of that tottering pile of
    documentation on your desk. One dark night, Henry Kravis sneaks
    off with your cows. By the time you track down the paperwork,
    your now worthless contracts have expired.

    Interest-Rate Swaps
    You have two cows. You pledge one of them to me as
    collateral in a swap for some of my pigs. I pledge the cow to my
    neighbor as collateral in a swap for some of his sheep. He
    pledges the cow to his cousin as collateral in a swap for some of
    his cousin’s goats. Better pray the livestock market doesn’t
    crash and we have to try and round up that cow.

    You have lots of stocks and bonds, but no cows. Are you
    crazy? Cows are the hot new market. Here, buy this exchange-
    traded cow futures contract. It can’t lose. It gained 40 percent
    in the past six months.

    You have two cows. You wear a cap you made out of tin foil
    so that the tiny black helicopters can’t read your thoughts. You
    spend your days blogging about how the government’s decision to
    abandon the cattle standard in 1933 was part of a global
    conspiracy by the world’s central banks to destroy the value of
    your herd.

    (Mark Gilbert is a Bloomberg News columnist. The opinions
    expressed are his own.)

  3. Anonymous

    nobody has a problem with them rating cows.

    just don’t give them the same rating as treasuries.

  4. Anonymous

    >Cows are calm, peaceful animals that harm no one – that are not overtaken by irrationality.

    And it is the main difference between cows and bulls

  5. Anonymous

    Congress had better be careful, railing at the ratings agencies and talking in threatening terms about jail.

    They might just go back to their offices and put a realistic credit rating on US Treasuries.

  6. miguel_swanstein

    This "race-to-the-bottom" meme is a falsehood. There are only 3 recognized rating agencies, really not even that in the private label MBS space as Fitch's ratings carried no weight with investors. This notion that Moody's and S&P were "forced" to ignore risks and allow for such blatant arbitrage of their models makes no sense in the context of such limited competition. Like so many other actors in this market, current management simply took the trust and goodwill that were built over generations and decided they would cash it out for themselves.

  7. realty-based lawyer

    Long ago, when I was at a rating agency, an investment banker came to us with a proposal to securitize cows. (Truth is stranger than fiction; or, you can’t make this stuff up.) Deal fell apart, IIRC, owing to legal difficulties in pledging and tracking interests in livestock.

    The cows unstructured the deal. (Sorry.)

  8. doc holiday

    Cash cow news:

    And, in a “disturbing” trend, Castro-Wright said Wal-Mart for the first time is seeing a paycheck-related spike in sales of baby formula, suggesting consumers are rushing to buy such necessities as soon as they have the cash.

    “Most consumers are worried about: ‘Will I have enough to put food on the table so my family can eat?” he told attendees of a luncheon sponsored by Town Hall Los Angeles.

    He said credit used as a form of payment at Wal-Mart is falling and that the decline is expected to reach into the double digits this year.

  9. Tahoe

    having listened to the testimony, my query is – if everyone truley did not understand these complex and exotic structured credit derivatives, they how could they possibly put a rating on something they admit to not understanding? Answer – sorry, logic need not apply.

  10. Anonymous

    And of course they can’t be sued for what they did; it was only “free speech” and under the federal law for these guys they get immunity.

    In the usual course of biz… for fraud. Wait til the emails about the negotiations behind getting a AAA rating come out- hire the rating agency to tellyou how to structure the topping off so the rating agency will give you the AAA.

  11. mxq

    I think PETA needs to consult the cows on how to come up with their OWN set of ethics and procedures when egaging in structured finance.

    To allow cows to continue these shenanigans would be udderly irresponsible.

  12. Anonymous

    This is an insult to cows.

    The ratings agencies are at the heart of this mess.

    I don't mean to be a hater.

    The Ratings Agencies were over their heads. During the subprime crisis their revenues increased by 100%. I do not think that they knew how to model these synthetic securities (I doubt that they had guys from MIT and Cal Tech) and they succumbed to greed (they received a lot of money for every CDO they rated).

    They settled with Cuomo but I hope that there is reform and oversight over Moodys, Fitch and S&P.

  13. gc

    Look, these managers were watching the upper management of defense and security contractors being cheerleaded by our political leaders as they were enriching themselves carrying out the business of slaughtering innocent Iraqis and killing and maiming our brave soldiers….so if that was being looked on as acceptable behavior what harm could there be in enriching themselves via placing bogus ratings on mortgage bonds.

    I hope none of this is actually surprising to anyone.

    We are and will all be paying a very high price for the recent criminal and immoral leadership of our nation for a long time to come.

  14. Anonymous

    When will people realize that “financial WMD” Buffet is also the biggest shareholder of the biggest rating agency ? If even he was looking the other way when rating agencies were collecting big fees for dummy rating, why expect the employees to be more honest ? Fishs always rots by the head first.

  15. Anonymous

    fresnodan,have you ever seen an old cow in an apple orchard in the fall? Or tried to lead her home after she ate 20 lbs of fermented apples?

  16. MLM

    I’m trying to remember who set up this brilliant system of having the mice guard the cheese. Apparently there’s been gambling going on. I am shocked.

  17. qafirarnaut

    Cant blame the rating agencies for the fact that regulators abdicated their responsibility in their favor. Heck! The SEC was so obtuse that it almost agreed to outlaw down-notching of previously unrated debt, just to do junior raters a favor.

    There can be no doubt both sponsors and purchasers of CDOs knew full well what they were issuing and buying. Blaming the rating agencies would be like blaming rifle and not the one who shot you.

  18. Ginger Yellow

    These aren’t new revelations, although the identity of the rating agencies and personnel is new. The SEC published the content of these communications in July, including the “rated by cows” comment.

  19. Anonymous

    I, for one welcome our now structured credit milking overlords.

    (or: In Soviet Russia, cow milks YOU!)

  20. Enrique


    “…The story of the credit rating agencies is a story of colossal failure,”

    “FAILURE” ?????

    There are many words in the dictionary….why failure

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